<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1996
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from ________ to ________
Commission File Number: 000-23774
ASCEND COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-3092033
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
ONE ASCEND PLAZA
1701 HARBOR BAY PARKWAY
ALAMEDA, CALIFORNIA 94502
(510) 769-6001
(Address of principal executive offices, zip code and telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
- --
The number of shares outstanding of the Registrant's Common Stock, $0.001 par
value, was 117,185,708 as of September 30, 1996.
This report, including exhibits, consists of 22 pages. The Index To Exhibits is
found on page 20.
1
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ASCEND COMMUNICATIONS, INC.
FORM 10-Q
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PART I: FINANCIAL INFORMATION Page No.
--------
<S> <C>
Item 1: Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets as of
September 30, 1996 and December 31, 1995 3
Condensed Consolidated Statements of Income for
the Quarters and Nine Months Ended September 30, 1996 and 1995 4
Condensed Consolidated Statements of Cash Flows for
the Nine Months Ended September 30, 1996 and 1995 5
Notes to Condensed Consolidated Financial Statements 6
Item 2: Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
</TABLE>
<TABLE>
<CAPTION>
PART II: OTHER INFORMATION
<S> <C>
Item 1: Legal Proceedings 16
Item 2: Changes in Securities 16
Item 3: Defaults upon Senior Securities 16
Item 4: Submissions of Matters to a Vote of Security Holders 16
Item 5: Other Information 16
Item 6: Exhibits and Reports on Form 8-K 17
A: Exhibits 17
B: Reports on Form 8-K 18
Signatures 19
Index to Exhibits 20
</TABLE>
2
<PAGE>
PART I: FINANCIAL INFORMATION
ITEM I: FINANCIAL STATEMENTS
ASCEND COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
UNAUDITED
(In Thousands)
<TABLE>
<CAPTION>
Sept. 30, Dec. 31,
1996 1995
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents..................... $167,376 $147,050
Short-term investments........................ 132,227 90,843
Accounts receivable, net...................... 89,529 31,238
Inventories................................... 42,382 26,868
Deferred income taxes......................... 12,456 9,370
Other current assets.......................... 10,984 2,408
-------- --------
Total current assets.................. 454,954 307,777
Investments........................................... 32,718 51,515
Furniture, fixtures and equipment, net................ 26,017 10,108
Other assets.......................................... 3,710 614
-------- --------
Total assets.................................. $517,399 $370,014
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.............................. $ 21,080 $ 13,571
Accrued liabilities........................... 21,729 20,861
Accrued compensation and related liabilities.. 11,550 6,419
Notes payable................................. -- 4,176
-------- --------
Total current liabilities............. 54,359 45,027
Commitments
Stockholders' equity:
Common Stock.................................. 117 113
Additional paid-in capital.................... 368,956 301,562
Retained earnings............................. 93,967 23,312
-------- --------
Total stockholders' equity............ 463,040 324,987
-------- --------
Total liabilities and stockholders'
equity.............................. $517,399 $370,014
======== ========
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
3
<PAGE>
ASCEND COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
UNAUDITED
(In Thousands, Except Per Share Data)
<TABLE>
<CAPTION>
Quarter Ended September 30, Nine Months Ended Sept. 30,
--------------------------- ---------------------------
1996 1995 1996 1995
-------- --------- --------- ---------
<S> <C> <C> <C> <C>
Net sales............................... $ 154,629 $ 40,909 $ 371,806 $ 91,216
Cost of sales........................... 53,964 14,363 131,239 32,080
--------- --------- --------- ---------
Gross profit.......................... 100,665 26,546 240,567 59,136
Operating expenses:
Research and development.............. 10,587 2,980 27,639 8,080
Sales and marketing................... 30,534 9,731 75,095 21,808
General and administrative............ 4,319 2,502 12,211 6,418
Purchased research and development.... - 3,032 - 3,032
Costs of merger....................... 13,900 - 13,900 -
--------- --------- --------- ---------
Total operating expenses............ 59,340 18,245 128,845 39,338
--------- --------- --------- ---------
Operating income........................ 41,325 8,301 111,722 19,798
Interest income, net.................... 2,995 2,087 8,610 2,919
--------- --------- --------- ---------
Income before income taxes.............. 44,320 10,388 120,332 22,717
Provision for income taxes.............. 19,426 3,952 48,314 8,639
--------- --------- --------- ---------
Net income.............................. $ 24,894 $ 6,436 $ 72,018 $ 14,078
========= ========= ========= =========
Net income per share.................... $ 0.20 $ 0.06 $ 0.57 $ 0.13
========= ========= ========= =========
Number of shares used in per share
calculation........................... 127,540 115,003 127,075 107,724
========= ========= ======== =========
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
4
<PAGE>
ASCEND COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED
(In Thousands)
<TABLE>
<CAPTION>
Nine Months Ended Sept. 30,
---------------------------
1996 1995
-------- ---------
<S> <C> <C>
Operating activities:
Net income.............................................. $ 72,018 $ 14,078
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation......................................... 6,105 1,525
Changes in operating assets and liabilities:
Accounts receivable................................ (58,291) (16,356)
