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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
COMMISSION FILE NUMBER 0-25622
DSP COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
Delaware 77-0389180
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
20300 Stevens Creek Boulevard, Cupertino, California 95014
(Address of principal executive offices, including zip code)
(408) 777-2700
(Registrant's telephone number, including area code)
---------------
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
Common Stock, $.001 par value New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
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
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. / /
The aggregate market value of the Common Stock held by non-affiliates of the
registrant as of March 10, 1999 was approximately $372,730,425. For purposes of
this calculation only, (i) shares of Common Stock are deemed to have a market
value of $15.00 per share, the closing sale price of the Common Stock as
reported on the New York Stock Exchange on March 10, 1999, and (ii) each of the
executive officers, directors and persons holding 5% or more of the outstanding
Common Stock is deemed to be an affiliate.
The number of shares of Common Stock outstanding on March 10, 1999 was
38,321,982 shares.
DOCUMENTS INCORPORATED BY REFERENCE: Part III of this Report incorporates
information by reference from the definitive Proxy Statement for the
registrant's annual meeting of stockholders to be held on May 11, 1999.
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DSP COMMUNICATIONS, INC.
1998 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PART I
PAGE
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Item 1. Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
Item 2. Properties . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11
Item 3. Legal Proceedings. . . . . . . . . . . . . . . . . . . . . . . . . .11
Item 4. Submission of Matters to a Vote of Security Holders. . . . . . . . .11
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters. . . . . . . . . . . . . . . . . . . . . . . . .12
Item 6. Selected Financial Data. . . . . . . . . . . . . . . . . . . . . . .13
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations. . . . . . . . . . . . . . . . . . . . . .14
Item 7A. Quantitative and Qualitative Disclosure About Market Risk . . . . .28
Item 8. Financial Statements and Supplementary Data. . . . . . . . . . . . .28
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure . . . . . . . . . . . . . . .28
PART III
Item 10. Directors and Executive Officers of the Registrant . . . . . . . . .29
Item 11. Executive Compensation . . . . . . . . . . . . . . . . . . . . . . .29
Item 12. Security Ownership of Certain Beneficial Owners and Management . . .29
Item 13. Certain Relationships and Related Transactions . . . . . . . . . . .29
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K . .30
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .35
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PART I
The matters addressed in this report on Form 10-K, with the exception of
the historical information presented, contain forward-looking statements
involving risks and uncertainties. The Company's actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors, including those set forth under the heading "Certain
Factors That May Affect Future Results" in the Management's Discussion and
Analysis section and elsewhere in this report.
ITEM 1. BUSINESS
INTRODUCTION
DSP Communications, Inc., a Delaware corporation ("DSPC" or the "Company"),
applies its expertise in digital signal processing ("DSP") software, algorithms
and VLSI circuit design to develop highly integrated, low power and
cost-effective chipsets for wireless personal communications applications. The
Company believes that it is the largest independent vendor of baseband chipsets
to original equipment manufacturers ("OEMs") in the worldwide digital cellular
telephone market, with customers such as Kenwood Corporation ("Kenwood"),
Kokusai Electric Corporation ("Kokusai"), Kyocera Corporation ("Kyocera"), NEC
America, Inc. ("NEC"), Pioneer Corporation ("Pioneer"), Sanyo Electronic Co.
Ltd. ("Sanyo") and Sharp Corporation ("Sharp"). Based on its core DSP
technology, the Company has developed, and continues to develop, baseband
chipsets that support a broad range of frequency modulation standards, including
Personal Digital Cellular ("PDC"), IS-136 Time Division Multiple Access
("TDMA"), and Code Division Multiple Access ("CDMA"). In addition, the Company
is developing baseband chipsets for use in Wideband CDMA ("WCDMA") and other
Third Generation ("3G") standards.
The Company's subsidiary, CTP Systems, Ltd. ("CTP Systems"), develops,
manufactures and sells a wireless private branch exchange ("PBX") system for the
office environment and other low-mobility and wireless local loop applications.
CTP Systems has entered into distribution and service agreements with OEMs such
as Comdial Corporation, Harris Corporation, Inc., Tadiran Telecommunications
Ltd. and Toshiba America Information Systems, Inc., for its wireless PBX system.
In addition, CTP performs reference design development for handset
manufacturers, utilizing its capabilities as a system designer.
In December 1998, the Company acquired substantially all the assets of
Isotel Research Ltd. The acquisition was carried out through Isotel Corp.
("Isotel"), a wholly-owned Canadian subsidiary of the Company. Isotel is an OEM
software company focused on providing embedded software components for wireless
communications to its OEM customers. Isotel's protocol engines provide key
elements for wireless devices, covering Call Processing and Data Protocols.
Isotel licenses its software to manufacturers of handsets, base stations,
private wireless systems, wireless local loop systems and test equipment, and
also develops software on a custom basis. Isotel's products are designed for
use with widely used digital wireless technologies and standards applied in
North America, including TDMA (IS-136/IS-130/IS-135), CDMA (IS-95/IS-707),
Intersystem Roaming (IS-41), and TCP/IP and PPP Internet Protocols.
INDUSTRY BACKGROUND
The demand for wireless personal communications services has grown rapidly
over the past several years as cellular, paging and other emerging wireless
personal communications services have become widely available and increasingly
affordable to growing numbers of consumers and businesses. Changes in
telecommunications regulations and allocations of additional radio spectrum
frequencies have further stimulated growth for both wireless voice and data
communications. There is also a worldwide transition from the use of analog to
digital technologies to improve the reliability and capacity of wireless
networks. Almost all new cellular networks being built today utilize digital
technology, which is capable of transmitting both voice and data communications.
Advancements in cellular and paging technology, as well
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as recently introduced services such as personal communications services, are
expected to offer subscribers new means of communicating both voice and data
over existing and future wireless networks.
VOICE COMMUNICATIONS
Wireless voice communications utilize analog or digital transmission
technology, which operate with various transmission standards. The Company has
developed products that support a variety of digital standards, such as PDC,
IS-136 TDMA and IS-95 CDMA, and is also developing next generation products for
these existing digital standards, as well as for 3G standards.
In Japan, cellular services are predominantly provided over digital
networks based on the PDC standard. In order to respond to the increasing
demand for capacity in the Japanese domestic cellular market, one Japanese
carrier, DDI, selectively launched in July 1998 a new digital system based on
CDMA technology. The new cellular system is claimed to offer higher capacity
utilization compared to PDC as well as improved voice quality and advanced data
communication capability. An additional carrier, IDO, has announced that it
plans to launch a CDMA network in Tokyo in the first half of 1999. In addition,
the largest wireless carrier in Japan, NTT DoCoMo, has announced plans to deploy
WCDMA in the next several years, to address capacity, voice quality and
high-speed data requirements.
According to the Japanese Ministry of Posts & Telecommunications, the
number of analog and digital cellular subscribers in Japan increased from 29
million in December 1997, to 39 million in December 1998.
In North America, cellular networks have primarily relied upon analog
technology and the AMPS standard; however, in 1998, digital standards (mainly
TDMA and CDMA) significantly increased their market share. According to the
Cellular Telephone Industry Association, the number of cellular subscribers in
the United States increased from 49 million in June 1997 to 61 million in June
1998. As of June 1998, approximately 24% of the total United States population
subscribed to cellular services. Although analog cellular is still widely
available today in North America, it has several limitations, including
inconsistent service quality, limited capacity and, currently, an inability to
transfer data without a modem. Digital technologies offer improved system
flexibility, efficiency and increased capacity by allowing a given channel of
spectrum to carry multiple calls simultaneously. As a result, almost all new
cellular networks being constructed in North America today utilize digital
technology, primarily using IS-136 TDMA and IS-95 CDMA standards. Consequently,
digital handset sales have significantly increased.
Personal communications services ("PCS") in the United States use CDMA and
TDMA technologies for cellular-type applications. Unlike cellular that uses the
800 MHz. frequency, PCS uses the 1.9 GHz. band. The Company's baseband products
for the TDMA and CDMA standards are designed to support telephones that operate
in both the 800 MHz. cellular frequency and the 1.9 GHz. PCS frequency in the
United States, as well as other frequencies in other countries.
Third Generation ("3G") standards are being proposed and developed
worldwide to address the growing needs for high-capacity voice communications
and high-speed data, video and multimedia applications. While Japan and Europe
have already endorsed a technology called Wideband-CDMA, or WCDMA, other
countries such as Korea and the United States have not yet endorsed a standard.
Other competing 3G standards include CDMA 2000, which will succeed IS-95, and
EDGE, a technology promoted by Ericsson.
REQUIREMENTS OF WIRELESS SUBSCRIBER EQUIPMENT MANUFACTURERS
The Company believes that the growing demand for mobile voice and data
applications will require an increase in capacity, quality, convenience and
variety of services. This should continue the transition from analog to digital
technology. The increase in the number of subscribers and the growth of services
provided over wireless personal communications networks have led to network
congestion and demonstrate
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the need to expand capacity and capabilities of the networks. DSP technology
involves converting image, sound and other naturally occurring analog wave forms
into a stream of digital values which may then be processed, manipulated,
exchanged or stored by electronic systems and later converted back into analog
signals. DSP technology provides several advantages over analog technologies,
including (i) greater levels of compression capability, resulting in greater
storage and expanded communications capacity, (ii) greater ability to process
and manipulate digital data, resulting in enhanced product performance and
functionality, and (iii) greater ability to perform routine electronic functions
in software rather than using dedicated hardware. The ability of DSP to
manipulate voice and data communications faster and more efficiently than analog
and non-DSP microprocessor technologies positions DSP as an important technology
for existing and future generations of wireless personal communications
products.
Manufacturers of subscriber equipment for wireless personal communications
compete in a high-growth, cost-competitive market, in which it is necessary to
offer a compact, cost-effective solution providing a wide range of functions.
To increase performance, minimize the size and decrease the cost of subscriber
equipment, manufacturers require highly integrated chipsets. Greater
integration of functions minimizes the number and size of the integrated
circuits required, thereby lowering the cost of manufacturing and decreasing
power consumption. Lower power consumption permits extended battery life,
giving the mobile user more usage time without the need to recharge the battery
unit. Due to evolving industry standards and the rapid introduction of new
communications services, the success of OEMs in the wireless personal
communications industry also depends on their ability to bring new products to
market quickly to meet new market demands.
DSPC'S SOLUTIONS
DSPC focuses on developing DSP-based software and algorithms and designing
highly integrated, low power baseband chipsets for subscriber equipment
operating on both analog and digital wireless personal communications networks.
Through its wholly-owned subsidiary CTP Systems, the Company performs reference
design development for handset manufacturers. CTP Systems also develops
wireless PBX and other on-premises and low-mobility wireless communications
applications. Through its wholly-owned subsidiary Isotel Corp., the Company
provides embedded software components for handset and infrastructure
manufacturers.
The key features of DSPC's solutions include the following:
HIGH INTEGRATION. In 1993, the Company introduced its first chipset
solution for digital cellular telephones in Japan consisting of only two
integrated circuits. Subsequently, the Company developed several further
generations of chipsets that enabled lower pin and component counts and higher
integration. In 1998, the Company introduced its first single-chip PDC baseband
solution, the PDChip.
The Company continues to research methods to develop baseband chipsets with
more compact and cost-effective solutions.
LOW POWER CONSUMPTION. The Company's expertise in DSP technology enables
it to design efficient DSP solutions that reduce power consumption. The Company
has developed a high degree of functionality in its software, which decreases
the need for dedicated hardware, thereby reducing the millions of instructions
per second required for operation. The components of the baseband chipset are
activated intermittently depending on the operating mode of the subscriber unit
at any given time. This minimizes power consumption.
COST-EFFECTIVE. The Company has reduced the number of integrated circuits
required for a baseband processing subsystem by integrating the DSP functions,
and has also incorporated some traditional hardware functions into its software,
thereby reducing the overall cost of the Company's solution to OEMs. As a
result, the Company's OEM customers are better able to provide competitively
priced products to the wireless personal communications market.
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ADAPTABLE TO MULTIPLE STANDARDS. Based on its core DSP technology, the
Company has developed products for use with a variety of modulation standards.
While each product is designed for a specific wireless communications network
and modulation standard, all generally rely on the same fundamental DSP
technology. By maintaining both standards and system flexibility, the Company
seeks to reduce the risks associated with relying on the success of one or a
limited number of existing industry standards. The Company has developed
systems expertise in the PDC, IS-136 TDMA and IS-95 CDMA digital standards and
the AMPS, TACS and JTACS analog standards. The Company believes that its
expertise with multiple transmission standards will also help it develop
products to address the needs of emerging wireless services, such as WCDMA and
other 3G standards.
PRODUCTS
The Company designs DSP-based software and integrated circuits for cellular
communications. To date, the Company has used its DSP expertise primarily to
develop baseband chipsets for incorporation into cellular telephones. In
addition, the Company is currently developing new products designed for use in
other emerging wireless personal communications services. Through CTP Systems,
the Company has developed and sells a wireless PBX system for intra-building
communications, and provides reference design to handset manufacturers. The
Company's newly acquired subsidiary, Isotel, provides embedded software
components for handset and infrastructure manufacturers.
EXISTING PRODUCTS
PDC CHIPSETS. The Company currently sells chipsets to major Japanese
manufacturers of digital cellular telephones. In 1993, the Company introduced
its first digital chipset, a set of two integrated circuits with a VSELP speech
coder, channel coder and modem that operated on five volts based on the PDC
standard. In 1995, the Company commenced volume shipments of its three volt PDC
chipset and initiated shipments of its half-rate PDC chipset. The half-rate PDC
standard enabled cellular carriers to increase the capacity of their existing
cellular networks. In 1998, the Company introduced its first single-chip PDC
baseband solution, the PDChip.
TDMA CHIPSETS. In 1997, the Company commenced volume sales of its IS-136
TDMA chipsets. IS-136 is a digital wireless standard supported by some of the
major US carriers such as AT&T Wireless, Bell South and SouthWestern Bell. In
addition, TDMA has emerged as one of the leading digital standards in almost all
South American countries, including Brazil.