Inventories........................................ (15,514) (8,869)
Other current assets............................... (11,662) (117)
Other assets....................................... (3,096) (158)
Accounts payable and accrued liabilities........... 8,377 6,965
Accrued compensation and related liabilities....... 5,131 2,419
--------- ---------
Net cash provided by (used in) operating
activities..................................... 3,068 (513)
--------- ---------
Investing activities:
Purchases of investments............................. (142,931) (111,219)
Maturities and sales of investments.................. 120,344 29,815
Purchases of furniture, fixtures and equipment....... (22,014) (6,825)
--------- ---------
Net cash (used in) investing activities............ (44,601) (88,229)
--------- ---------
Financing activities:
Proceeds from issuance of common stock, net.......... 24,078 217,644
Tax benefit related to exercise of stock options..... 41,957 -
Net proceeds from issuance of (repayment of) notes
payable............................................. (4,176) 3,722
--------- ---------
Net cash provided by financing activities.......... 61,859 221,366
--------- ---------
Net increase in cash and cash equivalents............... 20,326 132,624
Cash and cash equivalents, beginning of period.......... 147,050 10,673
--------- ---------
Cash and cash equivalents, end of period................ $ 167,376 $ 143,297
========= =========
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
5
<PAGE>
ASCEND COMMUNICATIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
UNAUDITED
GENERAL
Ascend Communications, Inc. ("Ascend" or the "Company") develops, manufactures,
markets, sells and supports a broad range of high-speed digital networking
products that enable its customers to build: (i) Internet access systems
consisting of point-of-presence ("POP") termination equipment for Internet
service providers ("ISPs") and remote site Internet access equipment for
Internet subscribers; (ii) extensions and enhancements to corporate backbone
networks that facilitate access to these networks by remote offices,
telecommuters and mobile computer users; and (iii) videoconferencing multimedia
access facilities and (iv) high-speed Internet Protocol (IP) network switches.
These products are termed bandwidth on demand systems because they establish
high-speed switched digital connections whose bandwidth, duration and
destination can be adjusted to suit user application needs. These products
support existing digital and analog networks.
In August 1996, the Company acquired NetStar, Inc. ("NetStar") of Eden Prairie,
Minnesota, a developer of high performance, high speed Internet Protocol (IP)
network switches. The transaction was accounted for as a pooling of interests.
The consolidated financial statements of Ascend for prior periods have been
restated to include the financial position and results of operations of NetStar.
The interim condensed consolidated financial statements of Ascend
Communications, Inc. have been prepared by the Company without audit, pursuant
to the rules and regulations of the Securities and Exchange Commission. Certain
information and footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting principles have been
condensed or omitted pursuant to such rules and regulations. The information
included in this report should be read in conjunction with the Company's and
NetStar's audited financial statements and notes thereto included in each
Company's 1995 Annual Report to Stockholders. The condensed balance sheet data
as of December 31, 1995 included herein has been derived from such audited
financial statements.
In the opinion of management, the accompanying unaudited interim condensed
consolidated financial statements reflect all adjustments (consisting only of
normal recurring adjustments) necessary to summarize fairly the financial
position, results of operations and cash flows for such periods. The results
for the interim periods ended September 30, 1996 are not necessarily indicative
of the results that may be expected for any future periods.
CONCENTRATION OF CREDIT RISK
The Company sells and distributes a substantial percentage of its products to
ISPs, value-added resellers and distributors, and local and long-distance
telecommunications carriers, throughout North America, Europe and Asia and the
Pacific Basin. Accounts receivable are principally from these customers. The
Company conducts ongoing credit evaluations of its customers and maintains
reserves for potential credit losses.
6
<PAGE>
ASCEND COMMUNICATIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
INVENTORIES
Inventories are stated at the lower of cost (determined by the first-in, first-
out method) or market. Inventories consist of (in thousands):
<TABLE>
<CAPTION>
Sept. 30, Dec. 31,
1996 1995
--------- --------
<S> <C> <C>
Finished goods............... $ 6,879 $ 10,687
Products in process.......... 8,736 8,001
Raw materials and supplies... 26,767 8,180
-------- --------
$ 42,382 $ 26,868
======== ========
</TABLE>
COMMITMENTS
In March 1996, the Company entered into an agreement to lease 13 acres of land
located in Alameda, California. Certain buildings to be used for the Company's
headquarters are being constructed on the land. The lessor of the land and
buildings has committed to fund up to a maximum of $25.0 million (subject to
reductions based on certain conditions in the lease) for construction of the
buildings, with the portion of the committed amount to be actually utilized to
be determined by the Company. The rent obligation for the lease will commence
upon the earlier of the Company's acceptance of the buildings or eighteen months
from the lease inception date. The lease has an initial term of five years and
an option to renew for two years, subject to the lessor's consent. At any time
during the term of the lease, the Company may purchase the land and buildings.
If the Company does not exercise its purchase option at the end of the lease,
the Company will guarantee a residual value for the land and buildings as
determined at the lease inception date of the agreement (up to a maximum of
approximately $22.4 million).
INCOME TAXES
As of September 30, 1996, the Company's income taxes currently payable for both
federal and state purposes have been reduced by a tax benefit of approximately
$42.0 million from stock option transactions which was credited directly to
stockholders' equity. The Company made cash payments of $26.9 million and $5.3
million for income taxes during the nine months ended September 30, 1996 and
1995, respectively.
7
<PAGE>
ASCEND COMMUNICATIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
STOCKHOLDERS' EQUITY
In August 1995, the Company completed a public offering of its common stock
consisting of 12,650,000 shares at $17.625 per share, with proceeds, net of
issuance costs, of approximately $211,743,000 (issuance costs were approximately
$11,213,000). On May 29, 1996, the Company's stockholders approved an amendment
to the Company's Certificate of Incorporation that increased the authorized
common stock from 200,000,000 to 400,000,000 shares.
In May, October and December of 1995 the Company's Board of Directors approved
two-for-one stock splits, payable in the form of stock dividends to all
stockholders of record. All share and per share data have been retroactively
adjusted to reflect these stock splits.
EARNINGS PER SHARE
Earnings per share for the quarters and nine months ended September 30, 1996 and
1995 were computed based on the weighted average number of common and common
equivalent shares outstanding. The computations of the weighted average number
of shares outstanding for the quarters ended September 30, 1996 and 1995 are as
follows (in thousands, except per share data):
<TABLE>
<CAPTION>
Quarter Ended Sept.30, Nine Months Ended Sept. 30,
---------------------- ---------------------------
1996 1995 1996 1995
--------- --------- --------- ---------
<S> <C> <C> <C> <C>
Common Stock.............................. 117,186 107,250 115,986 101,312
Common Stock Equivalents (Stock Options).. 10,354 7,753 11,089 6,412
--------- --------- --------- ---------
Total..................................... 127,540 115,003 127,075 107,724
========= ========= ========= =========
Net Income................................ $ 24,894 $ 6,436 $ 72,018 $ 14,078
========= ========= ========= =========
Net Income Per Share...................... $ 0.20 $ 0.06 $ 0.57 $ 0.13
========= ========= ========= =========
</TABLE>
8
<PAGE>
ASCEND COMMUNICATIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
BUSINESS COMBINATIONS
In March 1996, the Company acquired Morning Star Technologies, Inc. ("Morning
Star") in a transaction that was accounted for as a pooling of interests. The
Company issued approximately 440,000 shares of its common stock to Morning Star
shareholders in exchange for all outstanding Morning Star shares and options.
The Company's historical consolidated financial statements prior to the
combination have not been restated to reflect the financial results of Morning
Star as these results were not material.
In August 1996, the Company acquired NetStar, Inc. ("NetStar") of Eden Prairie,
Minnesota in a transaction that was accounted for as a pooling of interests.
The Company issued approximately 3,869,000 shares of its common stock to NetStar
shareholders in exchange for all outstanding NetStar shares. Outstanding options
and warrants to purchase NetStar common stock were converted to options and
warrants to purchase approximately 535,000 and 203,000, respectively, shares of
Ascend common stock. The historical consolidated financial statements of Ascend
for prior periods have been restated to include the financial position and
results of operations of NetStar. The following table shows the historical
results of the Company and NetStar for the periods prior to the consummation of
the merger of the two entities:
<TABLE>
<CAPTION>
Nine Months
Ended Sept. 30, Year Ended Dec. 31,
---------------- ------------------------
1996 1995 1994
---------------- ---------- ----------
<S> <C> <C> <C>
REVENUE: Ascend........................ $ 368,392 $ 149,590 $ 39,343
NetStar....................... 3,414 3,014 312
--------- --------- ---------
Total........................ $ 371,806 $ 152,604 $ 39,655
========= ========= =========
NET INCOME: Ascend........................ $ 88,347 $ 30,573 $ 8,699
NetStar....................... (8,268) (4,898) (3,785)
--------- --------- ---------
Total........................ 80,079 25,675 4,914
--------- --------- ---------
Costs of merger, net of tax... (11,202) -- --
Adjustment to reflect elimination
of income tax valuation allowance.. 3,141 1,860 2,204
--------- --------- ---------
Net income, as restated............ $ 72,018 $ 27,535 $ 7,118
========= ========= =========
</TABLE>
In August 1996, the Company acquired Subspace Communications, Inc. ("Subspace")
in a transaction that was accounted for as a pooling of interests. The Company
issued approximately 90,000 shares of its common stock to Subspace shareholders
in exchange for all outstanding Subspace shares. The Company's historical
consolidated financial statements prior to the combination have not been
restated to reflect the financial results of Subspace as these results were not
material.