CDMA CHIPSETS. The Company has developed systems expertise in the IS-95
CDMA standard and has developed CDMA-based chipsets for use in cellular and PCS
applications. In 1995, the Company signed a CDMA license agreement permitting
the Company to develop baseband chipsets for CDMA products. In 1998, the
Company began shipments of commercial quantities of its first generation CDMA
chipset to customers in Japan. In late 1998, the Company commenced shipments of
its CDMA chipsets into South Korea.
WIRELESS PBX. CTP Systems has developed a wireless PBX system for
intra-building communications. The CTP Systems solution includes the
development of basestations and handsets, and the joint development of a PBX
interface card with several OEMs. CTP Systems' wireless PBX system enables
users to make and receive calls while away from their desks incorporating all of
the functions of an executive desktop handset.
REFERENCE DESIGN. CTP Systems offers reference design development for
wireless handset manufacturers. As the complexity of wireless handsets
increases and the life cycle of these handsets decreases, more manufacturers are
inclined to outsource large portions of the development of the handset to
external contractors with system design expertise.
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CALL PROCESSING SOFTWARE. Isotel, the Company's recently acquired
subsidiary, provides embedded software components for wireless communications.
Isotel's protocol engines provide key elements for wireless devices, covering
Call Processing and Data Protocols. Isotel licenses its software products to
manufacturers of handsets, base stations, private wireless systems, wireless
local loop systems and test equipment. Isotel also develops software on a
custom basis.
NEW PRODUCT DEVELOPMENT
The Company is developing 3G technology to enable handset manufacturers to
make a smooth transition to 3G cellular handsets. The development of baseband
chipsets for 3G wireless systems in the WCDMA and other standards, is based on
DSPC's expertise in second generation standards and high-speed spectrum
technologies.
SALES, MARKETING AND DISTRIBUTION
The Company markets its chipset and wireless PBX products through a direct
sales and marketing organization, headquartered in Cupertino, California.
Substantially all of its chipset product delivery is facilitated through its
non-exclusive distributors in Japan and the United States. In the fourth
quarter of 1998, the Company commenced shipments of its CDMA chipset into South
Korea. To date, the sales to South Korea have been facilitated through one of
the Company's subsidiaries in Israel. In Japan, the Company's Japanese
subsidiary performs customer liaison services. The Company's distributors, in
Japan, Tomen Electronics Corp., and in the United States, Tomen Electronics
America Inc., are not subject to minimum purchase requirements and can cease
marketing the Company's products at any time. The loss of either of the above
distributors could have a material adverse effect on the Company's business,
financial condition and results of operations.
The Company's subsidiary, Isotel, markets its products through its sales
force based in Calgary, Canada.
The Company, through its two distributors, sells its PDC chipsets to OEMs
such as Kenwood, Kokusai, Kyocera, Pioneer, Sanyo and Sharp, and its TDMA and
CDMA chipsets to other OEMs. In 1998, 1997 and 1996, product sales to the
Company's distributors accounted for 91%, 88% and 91%, respectively, of the
Company's total revenues. Sales to these distributors are made through specific
purchase orders, which are cancelable without significant penalties. In 1998,
substantially all of the Company's PDC, TDMA and CDMA products were sold to a
limited number of OEMs. The Company expects that a significant portion of its
future product sales will continue to be concentrated among a limited number of
major OEMs. The loss of either one of the Company's distributors or one or more
of its major customers would have a material adverse effect on the Company's
business, financial condition and results of operations. In addition, the
Company's sales to its OEM customers are dependent on the OEMs' continued
success in maintaining or increasing their market share in the competitive
wireless handset market worldwide. The inability of one or more of these OEM
customers to succeed in these markets could have a material adverse effect on
the Company's business, financial condition and results of operations.
The Company sells a majority of its products and provides technology
development services to OEMs located outside of the United States, primarily in
Japan. Revenues from Japan accounted for 74%, 80% and 94% of the Company's total
revenues in 1998, 1997 and 1996, respectively. Due to its international sales,
the Company is subject generally to the risks of conducting business
internationally, including unexpected changes in regulatory requirements,
fluctuations in exchange rates for the United States dollar that could
effectively increase the price of the Company's products in foreign markets,
imposition of tariffs and other barriers and restrictions, and the burden of
complying with a variety of foreign laws. During 1996, 1997 and 1998, the
Company hedged foreign exchange exposure related to anticipatory revenue
transactions by entering into dollar/yen option contracts.
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CUSTOMER SERVICE AND TECHNICAL SUPPORT
The Company believes that providing customers with comprehensive product
service and support is critical to maintaining a competitive position in the
wireless personal communications industry. The Company provides technical
support through its application engineering groups located in Israel, Japan,
Canada and the United States. The application engineering groups offer full
service technical support to customers, product upgrades and training, if
necessary. The Company works closely with its customers to monitor the
performance of its product designs, and to provide application design support
and assistance. The Company believes that close contact with its customers
improves their level of satisfaction and provides the Company with insights into
future product development.
The Company provides several levels of technical support to its customers.
The Company's standard support package is generally offered with all product
sales, and includes provision of evaluation and prototyping systems, full
technical documentation and application design assistance. During an OEM's
production phase, the Company also provides failure analysis and replacement of
defective components. In some cases, the Company also offers more extensive
support arrangements for additional quarterly payments, which include training,
system level design, implementation and integration support, as well as early
releases of new product versions when they become available. The Company
believes that tailoring the technical support level to its customers' needs is
essential for successful product introductions and the achievement of a high
satisfaction level among its customers.
MANUFACTURING
The Company uses independent foundries to manufacture its baseband
chipsets. The Company to date has ordered products from its foundries primarily
upon receipt of orders from its distributors or OEM customers and does not
maintain significant inventory of its products. This strategy allows the
Company to avoid the significant capital investment required for wafer
fabrication facilities and inventories, and to focus its resources on algorithm
and software development, product design, quality assurance, marketing and
customer support. The Company maintains limited inventory in anticipation of
orders from its distributors or OEM customers. Designs of the Company's
baseband chipsets are verified by both the Company and the customer prior to
orders being placed. Upon receipt of such orders, the manufacturers ship the
devices through the Company's distributors to the Company's customers. The
Company has also developed procedures with its contract manufacturers to conduct
comprehensive quality control and quality assurance throughout the manufacturing
and assembly process. The Company's reliance on independent foundries involves
a number of risks, including the possibility of a shortage of certain key
components and reduced control over delivery schedules, manufacturing capacity,
quality and costs.
The Company purchases its DSP chips for cellular telephones, the DSP chips
used in CTP Systems' products, its application specific integrated circuits
("ASICs") and the Radio Frequency ("RF") chipsets for CTP Systems' products from
independent foundries. In 1998, the Company's two largest suppliers were Texas
Instruments Incorporated and NEC Electronics, Inc. The Company is dependent on
these foundries and its other suppliers to produce a sufficient quantity of DSP
and RF chips, ASICs and components to meet the Company's needs and to deliver
them in a timely manner. Furthermore, the suppliers' manufacturing schedules
are entirely independent from the Company's supply requirements. The Company's
reliance on the above suppliers involves a number of risks, including the
possibility of an insufficient supply of DSP chips and ASICs, noncompetitive
pricing, discontinued production of the components utilized to produce the
Company's products and the possibility of errors in the DSP chips and ASICs
caused by a failure of the foundries to meet the Company's specifications.
CTP Systems currently manufactures its wireless PBX, primarily through
external subcontractor facilities, and is therefore subject to various risks
associated with the manufacturing process, including risks resulting from CTP
Systems' inexperience in mass production, risks involved with the ramp-up of
production, reliance on subcontracted assembly facilities, errors in the
manufacturing process, shortages of required components, manufacturing equipment
failures, and disruptions of operations at the manufacturing
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facility. Prolonged inability of CTP Systems to deliver products in a timely
manner could result in the loss of customers and materially adversely affect its
results of operations. In addition, certain of the components included in CTP
Systems' products are obtained from a single source or a limited group of
suppliers. The partial or complete loss or delay of the supply of components
from certain of these sources could result in a significant reduction in CTP
Systems' revenues and could also damage certain customer relationships.
Although the Company extensively tests its software and hardware products
prior to their introduction, design errors may be discovered after initial
product sampling, resulting in delays in volume production or recalls of
products sold. The occurrence of such errors could have a material adverse
effect on the Company's business, financial condition and results of operations.
RESEARCH AND DEVELOPMENT
The Company believes that its future success depends on its ability to
adapt to the rapidly changing wireless personal communications environment and
to continue to meet its customers' needs. Therefore, the continued timely
development and introduction of new products is essential in maintaining its
competitive position. The Company develops most of its products in-house and,
as of December 31, 1998, had a research, development and engineering staff of
164 people. The Company's current development efforts focus primarily on the
development of enhanced versions of its existing digital cellular chipsets,
software and new applications involving IS-95 CDMA, IS-136 TDMA, reference
design, WCDMA and enhanced and more cost effective versions of its wireless PBX
product. During 1996, 1997 and 1998, the Company spent approximately $5.3
million, $6.6 million and $11.7 million, respectively, on research and
development activities.
COMPETITION
The markets for the Company's products are extremely competitive, and the
Company expects that competition will increase. Many of the Company's
competitors have entrenched market positions, established patents, copyrights,
tradenames, trademarks and intellectual property rights and substantial
technological capabilities. Both in the cellular market and in other wireless
personal communications markets, the Company's existing and potential
competitors include large and emerging domestic and international companies,
many of which have significantly greater financial, technical, manufacturing,
marketing, sales and distribution resources and management expertise than the
Company. The Company believes that its ability to compete successfully in the
wireless personal communications market depends upon a number of factors within
and outside its control, including price, quality, availability, product
performance and features; timing and success of new product introductions by the
Company, its customers and competitors; and customer service and technical
support. The Company's current OEM customers continuously evaluate whether to
develop and manufacture their own chipsets and could elect to compete with the
Company at any time. Price competition in the markets in which the Company
currently competes and proposes to compete, is intense and is likely to
increase. Increased competition could have a material adverse effect on the
Company's business, financial condition and results of operations. Moreover,
large manufacturers of wireless personal communications equipment could also
elect to enter into the component market and compete directly with the Company.
In the Japanese digital cellular market, the Company faces competition from
existing cellular telephone manufacturers that develop in-house solutions, such
as NEC, Panasonic, and Sony Corporation, from other DSP-based baseband chip
suppliers, such as Asahi Kasei, and, in the future, may face competition from
other chip suppliers. The Company believes that its current advantage stems
from its experience in this market, early market presence and established
customer base.
In the TDMA market, the Company competes with existing cellular telephone
manufacturers, such as Ericsson, Motorola and Nokia, that develop in-house
solutions, and possibly with other chipset manufacturers.
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In the CDMA market, the Company competes with existing cellular telephone
manufacturers, such as Motorola, Nokia and Qualcomm, that develop in-house
solutions, and with DSP-based baseband chip suppliers, such as Qualcomm, LSI
Logic, VLSI Technology, and possibly with other chipset manufacturers.
INTELLECTUAL PROPERTY
Although the Company has 52 patent applications pending or allowed in the
United States, Japan and Israel, the Company relies primarily on its trade
secret program and copyrights to protect its intellectual property. The Company
attempts to protect its trade secrets and other proprietary information through
agreements with its customers, suppliers, employees and consultants, and through
other security measures. Although the Company intends to protect its rights
vigorously, there can be no assurance that these measures will be successful.
In addition, the laws of certain countries in which the Company's products are
or may be developed, manufactured or sold, including Hong Kong, Japan, Korea and
Taiwan, may not protect the Company's products and intellectual property rights
to the same extent as the laws of the United States.
While the Company's ability to compete may be affected by its ability to
protect its intellectual property, the Company believes that, because of the
rapid pace of technological change in the wireless personal communications
industry, its technical expertise and ability to introduce new products on a
timely basis will be more important in maintaining its competitive position than
protection of its intellectual property and that patent, trade secret and
copyright protections are important but must be supported by other factors such
as the expanding knowledge, ability and experience of the Company's personnel,
new product introductions and frequent product enhancements. Although the
Company continues to implement protective measures and intends to defend
vigorously its intellectual property rights, there can be no assurance that
these measures will be successful.
While the Company has not been involved in any patent or other intellectual
property rights litigation, there can be no assurance that third parties will
not assert claims against the Company with respect to existing and future
products. In the event of litigation to determine the validity of any third
party's claims, such litigation could result in significant expense to the
Company, and divert the efforts of the Company's technical and management
personnel, whether or not such litigation is determined in favor of the Company.
Both the semiconductor and the wireless personal communications industries are
subject to frequent litigation regarding patent and other intellectual property
rights. Leading companies and organizations in the wireless personal
communications industry have numerous patents that protect their intellectual
property rights in these areas. In the event of an adverse result of any such
litigation, among other requirements, the Company could be required to expend
significant resources to develop non-infringing technology; to obtain licenses
to the technology which is the subject of the litigation; or to pay damages of
its customers pursuant to indemnification provisions in certain contracts.
There can be no assurance that the Company would be successful in such
development or that any such license would be available on commercially
reasonable terms.
BACKLOG
The Company's backlog was approximately $22.4 million at December 31, 1998,
and $20.5 million at December 31, 1997. The Company includes in its backlog all
accepted product purchase orders with respect to which a delivery schedule has
been specified for product shipment within one year. The Company anticipates
that the market for its baseband chipsets will continue to be characterized by
short-term order and shipment schedules. In addition, many of the product
orders in the Company's backlog are subject to changes in delivery schedules or
to cancellation at the option of the purchaser without significant penalty.
Accordingly, the Company believes that backlog as of any particular date is not
necessarily a reliable indicator of sales or revenues for any future period.
10
<PAGE>
EMPLOYEES
As of December 31, 1998, the Company had 230 full and part-time employees,
including 164 in research and development, 21 in marketing and sales, 16 in
production, and 29 in corporate, administration and production coordination.