9
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
ASCEND COMMUNICATIONS, INC.
THIS REPORT CONTAINS FORWARD-LOOKING STATEMENTS WHICH REFLECT THE CURRENT VIEWS
OF THE COMPANY WITH RESPECT TO FUTURE EVENTS THAT WILL HAVE AN EFFECT ON ITS
FUTURE FINANCIAL PERFORMANCE. THESE STATEMENTS INCLUDE THE WORDS "EXPECTS,"
"BELIEVES" AND SIMILAR EXPRESSIONS. THESE FORWARD-LOOKING STATEMENTS ARE
SUBJECT TO VARIOUS RISKS AND UNCERTAINTIES, INCLUDING THOSE REFERRED TO UNDER
"FACTORS THAT MAY AFFECT FUTURE RESULTS" AND ELSEWHERE HEREIN, THAT COULD CAUSE
ACTUAL FUTURE RESULTS TO DIFFER MATERIALLY FROM HISTORICAL RESULTS OR THOSE
CURRENTLY ANTICIPATED. READERS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON
THESE FORWARD-LOOKING STATEMENTS.
The information set forth below should be read in conjunction with the unaudited
interim condensed consolidated financial statements and notes thereto included
in Part 1 - Item 1 of this Quarterly Report and the audited financial statements
and notes thereto and Management's Discussion and Analysis of Financial
Condition and Results of Operations for the year ended December 31, 1995
contained in the Company's 1995 Annual Report to Stockholders and for the year
ended September 30, 1995 contained in NetStar's 1995 Annual Report to
Stockholders.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentage of net
sales represented by certain line items from the Company's Condensed
Consolidated Statements of Income for the quarters and nine months ended
September 30, 1996 and 1995, respectively:
<TABLE>
<CAPTION>
Quarter Ended Sept. 30, Nine Months Ended Sept. 30,
----------------------- ---------------------------
1996 1995 1996 1995
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Net sales............................................. 100% 100% 100% 100%
Cost of sales......................................... 35 35 35 35
--- --- --- ---
Gross margin........................................ 65 65 65 65
Operating expenses:
Research and development............................ 7 7 8 9
Sales and marketing................................. 19 24 20 24
General and administrative.......................... 3 6 3 7
Purchased R&D....................................... - 8 - 3
Costs of merger..................................... 9 - 4 -
--- --- --- ---
Total operating expenses.......................... 38 45 35 43
--- --- --- ---
Operating income ..................................... 27 20 30 22
Interest, net......................................... 2 5 2 3
--- --- --- ---
Income before income taxes............................ 29 25 32 25
Provision for income taxes............................ 13 10 13 10
--- --- --- ---
Net income............................................ 16% 15% 19% 15%
=== === === ===
</TABLE>
10
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
ASCEND COMMUNICATIONS, INC.
NET SALES
Net sales for the third quarter ended September 30, 1996 were $154.6 million, an
increase of 278% over net sales of $40.9 million for the third quarter of 1995.
Net sales for the nine months ended September 30, 1996 were $371.8 million, an
increase of 308% over net sales of $91.2 million for the nine months ended
September 30, 1995. These increases in net sales were primarily due to an
increase in unit shipments of MAX products and increased international sales.
The increase in unit shipments of MAX products was primarily attributable to the
growth in business from Internet service providers and increased demand for
corporate remote networking applications. For the third quarter ended September
30, 1996, MAX products accounted for approximately 83% of net sales as compared
to approximately 66% of net sales in the third quarter of 1995. For the nine
months ended September 30, 1996, MAX products accounted for approximately 81% of
net sales as compared to approximately 58% of net sales in the first nine months
of 1995. Net sales of the Pipeline family of products were approximately 12% of
net sales in the third quarter of 1996 as compared to approximately 21% of net
sales in the third quarter of 1995, but increased in absolute dollars when
compared to the same period. Net sales of the Pipeline family of products were
approximately 13% of net sales for the nine months ended September 30, 1996 as
compared to approximately 21% of net sales for the nine months ended September
30, 1995, but increased in absolute dollars when compared to the same period.
Net sales of the Company's Multiband products accounted for approximately 4% of
net sales for the third quarter of 1996 as compared to approximately 12% for the
third quarter of 1995, but increased in absolute dollars when compared to the
same period. Net sales of the Company's Multiband products accounted
for approximately 5% of net sales for the nine months ended September 30, 1996
as compared to approximately 19% for the nine months ended September 30, 1995,
but increased in absolute dollars when compared to the same period. The decrease
in Multiband and Pipeline net sales as a percentage of total net sales was
primarily due to the increase in net sales of the Company's MAX products.
For the quarter ended September 30, 1996, UUNET, an Internet service provider,
accounted for approximately 11% of net sales. In addition, UUNET accounted for
approximately 10% and 15% of net sales for each of the nine month periods ended
September 30, 1996 and 1995, respectively. International sales accounted for
approximately 48% of net sales for the third quarter of 1996 compared to
approximately 26% of net sales for the third quarter of 1995. International
sales accounted for approximately 45% of net sales for the nine months ended
September 30, 1996 compared to approximately 24% of net sales for the nine
months ended September 30, 1995. This increase was principally due to increased
sales of the Company's products in Asia and the Pacific Basin.
GROSS MARGIN
Gross margin was 65% for the third quarter and nine months ended September 30,
1996 and 1995. In the future, the Company's gross margins may be affected by
several factors, including the mix of products sold, the price of products sold,
the introduction of new products with lower gross margins, the distribution
channels used, price competition, increases in material costs and changes in
other components of cost of sales.
11
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
ASCEND COMMUNICATIONS, INC.
RESEARCH AND DEVELOPMENT
Research and development expenses increased 255% to $10.6 million in the third
quarter of 1996 from $3.0 million in the third quarter of 1995. Research and
development expenses increased 242% to $27.6 million for the nine months ended
September 30, 1996 from $8.1 million for the nine months ended September 30,
1995. These increases were primarily due to the addition of engineering
personnel, payments for consulting services in connection with developing and
enhancing the Company's existing and new products, and payments for consulting
services related to filing applications and product testing required to obtain
governmental approvals to resell the Company's products outside of North
America. Research and development expenses as a percent of net sales were 7%
for the third quarter of both 1996 and 1995 and decreased as a percent of net
sales to 8% for the first nine months of 1996 from 9% for the comparable period
in 1995. This decrease was primarily due to increased net sales.
SALES AND MARKETING
Sales and marketing expenses increased 214% to $30.5 million in the third
quarter of 1996 from $9.7 million in the third quarter of 1995. Sales and
marketing expenses increased 244% to $75.1 million for the nine months ended
September 30, 1996 from $21.8 million for the nine months ended September 30,
1995. These increases in expenses were primarily due to the addition of sales,
marketing and technical support personnel, increased commissions, spending for
marketing materials and trade shows, expenditures for demonstration and loaner
equipment used by customers and expenses associated with opening additional
sales offices in North America, Europe and Asia and the Pacific Basin. The
growth in sales, marketing and technical support personnel was primarily due to
the need to manage the activities of an increased number of value-added
resellers and distributors, end-user customers and new products. Sales and
marketing expenses as a percent of net sales decreased to 19% in the third
quarter of 1996 as compared to 24% for the same quarter of 1995. Sales and
marketing expenses as a percent of net sales decreased to 20% for the first nine
months of 1996 as compared to 24% for the comparable period in 1995. These
decreases in sales and marketing expenses as a percentage of net sales were due
primarily to increased net sales.
GENERAL AND ADMINISTRATIVE
General and administrative expenses increased 73% to $4.3 million in the third
quarter of 1996 from $2.5 million in the third quarter of 1995. General and
administrative expenses increased 90% to $12.2 million for the nine months ended
September 30, 1996 from $6.4 million for the nine months ended September 30,
1995. These increases were primarily due to the addition of finance,
information systems and administrative personnel, accruals for performance
bonuses and the cost of investor relations activities. General and
administrative expenses decreased as a percent of net sales to 3% for the
quarter ended September 30, 1996 from 6% for the same quarter of 1995. General
and administrative expenses decreased as a percent of net sales to 3% for the
nine months ended September 30, 1996 from 7% for the comparable period in 1995.
These decreases in general and administrative expenses as a percentage of net
sales were due primarily to increased net sales.
12
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
ASCEND COMMUNICATIONS, INC.
COSTS OF MERGER
For the quarter ended September 30, 1996, the Company charged to operations one-
time merger costs of approximately $13.9 million. These costs related to the
acquisition of NetStar and consist primarily of investment banking and
professional fees and other direct costs associated with the merger. Of the
$13.9 million in one-time merger costs, approximately $6.8 million are not
deductible for income tax purposes. Of the $13.9 million in one-time merger
costs, approximately $7.3 million have been paid as of September 30, 1996.
INTEREST INCOME, NET
Interest income (net) increased by approximately $908,000 to $3.0 million (2% of
net sales) for the third quarter of 1996 compared to $2.1 million for the third
quarter of 1995. Interest income (net) increased by $5.7 million to $8.6 million
(2% of net sales) for the nine months ended September 30, 1996 compared to $2.9
million for the nine months ended September 30, 1995. These increases in
interest income were due primarily to the investment of proceeds from the
Company's public offering of its common stock which was completed in August
1995.