The Company believes that its future prospects will depend, in part, on its
ability to continue to attract and retain skilled engineering, marketing and
management personnel, who are in great demand. In particular, there is a
limited supply of highly qualified engineers with DSP experience. None of the
Company's employees are covered by a collective bargaining agreement, and the
Company has never experienced any strike or work stoppage. The Company believes
its relations with its employees to be good.
ITEM 2. PROPERTIES
The Company's headquarters are located in an approximately 9,500 square
foot leased facility in Cupertino, California. This facility houses the
Company's management, marketing and sales personnel. The Company subleases
approximately 775 square feet in this facility to another corporation. The
lease for the Cupertino facility terminates in February 2001. The Company's
subsidiary, DSPC Technologies, Ltd. ("DSPCT"), leases approximately 10,000
square feet for research and development, application engineering and
manufacturing coordination activities, in a facility in Givat Shmuel, Israel.
This lease terminates in April 2001. DSPCT also leases approximately 10,000
additional square feet for research and development activities in Givat Shmuel,
pursuant to a lease that terminates in March 1999, with an option to extend the
lease until 2002. The Company's subsidiary, CTP Systems, leases approximately
11,000 square feet for research and development, engineering and manufacturing
activities in a facility in Petah-Tikva, Israel. This lease terminates in
October 1999. The Company's Japanese subsidiary leases approximately 3,200
square feet in Tokyo for marketing and engineering liaison activities. This
lease expires in October 1999. The Company's Canadian subsidiary, Isotel Corp.,
leases approximately 4,400 square feet for research and development activities
and management personnel in Calgary, Canada. This lease terminates in May 2003.
ITEM 3. LEGAL PROCEEDINGS
As previously disclosed in the Company's reports filed with the Securities
and Exchange Commission, on May 12, 1997, a class action lawsuit was filed
against the Company and several of its officers and directors in the Superior
Court of California, Santa Clara Country. A second, identical lawsuit was filed
on May 22, 1997. The complaints, which were consolidated, alleged that the
Company and certain of its officers and directors violated California securities
laws in connection with certain statements allegedly made during the first
quarter of 1997, and sought damages in an unspecified amount, interest,
attorney's fees and other costs, and other equitable and injunctive relief. On
February 26, 1998, two of the plaintiffs in the state action filed a similar
complaint in the U.S. District Court for the Northern District of California.
The complaint made the same allegations as the amended complaint filed in state
court, but charged violations of federal securities laws.
The Company has executed an agreement to settle these lawsuits. Under the
agreement, the claims will be settled for $3,000,000, which will be funded by
insurance proceeds. The settlement is subject to approval by the court. The
court has set a date of April 9, 1999 for hearing on final approval. The Company
continues to deny all allegations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
11
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Since December 9, 1997, the common stock of the Company has been traded on
the New York Stock Exchange under the symbol "DSP." The Company's common stock
was traded on The Nasdaq Stock Market from the Company's initial public offering
on March 7, 1995 until December 8, 1997. The following table presents for the
periods indicated the high and low closing prices for the common stock, as
reported by The Nasdaq Stock Market or the New York Stock Exchange, as
applicable.
<TABLE>
<CAPTION>
Price Range of
Common Stock
-----------------------
High Low
-----------------------
<S> <C> <C>
Fiscal Year Ended December 31, 1998
First Quarter. . . . . . . . . . . . . . . . . . . . $17.69 $11.75
Second Quarter . . . . . . . . . . . . . . . . . . . $20.00 $13.25
Third Quarter. . . . . . . . . . . . . . . . . . . . $18.00 $ 6.63
Fourth Quarter . . . . . . . . . . . . . . . . . . . $17.00 $ 5.25
Fiscal Year Ended December 31, 1997
First Quarter. . . . . . . . . . . . . . . . . . . . $25.38 $ 7.94
Second Quarter . . . . . . . . . . . . . . . . . . . $13.13 $ 6.75
Third Quarter. . . . . . . . . . . . . . . . . . . . $22.38 $10.31
Fourth Quarter . . . . . . . . . . . . . . . . . . . $24.56 $10.94
</TABLE>
On February 24, 1999, the closing price of the Company's common stock as
reported on the New York Stock Exchange was $14.75 per share. As of February
24, 1999, there were approximately 182 holders of record of the common stock,
which the Company believes represents approximately 10,000 beneficial holders.
DIVIDEND POLICY
To date, the Company has neither declared nor paid any cash dividends on
shares of its Common Stock. The Company presently intends to retain all future
earnings for use in its business and does not anticipate paying cash dividends
on its common stock in the foreseeable future.
RECENT SALES OF UNREGISTERED SECURITIES
In connection with Davidi Gilo's appointment as Chairman of the Board, the
Company sold 350,000 shares of the Company's common stock to Mr. Gilo on October
12, 1998. The purchase price was $2,340,625, or $6.6875 per share, which was
the closing share price of the common stock as reported on the New York Stock
Exchange on October 12, 1998. The purchase price was paid by delivery by Mr.
Gilo to the Company of a promissory note in the principal amount of $2,340,625.
The note bears interest at the rate of 6.5% per annum. Principal and interest
under the note are payable on December 31, 2001. The note is secured by a deed
of trust on certain real property owned by Mr. Gilo. The sale of the shares to
Mr. Gilo was deemed to be exempt from registration under the Securities Act of
1933 in reliance on Section 4(2) thereof.
12
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
(Dollars in thousands, except per share data) 1998 1997 1996 1995 1994
- --------------------------------------------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Statement of Operations Data
(Year ended December 31)
Total revenues $131,097 $ 81,501 $ 88,899 $ 40,867 $ 15,966
Gross profit $ 57,163 $ 36,697 $ 41,196 $ 17,021 $ 6,631
Operating income (loss) $ 27,799 $ 17,701 $ 20,010 $ (2,391) $ 2,655
Net income (loss)(1)(2)(3) $ 29,372 $ 21,399 $ 21,750 $ (2,358) $ 2,233
Earnings (loss) per share(1)(2)(3)
Basic $ 0.74 $ 0.51 $ 0.52 $ (0.08) $ 0.17
Diluted $ 0.70 $ 0.48 $ 0.48 $ (0.08) $ 0.09
Shares used in computing earnings (loss)
per share
Basic 39,672 41,776 41,865 30,252 13,497
Diluted 42,021 44,922 45,564 30,252 25,624
Balance Sheet Data
(As of December 31)
Cash, cash equivalents and short-term
investments $ 93,889 $116,641 $136,833 $ 27,988 $ 8,387
Working capital $ 95,088 $108,055 $129,230 $ 29,193 $ 5,476
Total assets $145,237 $142,896 $155,354 $ 44,119 $ 11,028
Long-term obligations $ -- $ -- $ -- $ -- $ 132
Total stockholders' equity $111,368 $115,903 $136,844 $ 34,868 $ 6,532
</TABLE>
- --------------------
(1) Net income for 1998 includes a charge of $3,800,000 for acquired in-process
technology in connection with the acquisition of Isotel Research Ltd.
Excluding this charge, pro forma net income for 1998 was $33,172,000 or
$0.79 per diluted share.
(2) Net income for 1996 includes a charge of $5,000,000 in connection with the
termination of a proposed acquisition of Proxim Inc. Excluding this charge,
pro forma net income for 1996 was $26,125,000 or $0.57 per diluted share.
(3) Net loss for 1995 includes a charge of $10,850,000 for acquired in-process
technology primarily in connection with the acquisition of CTP Systems Ltd.
and, to a lesser extent, in connection with a licensing arrangement.
Excluding this charge, pro forma net income for 1995 was $8,492,000 or
$0.24 per diluted share.
13
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
You should read this Management's Discussion and Analysis of Financial
Condition and Results of Operations in conjunction with our 1998 Consolidated
Financial Statements and notes thereto. The matters addressed in this
Management's Discussion and Analysis of Financial Condition and Results of
Operations, with the exception of the historical information presented, contain
forward-looking statements involving risks and uncertainties. Our actual
results could differ materially from those anticipated in these forward-looking
statements as a result of certain factors, including those set forth under the
heading "Certain Factors That May Affect Future Results" following this
Management's Discussion and Analysis section, and elsewhere in this report.
OVERVIEW
The consolidated financial statements present the financial condition of
DSP Communications, Inc. (the "Company" or "DSPC") as of December 31, 1998 and
the consolidated results of operations and cash flows of DSPC for the three
years then ended.
At the end of 1993, the Company began the first volume shipments of its
digital baseband PDC chip sets to Japanese original equipment manufacturers, or
OEMs, through its distributor in Japan. In 1995, the Company introduced and
initiated shipments of its half-rate PDC chip set which enabled cellular
carriers to increase the capacity of their existing cellular networks and in
1998, the Company introduced and commenced volume shipments of its first
single-chip PDC baseband solution. At the end of 1996, the Company initiated
commercial sales of a third generation chip set for digital cellular telephones
using the IS-136 TDMA standard which supports voice and limited data
communications, and in 1997, the Company commenced volume shipments of IS-136
chip sets. The Company shipped operational samples of its CDMA chip sets in
1997. In 1998, the Company began shipments of commercial quantities of its
first generation CDMA chip set to customers in Japan and South Korea.
The fourth quarter of 1998 included a charge of $3.8 million, for acquired
in-process technology in connection with the acquisition of substantially all of
the assets of Isotel Research Ltd. The acquisition was carried out through a
wholly owned Canadian subsidiary, Isotel Corp. ("Isotel").
The fourth quarter of 1996 included a charge of $5.0 million, included in
general and administrative expenses, in connection with the termination of a
proposed acquisition of Proxim, Inc.
The Company recorded net income of $29.4 million on total revenues of
$131.1 million in 1998, compared to net income of $21.4 million on total
revenues of $81.5 million in 1997 and net income of $21.8 million on total
revenues of $88.9 million in 1996. Excluding the charge for acquired in-process
technology in 1998, of $3.8 million and the charge for the proposed acquisition
in 1996 of $5.0 million, pro forma net income was $33.2 million for 1998 and
$26.1 million for 1996.
The results of operations do not include the results of Isotel, which was
purchased on December 31, 1998.
14
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth the percentage relationships of certain
items from the Company's consolidated statements of operations as a percentage
of total revenues for the years ended December 31:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Revenues:
Product 96.8% 94.3% 95.8%
Technology development 3.2 5.7 4.2
------- ------- -------
Total revenues 100.0 100.0 100.0
Cost of Revenues:
Product 54.3 48.9 49.7
Technology development 2.1 6.1 4.0
------- ------- -------
Total cost of revenues 56.4 55.0 53.7
------- ------- -------
Gross Profit 43.6 45.0 46.3
Operating Expenses:
Research and development 8.9 8.1 6.0
Sales and marketing 3.3 5.0 4.1
General and administrative 7.3 10.2 13.7
Charge for acquired in-process technology 2.9 -- --
------- ------- -------
Total operating expenses 22.4 23.3 23.8
------- ------- -------
Operating income 21.2 21.7 22.5
Interest and other income, net 4.3 7.8 5.5
------- ------- -------
Income before provision for income taxes 25.5 29.5 28.0
Provision for income taxes (3.1) (3.2) (3.5)
------- ------- -------
Net income 22.4% 26.3% 24.5%
------- ------- -------
------- ------- -------
</TABLE>
REVENUES
PRODUCT: Product revenues consist primarily of baseband chip sets for
digital cellular telephones. Revenue from product sales to customers, other
than sales to distributors, are recorded when products are shipped. Sales to
distributors, under agreements allowing price protection and right of return on
products unsold by the distributors, are not recognized until the products are
sold by the distributors to OEM manufacturers. Other product revenues are
recorded when products are shipped to customers. Product revenues were $126.9
million in 1998 compared to $76.8 million in 1997 and $85.1 million in 1996.
The decline in product revenues in 1997, relative to 1996, was primarily
due to a product transition in the Japanese PDC handset market that took place
in the second quarter of 1997. The increase in product revenue in 1998 was a
result of the completion of the product transition, stronger demand for the
Company's PDC and TDMA digital cellular chip sets and the commencement of
shipments of volume sales of the Company's CDMA chip sets.
15
<PAGE>
TECHNOLOGY DEVELOPMENT: The Company has funded its technology development
in part using revenue from technology development agreements. Following
successful completion of technology development agreements with OEMs, the
Company's strategy is to develop and market products incorporating the developed
technology. Revenues are recognized only when applicable customer milestones,
including deliverables, have been met, but not in excess of the amount that
would be recognized using the percentage of completion method. Technology
development revenues were $4.2 million in 1998, $4.7 million in 1997, and $3.8
million in 1996. The Company's technology development revenues fluctuate, and
may continue to fluctuate, depending on the number and size of technology
development agreements and the timing of related milestones and deliverables.
Revenues from the reference design projects undertaken by the Company's
subsidiary, CTP Systems, are included in technology development revenues.
Revenues from Japan, consisting of sales of digital chip sets for cellular
telephones and technology development services, accounted for 74%, 80% and 94%
of total revenues in 1998, 1997 and 1996, respectively. The Company's IS-136
TDMA and IS-95 CDMA chip sets are expected to produce significant revenues
outside of Japan in the future. The Company anticipates that revenues from
Japan will continue to account for a majority of its revenues in 1999, although
revenues outside of Japan are expected to continue to increase through 2000.
Although virtually all sales are denominated in United States dollars, a
material portion of the sales prices are quoted in, or linked to, yen-based
prices. In 1996, 1997 and 1998, the Company entered into dollar/yen option
contracts in order to hedge against increases in the value of the U.S. dollar
against the yen and to decrease exposure to currency-driven sales price
pressures.
COST OF REVENUES
COST OF PRODUCTS SOLD: Cost of products sold consists primarily of
materials, and, to a lesser extent, warranty costs. Cost of products sold was
$71.2 million in 1998, compared to $39.9 million in 1997, and $44.2 million in
1996. The increase in cost of products sold in 1998 was due to increased volume
sales of chip sets, while the decrease in 1997 was a result of a decline in
sales, primarily due to a product transition in the Japanese PDC market that
took place in the second quarter of 1997. The cost of products sold as a
percentage of product revenues was 56.1%, 51.9%, and 51.9%, for 1998, 1997 and
1996, respectively.
The Company anticipates that the average sales price of chip sets may
continue to decrease as a result of volume discounts and price pressures, which
would increase the cost of products sold as a percentage of product revenues;
however, any such price decreases may be offset to a certain extent by changes
in the Company's terms of trade, and further cost reductions from suppliers if
the Company's order volumes increase, and if the Company is successful in
negotiating such lower prices.
In connection with its license agreement for CDMA, DSPC has agreed to pay
royalties on certain sales based on specified rates. The Company initiated
payments of these royalties in 1998 upon commencement of sales of its CDMA
products. Royalty expenses in 1998 amounted to $744,000.
COST OF TECHNOLOGY DEVELOPMENT: Cost of technology development is
comprised primarily of engineering salaries, subcontractors' costs and related
costs. The costs of technology development contracts are recorded as incurred.
Cost of technology development decreased to $2.7 million in 1998 from $4.9
million in 1997 and $3.6 million in 1996. The cost of technology development
fluctuates depending on the number and size of technology development agreements
and the timing of related milestones.
16
<PAGE>
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses primarily consist of salaries and related
costs of employees engaged in ongoing research, design and development
activities, and materials and subcontracting costs. Research and development
expenses increased to $11.7 million in 1998 from $6.6 million in 1997 and $5.3
million in 1996. The increases were due to the increased level of activities in
connection with the development of CDMA and TDMA products, and the continued
growth in the number of engineering personnel and in projects under development.
As a percentage of total revenues, research and development expenses were 8.9%
in 1998, 8.1% in 1997 and 6.0% in 1996. The Company expects that its research
and development expenses will continue to increase in the future, in absolute
dollars.
SALES AND MARKETING EXPENSES
Sales and marketing expenses are mainly comprised of employee related
expenses, trade exhibition expenses, and charges for customer liaison services
in Japan. Sales and marketing expenses increased to $4.3 million (3.3% of
revenues) in 1998 from $4.1 million (5.0% of revenues) in 1997, and $3.7 million
(4.1% of revenues) in 1996. The increase in 1997 was a result of increased
promotion and marketing activities, and the increase in 1998 reflects the growth
of sales and marketing staff at the Company's headquarters in Cupertino,
California.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses were $9.5 million (7.3% of revenues) in
1998, compared to $8.4 million (10.2% of revenues) in 1997, and $12.2 million
(13.7% of revenues) in 1996 (including a charge of approximately $5.0 million in
connection with the termination of a proposed acquisition of Proxim, Inc.).
General and administrative expenses increased in 1998 and 1997 compared to
1996, in absolute dollars, as a result of increased facility expenses, increased
professional fees and administration expenses, including severance costs related
to management changes, in 1997, a one-time admission fee to the New York Stock
Exchange, and increased legal fees resulting from a class action that was filed
against the Company (described in Item 3 of the Company's annual report on Form
10-K for the year ended December 31, 1998).
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT
In the fourth quarter of 1998, the Company acquired substantially all of
the assets of Isotel Research Ltd., a developer of call processing software for
the digital cellular and personal communication services industry, and
subsequently recorded a charge of $3.8 million for acquired in-process
technology. The acquired in-process technology represents technology in the
development stage that had not yet reached technological feasibility and does
not have alternative future uses.
The value assigned to acquired in-process technology was determined by
identifying the research projects in areas for which technological feasibility
had not been achieved and assessing the date of completion of the research and
development effort. The state of completion was determined by estimating the
costs and time incurred to date relative to those costs and time to be incurred
to develop the acquired in-process technology into commercially viable products,
estimating the resulting net cash flows only from the percentage of research
and development efforts complete at the date of acquisition, and discounting the
net cash flows back to their present value. To determine the value of acquired
developed technology, the expected future cash flows of the existing developed
technologies were discounted taking into account the characteristics and
applications of the product, the size of existing markets, growth rates of
existing and future markets as well as the evaluation of past and anticipated
product-life cycles.
17
<PAGE>
At the date of acquisition, Isotel Research Ltd. had a total of 11
in-process projects, six of which relied upon some form of core technology which
carried over from previously released products. The other five projects were
estimated to be comprised of 100 percent in-process technology. The percentage
of completion for each of the in-process projects ranged up to 89% and the
aggregate cost to complete was estimated at approximately $3.2 million, of which
approximately $2.0 million was attributed to third generation technologies.
Revenues and related expenses for the developed and in-process technologies
were estimated from the acquisition date through 2005. Management's analysis
considered the anticipated product release dates for the acquired projects which
are between the years 1999 and 2002 and the estimated average life of these
technology projects of approximately three years. Management's aggregate
projections reflect revenue growth attributable to the development of new
technologies as well as the expanding market for call processing software
resulting from third generation technologies. Operating expenses, including
general and administrative, marketing and sales, were based on Isotel Research
Ltd.'s historical levels. The Company anticipates that certain products will
be generally released during 1999, with additional product releases through
2002. It is management's expectation that the acquired in-process research and
development will be successfully developed, however there can be no assurance
that commercial viability of these products will be achieved. In the event that
these products are not generally released in a timely manner, the Company may
experience fluctuations in future earnings as a result of such delays.
Management discounted the net cash flows of the developed and in-process
technologies to their present value using discount rates of 22% and 30%,
respectively. The in-process technology discount rate of 30% which is higher
than DSPC weighted average cost of capital ("WACC") was determined to be
reasonable due to the fact that the technology had not yet reached technological
feasibility as of the date of valuation. In utilizing a discount rate greater
than the WACC, management has reflected the risk premium associated with
achieving the projected cash flows associated with these projects.
INTEREST AND OTHER INCOME, NET
Interest and other income, net, includes interest and investment income,
foreign currency remeasurement gains and losses, and other miscellaneous
expenses. Interest and other income, net, in 1998 was $5.7 million compared to
$6.3 million in 1997, and $4.8 million in 1996.
Interest and other income, net, in 1998, 1997 and 1996 was generated
primarily from interest and realized gains on the Company's cash and investment
balances, which were at an average level of approximately $110 million, $118
million and $106 million in 1998, 1997 and 1996, respectively.
Other income fluctuates as a result of changes in the level of the
Company's cash and investment balances (which was primarily caused by the
repurchase of shares - see below, Liquidity and Capital Resources), changes in
the rate of exchange between the Japanese yen and the United States dollar and
between the Israeli shekel and the United States dollar, and fluctuations in the
available interest rates applicable to the Company's deposits and investments.
PROVISION FOR INCOME TAXES
The tax provisions for 1998, 1997 and 1996 have been favorably impacted by
the benefits of the Israeli "Approved Enterprise" status. The Approved
Enterprise status was granted according to investment plans and will allow the
Company's Israeli subsidiaries a two to four year tax holiday on undistributed
earnings, and a corporate tax rate of 10% to 25% for an additional six to eight
years on each of the investment plans' proportionate share of income. The
benefits under these current investment plans are scheduled to expire between
the years 2005 and 2008.
As of December 31, 1998, the Company had United States federal, state, and
Israel net operating loss carryforwards of approximately $34.0 million, $16.2
million and $5.3 million, respectively. The United
18
<PAGE>
States federal and state net operating loss carryforwards will expire at various
dates beginning in years 2001 through 2013. These loss carryforwards primarily
relate to stock option deductions, the benefit of which will be credited to paid
in capital when realized. The Israeli loss carryforwards have no expiration
date, but can only be used to offset certain Israeli subsidiary earnings.
The Company's effective tax rate was approximately 11% for 1998 (excluding
the charge for acquired in-process technology of $3.8 million) and 1997 and was
13% for 1996. The decrease in the Company's effective tax rate in 1998 as
compared to 1996, was mainly due to the increase in the Company's revenues,
which is allocated to an investment program within the "Approved Enterprises"
that benefits from a tax holiday, in 1998, and for 1997, the decrease from 1996
was mainly due to a tax refund received by one of the Company's Israeli
subsidiaries as a result of final tax assessments by the Israeli Income Tax
Authorities for the tax years up to and including the 1995 tax year. Over time,
the Company's tax rate is expected to increase due to the elimination of the tax
benefits awarded with the Approved Enterprise status, as well as potential
increases due to rules regarding controlled foreign corporations ("CFC").
Losses incurred by the Company or any of its subsidiaries in one country
generally will not be deductible by entities in other countries in the
calculation of their respective local taxes. Likewise, losses generated by one
Israeli entity will not offset income generated by another Israeli entity.
Therefore, losses incurred by one Israeli entity or a combined loss of the U.S.
entities will increase the Company's effective tax rate.
The Company believes that, based upon a number of factors, the available
objective evidence creates sufficient uncertainty regarding the realizability of
the deferred tax asset such that a partial valuation allowance has been
provided. The deferred tax asset recorded of $2.2 million is realizable based
upon current levels of future taxable income on a jurisdictional basis. The
Company will continue to assess, on a quarterly basis, the realizability of the
deferred tax assets based on actual and forecasted operating results of each
legal entity. The unbenefited U.S. deferred tax assets primarily relate to
stock option deductions, the benefit of which will be credited to paid in
capital when realized.
DSP Technologies Ltd., DSP Telecom, DSPC Israel Ltd. and CTP Systems
(collectively, the "Israeli Companies") are CFCs for United States income tax
purposes. Accordingly, all or a portion of the earnings of these Israeli
Companies are subject to United States taxation if, among other things, the
Israeli Companies lend funds to the Company or otherwise invest in certain
proscribed assets; or the Israeli Companies engage in various types of
transactions defined in the Subpart F provisions of the United States Internal
Revenue Code. However, if the Israeli Companies' earnings become subject to
United States taxation, DSPC may be eligible to utilize its Israeli and other
foreign income taxes as a credit against its United States income taxes. The
Company believes that its existing plans will minimize the impact of the CFC
rules for the immediate future, subject to any changes in United States tax laws
that may occur. However, over time, the CFC rules may cause the Company's tax
rate to increase.
FOREIGN CURRENCY ISSUES AND IMPACT OF RATE OF INFLATION
The United States dollar is the Company's functional currency as it is the
primary currency in the economic environment in which the Company operates.
Accordingly, monetary accounts maintained in currencies other than the dollar
(principally cash and liabilities) are remeasured using the foreign exchange
rate at the balance sheet date. Operational accounts and nonmonetary balance
sheet items are remeasured and recorded at the rate in effect at the date of
transaction. The effects of foreign currency remeasurement, which have not been
material to date, are reported in current operations.
While most of the Company's revenues and costs are denominated in United
States dollars, a material portion of the sales prices for certain products sold
by the Company, and prices for certain components purchased by the Company, are
quoted in, or linked to, yen-based prices. Therefore, fluctuations in the
exchange rate of the yen in relation to the United States dollar could have a
material adverse effect on the Company's results of operations and financial
condition.
19
<PAGE>
A portion of the Company's expenses is denominated in Israeli shekels. The
Company's primary expense paid in Israeli currency is Israeli-based employee
salaries. In addition, the Company also has certain Israeli shekel-based
liabilities and assets. As a result, fluctuations in the value of Israeli
currency in comparison to the United States dollar and inflationary pressures on
the Israeli shekel could affect the cost of technology development, research and
development expenses, general and administrative expenses and the Company's
effective income tax rate and could have a material adverse effect on the
Company's results of operations. The rate of inflation in Israel in 1998, 1997
and 1996 was 8.6%, 7.0%, and 10.6%, respectively.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1998, the Company had $93.9 million of cash, cash
equivalents and short-term investments, compared to $116.6 million as of
December 31, 1997. The Company uses independent foundries to fabricate its
baseband chip set products, minimizing its need to invest in manufacturing
equipment and to develop integrated circuit fabrication processes. However, the
Company relies on its independent foundries to achieve acceptable manufacturing
yields and to allocate to the Company a sufficient portion of foundry capacity
to meet the Company's needs. The Company to date has ordered products from its
foundries primarily upon receipt of orders for chip sets from its distributors
or OEM customers and has not maintained any significant inventory of its chip
sets. This strategy allows the Company to avoid utilizing its capital resources
for manufacturing facilities and inventory and allows the Company to focus
substantially all of its resources on the design, development and marketing of
its products. The Company maintains limited inventory in anticipation of orders
from its distributors or OEM customers. CTP Systems manufactures its wireless
PBX systems product primarily through external subcontractor assembly
facilities. To date, production of wireless PBX systems has been limited and
has not had a material effect on the Company's liquidity or capital resources.
The Company has financed its operations and investments in capital
equipment primarily through cash provided by operations. The Company received
gross proceeds of approximately $75.6 million from a follow-on public offering
completed in April 1996. In 1998, the Company repurchased 4,500,900 shares of
its common stock in its share repurchase program, using an aggregate of
approximately $44.4 million. A total of 10,370,700 shares have been repurchased
through December 31, 1998, with a total aggregate purchase price of
approximately $97.0 million. In addition, subsequent to December 31, 1998 and
through March 4, 1999, the Company repurchased an additional 609,100 shares for
approximately $9.0 million. The Company may from time to time repurchase
additional shares of its Common Stock under its share repurchase program.
The Company's operating activities provided cash of $30.3 million in 1998,
$18.0 million in 1997 and $32.9 million in 1996. Net cash provided from
operations in 1998 was comprised primarily of net income, an increase in current
liabilities, less a net increase in current assets. Trade accounts receivable
increased to $29.4 million at December 31, 1998, due to the timing of shipments
and payment terms. Accounts receivable have to date been primarily from the
Company's distributors in Japan and the United States, which accounted for 83%
and 85% of the Company's accounts receivable at December 31, 1998. The
Company's write-offs of accounts receivable have not been material to date.