PROVISION FOR INCOME TAXES
The provision for income taxes for the quarter ended September 30, 1996 was
$19.4 million, an effective tax rate of 43.8%, compared to an effective tax rate
of 38% for the same quarter in 1995. The provision for income taxes for the nine
months ended September 30, 1996 was $48.3 million, an effective tax rate of
40.2%, compared to an effective tax rate of 38% for the comparable period in
1995. The Company's effective tax rate for the quarter and nine months ended
September 30, 1996 was impacted by approximately $6.8 million of non-deductible
one-time merger costs associated with the NetStar acquisition. The Company's
effective tax rate of 38% for the quarter and nine months ended September 30,
1995 approximates the net effective statutory federal and state rates adjusted
for tax exempt interest income and the tax benefits associated with the
Company's Foreign Sales Corporation.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1996, the Company's principal sources of liquidity included
$332.3 million of cash and cash equivalents, short-term investments and
investments, and an unsecured $15.0 million revolving line of credit which
expires in November 1997. There were no borrowings under the line of credit in
the first nine months of 1996. The increase in cash and cash equivalents of
$20.3 million for the nine months ended September 30, 1996 was principally due
to $66.0 million of proceeds from, and tax benefits related to, the exercise of
stock options and issuance of common stock in connection with the Company's
employee and outside director stock plans and by $3.1 million of funds provided
by operations, partially offset by $44.6 million of funds used in investment
activities and $4.2 million of repayment of notes payable. The net cash
provided by operating activities for the nine months ended September 30, 1996
was primarily due to increases in net income, accounts payable and accrued
liabilities partially offset by increases in inventories, accounts receivable
and other assets.
13
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
ASCEND COMMUNICATIONS, INC.
LIQUIDITY AND CAPITAL RESOURCES (Continued)
Net cash used in investing activities of $44.6 million for the nine months ended
September 30, 1996 related primarily to expenditures for furniture, fixtures and
equipment of $22.0 million and net purchases of investments of $22.6 million.
Financing activities provided $61.8 million for the nine months ended September
30, 1996, primarily due to $66.0 million of proceeds from, and tax benefits
related to, the exercise of stock options and issuance of common stock in
connection with the Company's employee and outside director stock plans less
$4.2 million used to repay notes payable.
At September 30, 1996, the Company had $400.6 million in working capital. The
Company currently has no significant capital commitments other than commitments
under facilities and operating leases. The Company believes that its available
sources of funds and anticipated cash flow from operations will be adequate to
finance current operations, anticipated investments and capital expenditures for
at least the next twelve months.
FACTORS THAT MAY AFFECT FUTURE RESULTS
The Company's quarterly and year-to-date operating results are affected by a
wide variety of risks and uncertainties as discussed in the Company's
Registration Statement on Form S-4 filed on June 14, 1996. This Report on Form
10-Q should be read in conjunction with such Form S-4, particularly the section
entitled "Risk Factors" contained in the Form S-4. These risks and uncertainties
include but are not limited to competition, the mix of products sold, the mix of
distribution channels employed, the Company's success in developing, introducing
and shipping new products, the Company's success in integrating acquired
operations, the Company's dependence on single or limited source suppliers for
certain components used in its products, price reductions for the Company's
products, risks inherent in international sales, changes in the levels of
inventory held by third-party resellers, the timing of orders from and shipments
to customers, seasonality and general economic conditions.
In particular, a substantial portion of the Company's sales of MAX and Pipeline
products is related to the Internet industry. There can be no assurance that
this industry and its infrastructure will continue to develop. The Company
believes competition in the Internet industry will increase significantly in the
future and could adversely affect the Company's business, results of operations
and financial condition.
The Company has concluded the acquisition of three companies in 1996. Achieving
the anticipated benefits of these acquisitions will depend in part upon whether
the integration of the acquired companies' products and technologies, research
and development activities, and sales, marketing and administrative
organizations is accomplished in an efficient and effective manner, and there
can be no assurance that this will occur. Moreover, the integration process may
temporarily divert management attention from the day-to-day business of the
Company. Failure to successfully accomplish the integration of the acquired
companies could have a material adverse effect on the Company's business,
financial condition and/or results of operations.
14
<PAGE>
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
ASCEND COMMUNICATIONS, INC.
FACTORS THAT MAY AFFECT FUTURE RESULTS (Continued)
The Company expects that its gross margins could be adversely affected in future
periods by price adjustments as a result of increased competition. In addition,
the Company also expects that its gross margins could be adversely affected in
future periods by increased sales of its Pipeline products as a percentage of
net sales. These products have lower gross margins than the Company's other
products. In addition, the Company's use of third parties to distribute its
products to other value-added resellers may adversely affect the Company's gross
margins.
The Company typically operates with a relatively small backlog. As a result,
quarterly sales and operating results generally depend on the volume of, timing
of and ability to fulfill orders received within the quarter, which are
difficult to forecast. A significant portion of the Company's expense levels is
relatively fixed in advance based in large part on the Company's forecasts of
future sales. If sales are below expectations in any given quarter, the adverse
impact of the shortfall on the Company's operating results may be magnified by
the Company's inability to adjust spending to compensate for the shortfall. The
Company may also increase spending in response to competition or to pursue new
market opportunities.