The Company's investing activities in 1998, other than purchases of and
proceeds from sales and maturities of short-term investments, have consisted of
the acquisition of substantially all of the assets of Isotel Research Ltd. for
$11.0 million and expenditures for fixed assets, which totaled $3.1 million.
The Company, which was incorporated in November 1994, succeeded to the
business of DSP Telecommunications Ltd., an Israeli company ("DSP Telecom"),
pursuant to a reorganization completed upon the closing of the Company's initial
public offering in March 1995 under which DSP Telecom became a wholly owned
subsidiary of the Company (the "Reorganization"). In obtaining approval of the
Reorganization from Israeli tax authorities, which was completed immediately
before the closing of the IPO, the Company agreed to invest in activities in
Israel an amount of not less than $9.0 million out of the
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proceeds of the IPO within three years after the IPO. In 1998, the Company
received approval from the Israeli Tax Authorities for a two year extension of
this requirement until March 2000. Through December 31, 1998, $7.8 million has
been transferred to Israel.
As of December 31, 1998, the Company also had issued bank guarantees and
letters of credit totaling $2.5 million.
While operating activities may provide cash in certain periods, to the
extent the Company may experience growth in the future, the Company anticipates
that its operating and investing activities may use cash and consequently, such
growth may require the Company to obtain additional sources of financing. The
Company may also from time to time consider the acquisition of complementary
businesses, projects or technologies which may require additional financing or
require the use of a significant portion of its existing cash, although the
Company has no present understandings, commitments or agreements, nor is it
engaged in any discussions or negotiations with respect to any such transaction.
The Company believes that its existing cash, cash equivalents and
short-term investment balances, will be sufficient to meet its cash requirements
for at least the next twelve months.
IMPACT OF YEAR 2000
Many currently installed computer systems and software products experience
problems handling dates beyond the year 1999 and will need to be modified before
the year 2000 in order to remain functional. As a result, before the year 2000,
computer systems and/or software products and applications used by many
companies may need to be upgraded to comply with such year 2000 requirements.
The Company is currently expending resources to review its internal
systems, products and the readiness of third parties with whom it has business
relationships and has assigned a dedicated task force to develop and implement a
year 2000 plan (the "Plan") which is designed to cover all of the Company's
activities. The Plan, which has executive sponsorship, is reviewed regularly by
senior management and includes the evaluation of both information technology
("IT") and non-IT systems, and consists of five steps.
Step one involved increasing awareness by educating and involving all
appropriate levels of management regarding the need to address year 2000 issues.
Step two consisted of identifying all of the Company's systems, products and
relationships that may be impacted by year 2000. Step three involved
determining our current state of year 2000 readiness for those areas identified
in step two and prioritizing areas that need to be fixed. Step four consisted
of developing a plan for those areas identified as needing correction. Step
five consists of the implementation and execution of the Company's Plan and
completing the steps identified to attain year 2000 readiness. The Company is
currently executing step five. Based on the Company's assessment to date, it has
determined that it is unlikely that it has any exposure to contingencies related
to the year 2000 issue for the products that it has sold, that all of the
Company's products that are currently being sold are year 2000 compliant and
that the Company expects to complete implementation by the middle of 1999.
The majority of the costs associated with this effort are not incremental
to the Company, but represent a reallocation of existing resources. The Company
believes that modifications deemed necessary will be made on a timely basis and
does not believe that the cost of such modifications will have a material effect
on the Company's operating results. To date, the Company's costs related to the
year 2000 issues have amounted to approximately $40,000 and the Company does not
expect the aggregate amount spent on the year 2000 issue to exceed $90,000. In
addition, the Company is in the process of evaluating the need for contingency
plans with respect to year 2000 requirements. The necessity of any contingency
plan must be evaluated on a case-by-case basis and may vary considerably in
nature depending on the year 2000 issue it may address.
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The Company's expectations as to the extent and timeliness of modifications
required in order to achieve year 2000 compliance is a forward-looking statement
subject to risks and uncertainties. Actual results may vary materially as a
result of a number of factors, including, among others, those described above in
this section. There can be no assurance however, that unexpected delays or
problems, including the failure to ensure year 2000 compliance by systems or
products supplied to the Company by third parties, will not have an adverse
effect on the Company, its financial performance and results of operations. In
addition, the Company cannot predict the effect of the year 2000 issues on its
customers or the resulting effect on the Company. As a result, if such
customers do not take preventative and/or corrective actions in a timely manner,
the year 2000 issue could have an adverse effect on their operations and
accordingly have a material adverse effect on the Company's business, financial
condition and results of operations. Furthermore, the Company's current
understanding of expected costs is subject to change as the project progresses
and does not include the cost of internal software and hardware replaced in the
normal course of business whose installation otherwise may be accelerated to
provide solutions to year 2000 compliance issues.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
This Form 10-K contains forward looking statements concerning our existing
and future products, markets, expenses, revenues, liquidity, performance and
cash needs as well as our plans and strategies. These forward looking
statements involve risks and uncertainties and are based on current management
expectations, and we are not obligated to update this information. Many factors
could cause actual results and events to differ significantly from the results
anticipated by us and described in these forward looking statements, including
but not limited to the following risk factors.
WE RELY ON A LIMITED NUMBER OF CHIP SET PRODUCTS USED IN DIGITAL WIRELESS
TELEPHONES; WE MUST MAINTAIN AND INCREASE SALES OF EACH OF OUR PRODUCTS AND
DEVELOP NEXT-GENERATIONS OF OUR PRODUCTS TO BE SUCCESSFUL
Unlike companies that sell a large number of products, substantially all of
our sales are from only three chip set products used in cellular telephones.
Because we sell so few products, a decrease or slowdown in sales of any single
product could have a material adverse effect on our results and financial
condition. Our success will also depend on our ability to develop and market
successive generations of these products. To succeed in the future, we may also
need to develop and market new products. If we are not successful in
developing, manufacturing and marketing next-generation products or any new
products, our business and results of operations could be materially and
adversely affected.
WE COULD BE ADVERSELY AFFECTED BY ANY DECREASE IN THE GROWTH OF THE WORLDWIDE
DIGITAL CELLULAR MARKETS IN WHICH WE SELL OUR PRODUCTS
Our increasing sales of chip set products have resulted to date largely
from the rapid growth of the global digital wireless telephone markets in which
we sell our chip set products. A slowdown in the growth of any of these markets
could have a material adverse effect on our business.
WE SELL TO A SMALL NUMBER OF CUSTOMERS; THE LOSS OF EITHER OF OUR DISTRIBUTORS
OR ANY OF OUR CUSTOMERS COULD HAVE ADVERSE CONSEQUENCES
We sell substantially all of our baseband chip sets for digital cellular
telephones to Tomen Electronics Corp., our distributor in Japan, and to Tomen
Electronics America Inc., our distributor in the United States. These
distributors sell our products to a small number of cellular telephone
manufacturer customers. During 1998, seven cellular telephone manufacturer
customers accounted for substantially all of the sales of our personal digital
cellular, or PDC, baseband chip sets, while two cellular telephone manufacturers
accounted for all sales of our time division multiple access, or TDMA, chip
sets, and two customers accounted for all sales of our code division multiple
access, or CDMA, chip sets. The loss of either of our distributors or the loss
of or significant reduction in the distributors' sales to any of these
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cellular telephone manufacturers could have a material adverse effect on our
business, financial condition and results of operations.
Because a small number of large corporations dominate the worldwide
cellular telephone equipment industry, we expect that we will continue to sell
most of our products to a limited number of cellular telephone manufacturers.
We also believe that the manufacture of subscriber equipment for new
telecommunications services, such as personal communications services, will be
concentrated in a limited number of cellular telephone manufacturers. As a
result, our business is likely to continue to depend on large orders from a
small number of distributors and cellular telephone manufacturers, and our
success will depend largely on gaining additional cellular telephone
manufacturer customers both in our current markets and in new Markets. We could
suffer a material adverse effect on our business, financial condition and
results of operations if we lose any existing cellular telephone manufacturer
customer, if any existing customer significantly reduces its purchases of our
products, or if we fail to gain additional customers.
IF OUR CELLULAR TELEPHONE MANUFACTURER CUSTOMERS DO NOT SUCCEED, WE WILL NOT
SUCCEED
Sales of our PDC, TDMA and CDMA chip sets will depend on the success of our
cellular telephone manufacturer customers in developing, introducing and
marketing competitive handsets using these chip sets, and in successfully
competing in their intensely competitive wireless personal communications
markets. In addition, our subsidiary, CTP Systems, will depend on the success
of its manufacturer customers in the market for intra-office wireless
communications systems, known as private branch exchange, or PBX, systems, for
sales of CTP Systems' wireless PBX systems. We will not be successful if our
customers are not successful.
WE COMPETE IN DIGITAL WIRELESS TELEPHONE CHIP SET MARKETS AGAINST COMPANIES WITH
GREATER RESOURCES
The digital wireless telephone chip set market is intensely competitive.
Many of our competitors have entrenched market positions, established patents,
copyrights, tradenames, trademarks and other intellectual property rights and
substantial technological capabilities. Our current and potential competitors
in the digital cellular market include:
- - other manufacturers and suppliers of digital signal processing-based chip
sets,
- - cellular telephone manufacturers that develop chip set solutions
internally, and
- - smaller companies offering design solutions.
Many of these competitors have significantly greater financial, technical,
manufacturing, marketing, sales and distribution resources and management
expertise than we do. We believe that we will rely on our ability to compete
successfully based on price, quality, availability, performance and features of
our products, timing of our new product introductions, and customer service and
technical support. Other factors outside our control will also affect our
ability to compete, such as pricing by our competitors, and the timing and
quality of their new product introductions. We may not have the financial
resources, technical expertise, intellectual property, or marketing, sales,
distribution and customer service and technical support capabilities to compete
successfully.
DECLINING SALES PRICES OF CHIP SETS COULD ADVERSELY IMPACT OUR FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Prices of wireless personal communications equipment have declined, and we
expect this decline to continue. As a result, prices for our chip set products
have declined and will likely continue to decline. In addition, pricing
competition among handset manufacturers and component suppliers has increased.
If we are unable to offset these price decreases with either increases in unit
volume, changes in our terms of trade, or reductions in per unit costs, our
gross profit would be adversely affected. Since cellular telephone
manufacturers often negotiate supply arrangements well in advance of delivery
dates, we must often commit to price reductions for our products before we are
aware of how, or if, adequate cost reductions can be
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obtained. If we are unable to lower costs in response to these price reduction
commitments, our business, financial condition and results of operations could
be materially and adversely affected. In addition, our inability to respond to
increased price competition would have a material adverse effect on our
business, financial condition and results of operations.
RISKS RELATED TO NEW MARKETS FOR OUR TDMA, CDMA AND WIRELESS PBX PRODUCTS
Our success in marketing our TDMA-based and CDMA-based chip sets will
depend on, among other things, the success of the relatively new TDMA and CDMA
standards and growth of these markets worldwide. These standards may not be
widely adopted, and our TDMA or CDMA chip sets or successive generations of
these products may not be successful in the marketplace. In addition, increased
sales of CTP Systems' wireless PBX systems will depend on, among other things,
growth in the market for PBX systems and other low-mobility wireless
communications applications. This market has to date not grown as fast as
previously anticipated, and may not become large enough to support significant
sales of CTP Systems' products.
OUR SUCCESS DEPENDS IN LARGE PART ON OUR SUCCESS IN THE JAPANESE MARKET
Our future performance will depend, in large part, upon our ability to
continue to compete successfully in the Japanese market. A number of factors
could adversely impact our ability to do so, including any deterioration of
existing trade relations between Japan, Israel and the United States, the
imposition of tariffs in the wireless personal communications industry, or any
adverse changes in Japanese political conditions, trade policy or
telecommunications regulations. To remain competitive in Japan, we must also
continue to develop products that meet the technical requirements of our
Japanese customers and maintain satisfactory relationships with our Japanese
customers and distributors. Our inability to compete in Japan for any reason
could have a material adverse effect on our business, financial condition and
results of operations.
DECLINE IN JAPANESE AND OTHER ECONOMIES COULD HAVE ADVERSE CONSEQUENCES
Since we sell a large percentage of our products in Japan, the current
difficulties in the Japanese economy may materially affect our revenues. If the
Japanese economy remains weak or declines further, our business, financial
condition and results of operations could be materially and adversely affected.
An increasing amount of our sales are made to cellular telephone
manufacturers for sale outside of Japan. The economies of other global regions
in which we or our customers do business, such as North and South America and
South Korea, may also be negatively affected by the current economic
difficulties in Japan and Asia and other causes. Deterioration of economic
conditions in these regions could have a material negative impact on our
business, financial condition and results of operations.
FLUCTUATION OF EXCHANGE RATES BETWEEN US DOLLAR AND JAPANESE YEN COULD HAVE
ADVERSE EFFECTS
While virtually all of our sales to our Japanese customers are denominated
in United States dollars, a material portion of the sales prices for certain
products we sell to these customers are quoted in dollars linked to Japanese
yen-based prices. Fluctuations in the exchange rate for the United States
dollar in relation to the yen could materially affect the price of our products
in Japan and could have a material adverse effect on our sales and results of
operations. In addition, an increasing number of the components used in our
products are quoted in or linked to yen based prices, and an increase in the
value of yen relative to the United States dollar could materially increase the
cost of these materials. This increase could have a material adverse effect on
our results of operations and financial condition.
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RISKS OF INTERNATIONAL OPERATIONS, PARTICULARLY IN ISRAEL
We market and sell our products internationally and have offices and
operations in Israel, Japan and Canada in addition to our offices in the United
States. We are therefore subject to the many risks of doing business
internationally and in maintaining international operations, including:
- - unexpected changes in regulatory requirements,
- - fluctuations in the exchange rate for the United States dollar,
- - the impact of recessions in economies outside the United States,
- - the imposition of tariffs and other barriers and restrictions,
- - the burdens of complying with a variety of foreign laws,
- - global political and economic instability, and
- - changes in diplomatic and trade relationships.
Our principal research and development facilities are located in Israel,
and over 80% of our employees are located in Israel, including a substantial
portion of our senior management and research and development personnel.
Israel's political, economic and military conditions therefore directly affect
us. In addition, we pay many of our expenses in Israel with Israeli currency,
and we are subject to foreign currency fluctuations and to economic pressures
resulting from Israel's generally high rate of inflation. While our functional
currency is the United States dollar, a portion of our expenses, including
Israeli based employee salaries, are denominated in Israeli shekels. In
addition, we also have certain Israeli shekel-based liabilities and assets. As
a result, fluctuations in the value of Israeli currency in comparison to the
United States dollar and inflationary pressures on the Israeli shekel could
increase the cost of technology development, research and development expenses,
general and administrative expenses and our effective income tax rate. Currency
fluctuations, changes in the rate of inflation in Israel or any of the other
factors noted above may have a material adverse effect on our business,
financial condition and results of operations.
RISK OF INCREASED INCOME TAXES IN ISRAEL AND THE UNITED STATES
DSPC Israel Ltd. and CTP Systems, two of our Israeli subsidiaries, operate
as "Approved Enterprises" under Israel's Law for the Encouragement of Capital
Investments, 1959. An Approved Enterprise is eligible for significant income
tax rate reductions for several years following the first year in which it has
income subject to taxation in Israel, after consideration of tax losses carried
forward. This favorable tax treatment may not continue, and any change in this
tax treatment could have a material adverse effect on our net income and results
of operations. We are not currently aware of any circumstances that might cause
us to lose our favorable tax treatment. If Israel's tax incentives or rates
applicable to DSPC Israel or CTP Systems are rescinded or changed, their income
taxes could increase and their results of operations and cash flow would be
adversely affected. In addition, our income tax rate would increase if any of
the earnings of our Israeli subsidiaries were to become subject to United States
federal and state income tax as a result of actual or deemed dividends or
through operation of United States tax rules applicable to "controlled foreign
corporations."
The effective income tax rate of DSPC Israel and CTP Systems is sensitive
to the relationship between the rate of inflation in Israel and to the change in
the rate of exchange between the US dollar and the Israeli shekel. As a result,
fluctuations in this rate of exchange in relation to the rate of inflation in
Israel could increase our effective income tax rate and as a result have a
material adverse effect on our net income and results of operations.
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SHORT VISIBILITY FOR FUTURE PRODUCT ORDERS COULD ADVERSELY AFFECT QUARTERLY
OPERATING RESULTS
The market for our chip sets is characterized by short-term order and
shipment schedules. Accordingly, since our revenue expectations and planned
operating expenses are in large part based on estimates rather than on firm
customer orders, our quarterly operating results could be materially adversely
affected if orders and revenues do not meet expectations.
THE FAILURE OF THIRD PARTIES ON WHICH WE RELY TO MANUFACTURE OUR INTEGRATED
CIRCUIT PRODUCTS COULD ADVERSELY AFFECT FUTURE OPERATIONS
All of our integrated circuit products and certain of the components
included in CTP Systems' products are currently made by independent third
parties, and we intend to continue using independent foundries in the future.
Accordingly, we are and will remain dependent on independent foundries to
achieve acceptable manufacturing yields, to allocate to us a sufficient amount
of foundry capacity to meet our needs and to offer us competitive pricing.
Although we have not had any material quality, allocation or pricing problems to
date, if we do have any problems in the future, they would have a material
adverse effect on our business, financial condition and results of operations.
OUR STOCK PRICE HAS BEEN AND MAY CONTINUE TO BE HIGHLY VOLATILE
The price of our common stock has been particularly volatile and will
likely continue to fluctuate in the future. Certain of the factors which may
cause the price of our common stock and our quarterly operating results to
fluctuate include:
- - the timing of our new product introductions and of new product
introductions by our cellular telephone manufacturer customers,
- - the timing of product introduction by our competitors and our customers'
competitors,
- - changes in general economic conditions, particularly in Japan, South Korea,
other countries in the Far East and North and South America,
- - the timing of adoption of new cellular technologies and standards,
- - the mix of products sold,
- - the quality and availability of chip sets manufactured for us by third
parties,
- - acquisitions of other businesses,
- - the timing of sales of wireless subscriber equipment by our customers, and
- - fluctuations in the exchange rates of the currencies in which we do
business.
It is possible that in some future quarter, our operating results may be below
public market analyst and investor expectations. If that occurs, the price of
our stock may fall. In addition, in recent years the stock market in general,
and the market for shares of technology stocks such as ours in particular, have
experienced extreme price fluctuations, which have often been unrelated to the
operating performance of affected companies. Such fluctuations could have a
material adverse effect on the market price of our common stock.
RISK OF SECURITIES LITIGATION
In the past, we have been the object of securities class action litigation
in connection with the volatility of the market price of our common stock. If
we were the object of additional securities class action litigation in the
future, it could result in substantial costs and a diversion of management's
attention and resources.
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WE MAY BE UNABLE TO ENFORCE OUR INTELLECTUAL PROPERTY RIGHTS
Although we have made efforts to protect our intellectual property rights,
other unauthorized parties may be able to copy portions of our products or
reverse engineer or obtain or use technology or other information that we regard
as proprietary. In addition, the laws of the countries in which our products
are or may be developed, manufactured or sold, including Hong Kong, Japan, South
Korea and Taiwan, may not protect our products and intellectual property rights
to the same extent as the laws of the United States.
WE MAY BE SUBJECT TO INFRINGEMENT CLAIMS BY THIRD PARTIES
Both the semiconductor and the wireless personal communications industries
are subject to frequent litigation regarding patent and other intellectual
property rights. Leading companies and organizations in the wireless personal
communications industry have numerous patents that protect their intellectual
property rights in these areas. Third parties may assert claims against us, our
distributors or our customers with respect to our existing and future products.
In the event of litigation to determine the validity of any third party's
claims, we could be required to expend significant resources and divert the
efforts of our technical and management personnel, whether or not such
litigation is determined in our favor. In the event of an adverse result of any
such litigation, among other requirements, we could be required to develop
non-infringing technology; to obtain licenses to the technology that is the
subject of the litigation; or to indemnify our customers from their damages
under certain contracts. We may not be successful in developing non-infringing
technology or in obtaining a license to use the technology on commercially
reasonable terms.
MANAGEMENT OF GROWTH
The growth and development in our business has placed, and is expected to
continue to place, a significant strain on our management and operations. To
manage our growth and development, we must continue to implement and improve our
operational, financial and management information systems and expand, train and
manage our employees. The anticipated increase in product development, general
and administrative, and marketing and sales expenses coupled with our reliance
on wireless telephone equipment manufacturers to successfully market and develop
products that use our products could have an adverse effect on our performance.
Our failure to manage growth effectively and efficiently could have a material
adverse effect on our business, financial condition and results of operations.
FUTURE ACQUISITIONS
Our strategy includes obtaining additional technologies and may involve
acquisitions of products, technologies or businesses from third parties.
Identifying and negotiating these acquisitions may divert substantial management
resources. An acquisition could use substantial cash, could require us to incur
or assume debt obligations, or could involve the issuance of additional common
or preferred stock. The issuance of additional stock would dilute existing
stockholders and could represent an interest senior to the rights of our then
outstanding common stock. An acquisition that is accounted for as a purchase
could involve significant one-time, non-cash write-offs, or could involve the
amortization of goodwill and other intangibles over a number of years, which
would adversely affect earnings in those years. Public market analysts may view
acquisitions outside the digital communications area as a diversion of our focus
on digital communications. For these and other reasons, the market for our
stock may react negatively to the announcement of any acquisition. An
acquisition will continue to require attention from our management to integrate
the acquired entity into our operations and may require us to develop expertise
in fields outside our current area of focus. Management of the acquired entity
may leave after the purchase. An acquired entity may have unknown liabilities,
and its business may not achieve the results anticipated at the time of the
acquisition.
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the normal course of business, the financial position of the Company is
routinely subjected to a variety of risks, including market risk associated with
interest rate movements and currency rate movements on non-U.S. dollar
denominated assets and liabilities, as well as collectibility of accounts. The
Company regularly assesses these risks and has established policies and business
practices to protect against the adverse effects of these and other potential
exposures. As a result, the Company does not anticipate material losses in these
areas.
For purposes of specific risk analysis, the Company uses sensitivity
analysis to determine the impacts that market risk exposures may have on the
fair values of the Company's financial instruments. The financial instruments
included in the sensitivity analysis consist of all of the Company's cash and
cash equivalents, short-term investments and all derivative financial
instruments. Currency forward contracts constitute the Company's portfolio of
derivative financial instruments.
To perform sensitivity analysis, the Company assesses the risk of loss in
fair values from the impact of hypothetical changes in interest rates and
foreign currency exchange rates on market sensitive instruments. The market
values for interest risk are computed based on the present value of future cash
flows as impacted by the changes in rates attributable to the market risk being
measured. The discount rates used for the present value computations were
selected based on market interest rates in effect at December 31, 1998. The
market values for foreign exchange risk are computed based on spot rates in
effect at December 31, 1998. The market values that result from these
computations are compared to the market values of these financial instruments at
December 31, 1998. The differences in this comparison are the hypothetical
gains or losses associated with each type of risk.
The results of the sensitivity analysis are as follows:
Interest Rate Risk: A 10% decrease or a 10% increase in the levels of
interest rates with all other variables held constant would not materially
affect the fair value of the Company's financial instruments at December 31,
1998.
Foreign Currency Exchange Rate Risk: A 10% movement in levels of foreign
currency exchange rates, 20% for Asian currencies, against the U.S. dollar with
all other variables held constant would result in a $900,000 change in the fair
value of the Company's financial instruments at December 31, 1998.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The response to this Item is submitted as a separate section of this Form
10-K. See Item 14.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information regarding directors and executive officers required by Item
10 is incorporated by reference from the information under the captions
"Election of Directors," "Directors and Executive Officers" and "Section 16(a)
Beneficial Ownership Reporting Compliance" in the Company's definitive proxy
statement for its annual meeting of stockholders to be held on May 11, 1999.
ITEM 11. EXECUTIVE COMPENSATION
The information required by Item 11 is incorporated by reference from the
information under the caption "Executive Compensation and Other Information" in
the Company's definitive proxy statement for its annual meeting of stockholders
to be held on May 11, 1999.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by Item 12 is incorporated by reference from the
information under the caption "Security Ownership of Certain Beneficial Owners
and Management" in the Company's definitive proxy statement for its annual
meeting of stockholders to be held on May 11, 1999.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by Item 13 is incorporated by reference from the
information under the caption "Certain Relationships and Related Transactions"
in the Company's definitive proxy statement for its annual meeting of
stockholders to be held on May 11, 1999.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)1. FINANCIAL STATEMENTS
The financial statements filed as a part of this report are
identified in the Index to Consolidated Financial Statements on page F-1.
(a)2. FINANCIAL STATEMENT SCHEDULES
The following financial statement schedule is filed as part of
this Report:
PAGE
----
Schedule II - Valuation and Qualifying Accounts . . . . . . . S-1
Schedules not listed above have been omitted because the
information required to be set forth therein is not applicable or is shown in
the financial statements or notes thereto.
(a)3. EXHIBITS
The following exhibits are filed herewith or are incorporated by
reference to exhibits previously filed with the Securities and Exchange
Commission. The Registrant shall furnish copies of exhibits for a reasonable
fee (covering the expense of furnishing copies) upon request.
EXHIBIT
NUMBER EXHIBIT TITLE
- ------- -------------
3.1 Amended and Restated Certificate of Incorporation of the Registrant
(Filed as Exhibit 3.1 to the Registrant's Registration Statement on
Form S-1, File No. 33-87506, as declared effective on March 7, 1995,
and incorporated herein by reference).
3.1A Certificate of Amendment of Amended and Restated Certificate of
Incorporation, dated March 5, 1996 (Filed as Exhibit 3.1A to the
Registrant's Annual Report on Form 10-K for the year ended December
31, 1995, as filed on March 30, 1996, and incorporated herein by
reference).
3.1B Certificate of Amendment of Amended and Restated Certificate of
Incorporation, dated November 13, 1996 (Filed as Exhibit 3.1B to the
Registrant's Annual Report on Form 10-K for the year ended December
31, 1996, as filed on March 24, 1997, and incorporated herein by
reference).
3.2 Bylaws of the Registrant (Filed as Exhibit 3.2 to the Registrant's
Registration Statement on Form S-1, File No. 33-87506, as declared
effective on March 7, 1995, and incorporated herein by reference).
3.3 Written Consent dated January 26, 1995, amending the Bylaws of the
Registrant (Filed as Exhibit 3.7 to the Registrant's Registration
Statement on Form S-1, File No. 33-87506, as declared effective on
March 7, 1995, and incorporated herein by reference).
30
<PAGE>
EXHIBIT
NUMBER EXHIBIT TITLE
- ------- -------------
3.4 Resolution adopted by the Board of Directors at a meeting of the Board
held on July 14, 1998, amending the Bylaws of the Registrant (Filed as
Exhibit 3.4 to the Registrant's Quarterly Report on Form 10-Q for the
fiscal quarter ended June 30, 1998, as filed on August 13, 1998, and
incorporated herein by reference).
10.1 Form of Indemnification Agreement for directors and executive officers
(Filed as Exhibit 10.1 to the Registrant's Registration Statement on
Form S-1, File No. 33-87506, as declared effective on March 7, 1995,
and incorporated herein by reference).
10.2* 1995 Director Stock Option Plan, as amended (Filed as Exhibit 10.2 to
the Registrant's Annual Report on Form 10-K for the year ended
December 31, 1997, as filed on March 19, 1998, and incorporated herein
by reference).
10.3* 1995 Employee and Consultant Stock Plan (Filed as Exhibit 10.3 to the
Registrant's Registration Statement on Form S-1, File No. 33-87506, as
declared effective on March 7, 1995, and incorporated herein by
reference).