The market for the Company's products is characterized by rapidly changing
technologies, evolving industry standards, frequent new product introductions
and short product life cycles. In September 1996, the Company introduced the MAX
TNT, a high density, high capacity WAN access switch, and the GRF400, a high
performance IP Switch. The introduction of these and other new products requires
the Company to manage the transition from older products in order to minimize
disruption in customer ordering patterns, avoid excessive levels of older
product inventories and ensure that adequate supplies of new products can be
delivered to meet customer demand. Furthermore, products such as those offered
by the Company may contain undetected or unresolved hardware problems or
software errors when they are first introduced or as new versions are released.
There can be no assurance that, despite extensive testing by the Company,
hardware problems or software errors will not be found in new products such as
the MAX TNT and the GRF400 after commencement of commercial shipments, resulting
in delay in or loss of market acceptance. Future delays in the introduction or
shipment of new or enhanced products, the inability of such products to gain
market acceptance or problems associated with new product transitions could
adversely affect the Company's business, results of operations and/or financial
condition.
In consideration of these factors, there can be no assurance that the Company
will be able to sustain growth in revenues or profitability, particularly on a
period-to-period basis.
15
<PAGE>
ASCEND COMMUNICATIONS, INC.
PART II: OTHER INFORMATION
Item 1: Legal Proceedings:
Not Applicable.
Item 2: Changes in Securities:
Not Applicable.
Item 3: Defaults upon Senior Securities:
Not Applicable.
Item 4: Submission of Matters to a Vote of Security Holders:
A Special Meeting of Stockholders was held on August 12, 1996. Proxies for the
meeting were solicited pursuant to Regulation 14A. At the meeting, an amendment
to the Company's 1989 Stock Option Plan to increase by 15,000,000 the number of
shares reserved for issuance thereunder was approved with 64,819,208 shares
voting in favor, 32,157,713 shares voting against, 153,269 abstaining and
15,193,956 broker non-votes.
Item 5: Other Information:
Not Applicable
16
<PAGE>
Item 6: Exhibits and Reports on Form 8-K:
A: Exhibits
<TABLE>
<CAPTION>
No. Description
- ---------- --------------------------------------------------------------------------
<S> <C> <C>
(6) 3.1 Certificate of Incorporation.
(1) 3.2 By-Laws.
(1) 10.1 First Amended and Restated 1989 Stock Option Plan and forms of stock option
agreements used thereunder.
(1) 10.2 Ascend Communications, Inc. 1994 Employee Stock Purchase Plan.
(1) 10.3 Ascend Communications, Inc. 1994 Outside Directors Stock Option Plan.
(1) 10.4 Loan Agreement and related agreements, dated October 21, 1993, by and
between the Registrant and First Interstate Bank of California.
(1) 10.5 Lease dated August 8, 1991, by and between the Registrant and Harbor Bay
Isle Associates, the First Addendum thereto, dated August 8, 1991,
and the Second Addendum thereto, dated February 25, 1994.
(1) 10.6 OEM Contract Agreement #LGSC102DS, dated September 28, 1992, by and
between the Registrant and AT&T Paradyne Corporation, Amendment
Number 1 thereto, dated September 30, 1992; Amendment No. 2 thereto, dated
March 9, 1993; Amendment No. 3 thereto, dated March 10, 1993; and
Amendment No. 4 thereto, dated December 15, 1993.
(1) 10.7 Agreement, dated March 15, 1993, by and between the Registrant and
North Supply Company.
(1) 10.8 Form of Indemnity Agreement for directors and officers.
(2) 10.9 Loan Agreement and related agreements, dated July 29, 1994, by and between
the Registrant and First Interstate Bank of California.
(3) 10.10 Lease Agreement, Lease Rider and Second Lease Rider, dated May 17, 1995
by and between the Registrant and Resurgence Properties, Inc.
</TABLE>
17
<PAGE>
<TABLE>
<CAPTION>
(A) Exhibits (continued)
No. Description
- ---------- --------------------------------------------------------------------------
<S> <C> <C>
(4) 10.11 Loan Agreement and related agreements, dated November 30, 1995, by and
between the Registrant and Wells Fargo Bank of California.
(5) 10.12 Lease agreement dated March 27, 1996, by and between the Registrant and
Sumitomo Bank Leasing and Financing, Inc.
11.1 Statement regarding computation of earnings per share
included in notes to condensed consolidated financial statements page 8.
27.0 Financial Data Schedule.
(1) Incorporated by reference from the Company's Registration
Statement (No. 33- 77146), effective May 12, 1994.
(2) Incorporated by reference from the Company's Form 10-Q for the
quarter ended September 30, 1994.
(3) Incorporated by reference from the Company's Form 10-Q for the
quarter ended June 30, 1995.