10.4* 1995 Employee Stock Purchase Plan (Filed as Exhibit 10.5 to the
Registrant's Registration Statement on Form S-1, File No. 33-87506, as
declared effective on March 7, 1995, and incorporated herein by
reference).
10.5 Non-Exclusive Distribution Agreement dated as of January 1, 1994,
between DSP Telecom and Tomen Electronics Corp. (Filed as Exhibit 10.1
to the Registrant's Current Report on Form 8-K, as filed on February
26, 1998, and incorporated herein by reference).
10.6 Technology Assignment and License Agreement dated as of January 7,
1994 between DSP Group and DSP Telecom (Filed as Exhibit 10.14 to the
Registrant's Registration Statement on Form S-1, File No. 33-87506, as
declared effective on March 7, 1995, and incorporated herein by
reference).
10.7 License Agreement dated as of March 25, 1994 between DSP Telecom and
DSP Semiconductors USA, Inc. (Filed as Exhibit 10.15 to the
Registrant's Registration Statement on Form S-1, File No. 33-87506, as
declared effective on March 7, 1995, and incorporated herein by
reference).
10.8 Lease Agreement dated February 21, 1991 for a portion of the
Registrant's facilities located in Givat Shmuel, Israel, together with
documentation transferring the Lease from DSP Semiconductors Ltd. to
DSP Telecom (in Hebrew) (Filed as Exhibit 10.27 to the Registrant's
Registration Statement on Form S-1, File No. 33-87506, as declared
effective on March 7, 1995, and incorporated herein by reference).
10.9 Lease Agreement dated February 21, 1991 for a portion of the
Registrant's facilities located in Givat Shmuel, Israel, together with
documentation transferring the Lease from DSP Semiconductors Ltd. to
DSP Telecom (in English) (Filed as Exhibit 10.28 to the Registrant's
Registration Statement on Form S-1, File No. 33-87506, as declared
effective on March 7, 1995, and incorporated herein by reference).
31
<PAGE>
EXHIBIT
NUMBER EXHIBIT TITLE
- ------- -------------
10.10 Development and License Agreement dated May 1, 1993 between Texas
Instruments Incorporated and DSP Telecom (Filed as Exhibit 10.2 to the
Registrant's Current Report on Form 8-K, as filed on February 26,
1998, and incorporated herein by reference).
10.11 Lease Agreement dated December 15, 1994 for the Registrant's
headquarters located in Cupertino, California (Filed as Exhibit 10.30
to the Registrant's Registration Statement on Form S-1, File No.
33-87506, as declared effective on March 7, 1995, and incorporated
herein by reference).
10.12 Development and License Agreement dated as of March 31, 1993 between
NEC Electronics Inc. and DSP Telecom, Inc. (Filed as Exhibit 10.33 to
the Registrant's Registration Statement on Form S-1, File No.
33-87506, as declared effective on March 7, 1995, and incorporated
herein by reference).
10.13 Addendum No. 1 to Lease Agreement between Multiline Service
International Limited and DSP Semiconductors Ltd. and DSPC Israel Ltd.
dated December 3, 1995, together with Guarantee by DSP Communications
Inc. (in English & Hebrew) (Filed as Exhibit 10.36 to the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1995, as
filed on March 30, 1996, and incorporated herein by reference).
10.14 Addendum No. 2 to Lease Agreement between Multiline Service
International Limited and DSPC Israel Ltd., dated December 3, 1995 (in
English and Hebrew) (Filed as Exhibit 10.37 to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1995, as filed on
March 30, 1996, and incorporated herein by reference).
10.15 Lease Agreement for CTP Systems' facility located in Petah-Tikva,
Israel (in Hebrew) (Filed as Exhibit 10.38 to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1995, as filed on
March 30, 1996, and incorporated herein by reference).
10.16* 1996 Stock Option Plan (Filed as Exhibit 10.42 to the Registrant's
Quarterly Report on Form 10-Q for the quarter ended September 30,
1996, as filed on November 14, 1996, and incorporated herein by
reference).
10.17* Amendment to Employment Agreement, dated as of November 5, 1997,
between DSP Telecom, Inc. and Davidi Gilo (Filed as Exhibit 10.23 to
the Registrant's Annual Report on Form 10-K for the year ended
December 31, 1997, as filed on March 19, 1998, and incorporated herein
by reference).
10.18* Employment Agreement, dated as of January 1, 1998, between DSPC Israel
Ltd. and Nathan Hod (Filed as Exhibit 10.24 to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1997, as filed on
March 19, 1998, and incorporated herein by reference).
10.19* Employment Agreement, dated as of January 1, 1998, between DSPC Israel
Ltd. and Gerald Dogon (Filed as Exhibit 10.25 to the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1997, as
filed on March 19, 1998, and incorporated herein by reference).
32
<PAGE>
EXHIBIT
NUMBER EXHIBIT TITLE
- ------- -------------
10.20* Amended and Restated Employment Agreement, dated as of January 1,
1998, between DSP Communications, Inc., DSP Telecom, Inc. and Stephen
Pezzola (Filed as Exhibit 10.26 to the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1997, as filed on March 19,
1998, and incorporated herein by reference).
10.21 Rental Contract dated January 8, 1996 for a portion of the
Registrant's facilities in Givat Shmuel, Israel (in English) (Filed as
Exhibit 10.27 to the Registrant's Annual Report on Form 10-K for the
year ended December 31, 1997, as filed on March 19, 1998, and
incorporated herein by reference).
10.22 Rental Contract dated December 24, 1997 for a portion of the
Registrant's facilities in Givat Shmuel, Israel (in English) (Filed as
Exhibit 10.28 to the Registrant's Annual Report on Form 10-K for the
year ended December 31, 1997, as filed on March 19, 1998, and
incorporated herein by reference).
10.23* Employment Agreement, dated as of July 22, 1998, by and between DSP
Telecom, Inc. and Joseph Perl (Filed as Exhibit 10.29 to the
Registrant's Quarterly Report on Form 10-Q for the fiscal quarter
ended September 30, 1998, as filed on November 12, 1998, and
incorporated herein by reference).
10.24 Promissory Note, dated June 22, 1998, issued by Dr. and Mrs. Joseph
Perl to the Registrant (Filed as Exhibit 10.30 to the Registrant's
Quarterly Report on Form 10-Q for the fiscal quarter ended September
30, 1998, as filed on November 12, 1998, and incorporated herein by
reference).
10.25* Amendment to Employment and Option Agreements, dated as of October 12,
1998, by and between DSPC Israel Ltd., the Registrant, and Nathan Hod
(Filed as Exhibit 10.31 to the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended September 30, 1998, as filed on
November 12, 1998, and incorporated herein by reference).
10.26 Stock Purchase Agreement, dated as of October 12, 1998, by and between
the Registrant and Davidi Gilo (Filed as Exhibit 10.32 to the
Registrant's Quarterly Report on Form 10-Q for the fiscal quarter
ended September 30, 1998, as filed on November 12, 1998, and
incorporated herein by reference).
10.27 Promissory Note, dated October 12, 1998, issued by Davidi Gilo to the
Registrant (Filed as Exhibit 10.33 to the Registrant's Quarterly
Report on Form 10-Q for the fiscal quarter ended September 30, 1998,
as filed on November 12, 1998, and incorporated herein by reference).
10.28* 1998 Non-Qualified Stock Option Plan of the Registrant (Filed as
Exhibit 10.34 to the Registrant's Quarterly Report on Form 10-Q for
the fiscal quarter ended September 30, 1998, as filed on November 12,
1998, and incorporated herein by reference).
10.29* Employment Agreement of Davidi Gilo with DSP Telecom, Inc., dated as
of October 12, 1998, by and between DSP Telecom, Inc. and David Gilo.
10.30 Secured Promissory Note, dated November 16, 1998, issued by Davidi
Gilo to the Registrant.
33
<PAGE>
EXHIBIT
NUMBER EXHIBIT TITLE
- ------- -------------
10.31* Amended and Restated Employment Agreement, dated as of January 16,
1999, between DSP Communications, Inc., DSP Telecom, Inc. and Stephen
Pezzola
21.1 Subsidiaries of the Registrant.
23.1 Consent of Ernst & Young LLP, Independent Auditors.
27.1 Financial Data Schedule
- ---------------
* Indicates management contract or compensation plan or arrangement in which
directors and/or executive officers of the Registrant are eligible to
participate.
(b) REPORTS ON FORM 8-K
None.
34
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
DSP COMMUNICATIONS, INC.
By: /s/ Joseph Perl
--------------------------------------------------
Joseph Perl, Chief Executive Officer and President
Date: March 23, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ Davidi Gilo Chairman of the Board of Directors March 23, 1999
- --------------------- ---------------
Davidi Gilo
/s/ Joseph Perl President and Chief Executive March 23, 1999
- --------------------- Officer (Principal Executive ---------------
Joseph Perl Officer)
/s/ David Aber Vice President and Chief Financial March 23, 1999
- --------------------- Officer (Principal Financial ---------------
David Aber and Accounting Officer)
/s/ Neill Brownstein Director March 23, 1999
- --------------------- ---------------
Neill Brownstein
/s/ Lewis Broad Director March 23, 1999
- --------------------- ---------------
Lewis Broad
/s/ Andrew Schonzeit Director March 23, 1999
- --------------------- ---------------
Andrew Schonzeit
/s/ Shigeru Iwamoto Director March 23, 1999
- --------------------- ---------------
Shigeru Iwamoto
/s/ Avraham Fischer Director March 23, 1999
- --------------------- ---------------
Avraham Fischer
35
<PAGE>
DSP COMMUNICATIONS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
Report of Ernst & Young LLP, Independent Auditors. . . . . . . . . . . . . . F-2
Consolidated Balance Sheets as of December 31, 1998 and 1997 . . . . . . . . F-3
Consolidated Statements of Operations --
Years ended December 31, 1998, 1997, and 1996. . . . . . . . . . . . . . . . F-4
Consolidated Statements of Stockholders' Equity --
For the Three Years ended December 31, 1998. . . . . . . . . . . . . . . . . F-5
Consolidated Statements of Cash Flows --
Years ended December 31, 1998, 1997, and 1996. . . . . . . . . . . . . . . . F-6
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . F-7
F-1
W<PAGE>
Report of Ernst & Young LLP, Independent Auditors
The Board of Directors and Stockholders
DSP Communications, Inc.
We have audited the accompanying consolidated balance sheets of DSP
Communications, Inc. as of December 31, 1998 and 1997, and the related
consolidated statements of operations, stockholders' equity and cash flows for
each of the three years in the period ended December 31, 1998. Our audits also
included the financial statement schedule listed in Item 14(a)2 of this Annual
Report. These financial statements and schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of DSP
Communications, Inc. at December 31, 1998 and 1997, and the consolidated results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1998, in conformity with generally accepted accounting
principles. Also, in our opinion, the related financial statement schedule, when
considered in relation to the basic financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.
/s/ Ernst & Young LLP
Palo Alto, California
January 11, 1999
F-2
<PAGE>
DSP Communications, Inc.
Consolidated Balance Sheets
(In thousands, except share and per share data)
<TABLE>
<CAPTION>
DECEMBER 31,
1998 1997
-----------------------------------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 66,818 $ 82,322
Short-term investments 27,071 34,319
Trade accounts receivable (net of allowance for doubtful accounts
of $200 and $0 in 1998 and 1997, respectively) 29,351 11,200
Other current assets 5,717 7,207
-----------------------------------------
Total current assets 128,957 135,048
Property and equipment, net 5,323 4,151
Other assets 5,063 2,302
Goodwill 5,894 1,395
-----------------------------------------
$ 145,237 $ 142,896
-----------------------------------------
-----------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 16,474 $ 9,372
Accrued liabilities 17,110 17,093
Deferred income 285 528
-----------------------------------------
Total current liabilities 33,869 26,993
Commitments and contingencies
Stockholders' equity:
Common stock, par value $0.001, 110,000,000 shares authorized;
38,233,194 shares issued and outstanding at December 31, 1998
(40,427,710 shares in 1997) 38 40
Additional paid-in capital 78,777 94,440
Notes from shareholder (5,099) -
Retained earnings 37,624 21,421
Accumulated other comprehensive income 28 2
-----------------------------------------
Total stockholders' equity 111,368 115,903
-----------------------------------------
$ 145,237 $ 142,896
-----------------------------------------
-----------------------------------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-3
<PAGE>
DSP Communications, Inc.
Consolidated Statements of Operations
(In thousands, except per share data)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
1998 1997 1996
-------------------------------------------------------------------
<S> <C> <C> <C>
Revenues:
Product $126,874 $76,817 $85,128
Technology development 4,223 4,684 3,771
-------------------------------------------------------------------
Total revenues 131,097 81,501 88,899
-------------------------------------------------------------------
Cost of revenues:
Product 71,236 39,885 44,153
Technology development 2,698 4,919 3,550
-------------------------------------------------------------------
Total cost of revenues 73,934 44,804 47,703
-------------------------------------------------------------------
Gross profit 57,163 36,697 41,196
Operating expenses:
Research and development 11,704 6,562 5,311
Sales and marketing 4,324 4,078 3,685
General and administrative 9,536 8,356 12,190
Charge for acquired in-process technology 3,800 - -
-------------------------------------------------------------------
Total operating expenses 29,364 18,996 21,186
-------------------------------------------------------------------
Operating income 27,799 17,701 20,010
Interest and other income, net 5,674 6,332 4,848
-------------------------------------------------------------------
Income before provision for income taxes 33,473 24,033 24,858
Provision for income taxes (4,101) (2,634) (3,108)
-------------------------------------------------------------------
Net income $ 29,372 $ 21,399 $21,750
-------------------------------------------------------------------
-------------------------------------------------------------------
Earnings per share:
Basic $ 0.74 $ 0.51 $ 0.52
-------------------------------------------------------------------
-------------------------------------------------------------------
Diluted $ 0.70 $ 0.48 $ 0.48
-------------------------------------------------------------------
-------------------------------------------------------------------
Shares used in computing earnings per share:
Basic 39,672 41,776 41,865
-------------------------------------------------------------------
-------------------------------------------------------------------
Diluted 42,021 44,922 45,564
-------------------------------------------------------------------
-------------------------------------------------------------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-4
<PAGE>
DSP Communications, Inc.