(4) Incorporated by reference from the Company's Form 10-K for the
year ended December 31, 1995.
(5) Incorporated by reference from the Company's Form 10-Q for the
quarter ended March 31, 1996.
(6) Incorporated by reference from the Company's Form 10-Q for the
quarter ended June 30, 1996.
B: Form 8-K
No reports on Form 8-K were filed during the quarter ended
September 30, 1996.
</TABLE>
18
<PAGE>
ASCEND COMMUNICATIONS, INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
<TABLE>
<CAPTION>
ASCEND COMMUNICATIONS, INC.
<S> <C> <C>
DATE November 14, 1996 by /S/ Robert K. Dahl
----------------- ------------------
Robert K. Dahl, Vice President, Finance
and Chief Financial Officer
(Principal Financial Officer)
DATE November 14, 1996 by /S/ Michael J. Johnson
----------------- ----------------------
Michael J. Johnson, Controller and
Chief Accounting Officer
(Principal Accounting Officer)
</TABLE>
19
<PAGE>
ASCEND COMMUNICATIONS, INC.
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
No. Description
- ---------- --------------------------------------------------------------------------
<S> <C> <C>
(6) 3.1 Certificate of Incorporation.
(1) 3.2 By-Laws.
(1) 10.1 First Amended and Restated 1989 Stock Option Plan and forms of stock option
agreements used thereunder.
(1) 10.2 Ascend Communications, Inc. 1994 Employee Stock Purchase Plan.
(1) 10.3 Ascend Communications, Inc. 1994 Outside Directors Stock Option Plan.
(1) 10.4 Loan Agreement and related agreements, dated October 21, 1993, by and
between the Registrant and First Interstate Bank of California.
(1) 10.5 Lease dated August 8, 1991, by and between the Registrant and Harbor Bay
Isle Associates, the First Addendum thereto, dated August 8, 1991,
and the Second Addendum thereto, dated February 25, 1994.
(1) 10.6 OEM Contract Agreement #LGSC102DS, dated September 28, 1992, by and
between the Registrant and AT&T Paradyne Corporation, Amendment Number 1
thereto, dated September 30, 1992; Amendment No. 2 thereto, dated
March 9, 1993; Amendment No. 3 thereto, dated March 10, 1993; and
Amendment No. 4 thereto, dated December 15, 1993.
(1) 10.7 Agreement, dated March 15, 1993, by and between the Registrant and
North Supply Company.
(1) 10.8 Form of Indemnity Agreement for directors and officers.
(2) 10.9 Loan Agreement and related agreements, dated July 29, 1994, by and between
the Registrant and First Interstate Bank of California.
(3) 10.10 Lease Agreement, Lease Rider and Second Lease Rider, dated May 17, 1995
by and between the Registrant and Resurgence Properties, Inc.
</TABLE>
20
<PAGE>
INDEX TO EXHIBITS (CONTINUED)
<TABLE>
<CAPTION>
No. Description
- ---------- --------------------------------------------------------------------------
<S> <C> <C>
(4) 10.11 Loan Agreement and related agreements, dated November 30, 1995, by and
between the Registrant and Wells Fargo Bank of California.
(5) 10.12 Lease agreement dated March 27, 1996, by and between the Registrant and
Sumitomo Bank Leasing and Financing, Inc.
11.1 Statement regarding computation of earnings per share included in notes to
condensed consolidated financial statements page 8.
27.0 Financial Data Schedule.
(1) Incorporated by reference from the Company's Registration
Statement (No. 33- 77146), effective May 12, 1994.
(2) Incorporated by reference from the Company's Form 10-Q for the
quarter ended September 30, 1994.
(3) Incorporated by reference from the Company's Form 10-Q for the
quarter ended June 30, 1995.
(4) Incorporated by reference from the Company's Form 10-K for the
year ended December 31, 1995.
(5) Incorporated by reference from the Company's Form 10-Q for the
quarter ended March 31, 1996.
(6) Incorporated by reference from the Company's Form 10-Q for the
quarter ended June 30, 1996.
</TABLE>
21
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> SEP-30-1996
<CASH> 167,376
<SECURITIES> 132,227
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 42,382
<CURRENT-ASSETS> 454,954
<PP&E> 24,036
<DEPRECIATION> 6,024
<TOTAL-ASSETS> 517,399
<CURRENT-LIABILITIES> 54,359
<BONDS> 0
0
0
<COMMON> 117
<OTHER-SE> 462,923
<TOTAL-LIABILITY-AND-EQUITY> 517,399
<SALES> 371,806
<TOTAL-REVENUES> 371,806
<CGS> 131,239
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 128,845
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (8,610)
<INCOME-PRETAX> 120,332
<INCOME-TAX> 48,314
<INCOME-CONTINUING> 72,018
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 72,018
<EPS-PRIMARY> 0.57
<EPS-DILUTED> 0.57
</TABLE>