Consolidated Statements of Stockholders' Equity
(In thousands, except share data)
<TABLE>
<CAPTION>
ADDITIONAL NOTES
COMMON STOCK PAID-IN FROM
------------------------------------
SHARES AMOUNT CAPITAL SHAREHOLDER
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at December 31, 1995 36,211,844 $ 36 $ 46,677 $ -
Net income - - - -
Other comprehensive income-change in net
unrealized gain on securities available
for sale - - - -
Comprehensive income
Issuance of common stock under stock
option and stock purchase plans
(2,076,882 shares and 11,187 shares, 2,088,069 2 3,273 -
respectively)
Issuance of common stock in public
offering, net 6,197,264 6 75,616 -
Tax benefit related to stock option plans - - 1,617 -
---------------------------------------------------------------------------
Balance at December 31, 1996 44,497,177 44 127,183 -
Net income - - - -
Other comprehensive income-change in net
unrealized gain on securities available
for sale - - - -
Comprehensive income
Issuance of common stock under stock
option and stock purchase plans
(1,789,039 shares and 11,294 shares, 1,800,333 2 9,995 -
respectively)
Repurchase of common stock (5,869,800) (6) (43,070) -
Compensation expense related to stock - - 332 -
options
---------------------------------------------------------------------------
Balance at December 31, 1997 40,427,710 40 94,440 -
Net income - - - -
Other comprehensive income-change in net
unrealized gain on securities available
for sale - - - -
Comprehensive income
Issuance of common stock under stock
option and stock purchase plans
(1,900,336 shares and 56,048 shares, 1,956,384 2 12,853 (2,758)
respectively)
Issuance of common stock 350,000 - 2,341 (2,341)
Repurchase of common stock (4,500,900) (4) (31,199) -
Compensation expense related to stock - - 342 -
options
---------------------------------------------------------------------------
Balance at December 31, 1998 38,233,194 $ 38 $ 78,777 $ (5,099)
---------------------------------------------------------------------------
---------------------------------------------------------------------------
<CAPTION>
RETAINED ACCUMULATED OTHER TOTAL
EARNINGS COMPREHENSIVE STOCKHOLDERS'
(DEFICIT) INCOME EQUITY
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Balance at December 31, 1995 $ (12,176) $ 331 $ 34,868
Net income 21,750 - 21,750
Other comprehensive income-change in net
unrealized gain on securities available
for sale - (288) (288)
------------------------------
Comprehensive income 21,462
------------------------------
Issuance of common stock under stock
option and stock purchase plans
(2,076,882 shares and 11,187 shares, - - 3,275
respectively)
Issuance of common stock in public
offering, net - - 75,622
Tax benefit related to stock option plans - - 1,617
-------------------------------------------------------------------------
Balance at December 31, 1996 9,574 43 136,844
Net income 21,399 - 21,399
Other comprehensive income-change in net
unrealized gain on securities available
for sale - (41) (41)
------------------------------
Comprehensive income 21,358
------------------------------
Issuance of common stock under stock
option and stock purchase plans
(1,789,039 shares and 11,294 shares, - - 9,997
respectively)
Repurchase of common stock (9,552) - (52,628)
Compensation expense related to stock - - 332
options
-------------------------------------------------------------------------
Balance at December 31, 1997 21,421 2 115,903
Net income 29,372 - 29,372
Other comprehensive income-change in net
unrealized gain on securities available
for sale - 26 26
------------------------------
Comprehensive income 29,398
------------------------------
Issuance of common stock under stock
option and stock purchase plans
(1,900,336 shares and 56,048 shares, - - 10,097
respectively)
Issuance of common stock - - -
Repurchase of common stock (13,169) - (44,372)
Compensation expense related to stock - - 342
options
-------------------------------------------------------------------------
Balance at December 31, 1998 $ 37,624 $ 28 $ 111,368
-------------------------------------------------------------------------
-------------------------------------------------------------------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-5
<PAGE>
DSP Communications, Inc.
Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
1998 1997 1996
------------------------------------------------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 29,372 $ 21,399 $ 21,750
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and other 1,890 1,433 945
Amortization 832 832 832
Compensation expense related to shares issued in a subsidiary - 370 310
Compensation expense related to stock options 342 332 -
Charge for acquired in-process technology 3,800 - -
Changes in operating assets and liabilities, net of effects of
acquisition:
Trade accounts receivable (17,572) (4,146) 1,784
Other current assets 1,494 (3,713) (1,647)
Accounts payable 7,165 5,686 333
Accrued liabilities 3,289 (2,215) 6,604
Deferred income (325) (1,962) 2,017
------------------------------------------------------
Net cash provided by operating activities 30,287 18,016 32,928
------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of Isotel (11,000) - -
Cash purchases of equipment (3,050) (2,097) (2,702)
Proceeds from sales of equipment 8 17 10
Purchases of short-term investments (42,935) (42,149) (97,340)
Sales and maturities of short-term investments 50,209 66,823 55,714
Other assets (1,476) - -
------------------------------------------------------
Net cash provided by (used in) investing activities (8,244) 22,594 (44,318)
------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Issuance of common stock for cash 10,097 9,997 78,897
Repurchase of common stock (47,644) (46,084) -
------------------------------------------------------
Net cash provided by (used in) financing activities (37,547) (36,087) 78,897
------------------------------------------------------
Increase (decrease) in cash and cash equivalents (15,504) 4,523 67,507
Cash and cash equivalents at beginning of year 82,322 77,799 10,292
------------------------------------------------------
Cash and cash equivalents at end of year $ 66,818 $ 82,322 $ 77,799
------------------------------------------------------
------------------------------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Income taxes paid $ 1,273 $ 624 $ 730
------------------------------------------------------
------------------------------------------------------
SUPPLEMENTAL NONCASH INVESTING AND FINANCING INFORMATION
Notes from Shareholders $ 5,099 $ - $ -
------------------------------------------------------
------------------------------------------------------
Equipment cost payable $ - $ 64 $ 125
------------------------------------------------------
------------------------------------------------------
Amounts payable for repurchase of common stock $ - $ 3,272 $ -
------------------------------------------------------
------------------------------------------------------
</TABLE>
SEE ACCOMPANYING NOTES.
F-6
<PAGE>
DSP COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND BASIS OF PRESENTATION
The consolidated financial statements include the accounts of DSP
Communications, Inc. ("DSPC" or the "Company"), a Delaware corporation, and
its wholly-owned subsidiaries DSP Telecom Inc., a California corporation; CTP
Systems Inc., a California corporation; DSP Communications (Japan) Inc., a
Japanese corporation; DSPC Technologies Ltd. ("DSPCT"), an Israeli company;
DSPC Israel Ltd. ("DSPCI"), an Israeli company; DSP Telecommunications Ltd.
("DSP Telecom"), an Israeli company; CTP Systems Ltd. ("CTP"), an Israeli
company; and effective December 31, 1998, DSPC Europe BVBA, a Belgian
company; and Isotel Corp. ("Isotel"), a Canadian corporation (see Note 9).
Intercompany accounts and transactions have been eliminated in consolidation.
NATURE OF OPERATIONS AND RELATED CONCENTRATIONS
The Company applies its expertise in the development, design and marketing of
DSP (digital signal processing) software, algorithms and VLSI circuit design
to develop highly integrated, low power and cost-effective chip sets for
wireless personal communications applications. Through its subsidiary CTP,
DSPC provides wireless PBX solutions for the office environment and reference
design development for handset manufacturers. Following the acquisition of
Isotel, the Company also will develop and market software protocols for
wireless communications.
The major portion of DSPC's product revenues to date have been generated from
the sale of its baseband chip sets and chips for digital cellular telephones,
mainly to Japanese cellular handset manufacturers. In the second half of
1997, the Company commenced volume shipments of chip sets for use outside of
Japan, which increased in 1998.
Substantially all of the Company's product revenues have been from sales to
its two distributors who in turn sell to OEM manufacturers in Japan and other
areas. The Company's distributors are not subject to minimum purchase
requirements and can cease marketing the Company's products at any time. The
loss of either of the Company's distributors could have a material adverse
effect on the Company's business, financial condition and results of
operations. Substantially all of these distributors' sales have been made to
a small number of customers. Because the worldwide cellular subscriber
equipment industry is dominated by a small number of large corporations, DSPC
expects that a significant portion of its future product revenues will
continue to be concentrated in a limited number of customers. The loss of one
or more of these customers would have a material adverse effect on the
Company's results of operations.
The Company uses independent foundries to manufacture its baseband chip sets.
The Company's reliance on independent foundries involves a number of risks,
including the possibility of a shortage of certain key components and reduced
control over delivery schedules, manufacturing capacity, quality and costs.
DSPC's integrated circuits are fabricated by independent third party
suppliers. The Company's reliance on these suppliers involves a number of
risks, including the possibility of an insufficient supply of DSP chips,
noncompetitive pricing and discontinued production of the DSP chip currently
utilized to produce the Company's products. During and at the end of 1998 the
Company had a small number of major suppliers for the integrated circuits.
The reliance on a small number of suppliers may subject the Company from time
to time to quality, allocation and pricing constraints.
F-7
<PAGE>
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
REVENUE RECOGNITION
PRODUCT - Product revenue relates to sales of baseband chip sets for cellular
telephones and to wireless PBX systems. Revenue from product sales to
customers, other than sales to distributors, are recorded when products are
shipped. Sales to distributors, under agreements allowing price protection
and right of return on products unsold by the distributors, are not
recognized until the products are sold by the distributors to OEM
manufacturers. Deferred income represents the net margin on products not yet
sold through by distributors. DSPC accrues estimated sales returns/exchanges
for end-user sales and warranty costs upon recognition of sales. DSPC has not
experienced significant warranty claims to date.
TECHNOLOGY DEVELOPMENT - DSPC performs best-efforts research and product
development work under technology development agreements. Due to technology
risk factors, the costs of these agreements are expensed as incurred and
revenues are recognized when applicable customer milestones are met,
including deliverables, and in any case, not in excess of the amount that
would be recognized using the percentage-of-completion method. Costs incurred
under technology development agreements are included in the cost of
technology development.
RESEARCH AND DEVELOPMENT
Research and development costs are expensed as incurred and through 1996 were
reduced by related participation from programs sponsored by the Israeli
government.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect amounts reported in the financial statements and accompanying
notes. Actual results could differ from these estimates.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or market
and are included in other assets.
PROPERTY AND EQUIPMENT
Property and equipment is recorded at cost. Depreciation and amortization are
provided using the straight-line method over the estimated useful lives of
the assets (generally from 3 to 5 years), or the life of the lease, whichever
is shorter.
FOREIGN CURRENCY TRANSACTIONS
The United States dollar is the Company's functional currency as it is the
primary currency in the economic environment in which the Company operates.
Accordingly, monetary accounts maintained in currencies other than the dollar
(principally cash and liabilities) are remeasured using the foreign exchange
rate at the balance sheet date. Operational accounts and nonmonetary balance
sheet accounts are measured and recorded at the rate in effect at the date of
the transaction. The effects of foreign currency remeasurement, which have
not been material to date, are reported in current operations.
F-8
<PAGE>
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FOREIGN CURRENCY TRANSACTIONS (CONTINUED)
While most of the Company's revenues and costs are denominated in dollars, a
material portion of the sales prices for certain products sold by the
Company, and prices for certain components purchased by the Company, are
quoted in or linked to yen based prices.
The Company uses foreign currency forwards and options, which typically
expire within one year, to hedge payments and receipts of foreign currencies
related to the purchase of certain components and sale of certain products.
The Company does not use derivative financial instruments for trading
purposes. Realized gains and losses on these contracts are recognized in
income in the same period as the hedged transactions. As of December 31,
1998, the Company did not have any open foreign exchange forward contract
positions.
EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings
per share (in thousands except per share data):
<TABLE>
<CAPTION>
Year ended December 31,
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
Numerator for basic and diluted earnings per share -
net income $ 29,372 $ 21,399 $ 21,750
------------ ------------ ------------
------------ ------------ ------------
Denominator for basic earnings per share -
weighted average shares 39,672 41,776 41,865
Effect of dilutive securities - employee stock options 2,349 3,146 3,699
------------ ------------ ------------
Denominator for diluted earnings per share -
adjusted weighted average shares 42,021 44,922 45,564
------------ ------------ ------------
------------ ------------ ------------
Earnings per share:
Basic $ 0.74 $ 0.51 $ 0.52
------------ ------------ ------------
------------ ------------ ------------
Diluted $ 0.70 $ 0.48 $ 0.48
------------ ------------ ------------
------------ ------------ ------------
</TABLE>
For additional disclosures regarding the employee stock options, see Note 8.
During 1998, 1997 and 1996, options to purchase 453,174 shares, 860,753
shares and 137,205 shares, respectively, of common stock were outstanding but
were not included in the computation of diluted earnings per share because
the options' exercise price was greater than the average market price of the
common shares and, therefore, the effect would be antidilutive.
CONCENTRATIONS OF CREDIT RISK
Financial instruments that subject DSPC to credit risk consist principally of
cash equivalents and short term investments and trade receivables. The
company invests cash equivalents and short-term investments through
high-quality financial institutions. The majority of DSPC's product sales are
to two distributors who in turn sell to manufacturers of consumer electronics
products. No collateral is required from these distributors or end customers.
At December 31, 1998, approximately $24,343,000 or 83% of trade accounts
receivable is due from these distributors. Write-offs of accounts receivable
through December 31, 1998 have been insignificant.
F-9
<PAGE>
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
DSPC considers all highly liquid investments with a maturity of three months
or less, when purchased, to be cash equivalents. The carrying amount
approximates fair value because of the short maturity of these instruments.
At December 31, 1998, pursuant to Statement of Financial Accounting Standards
("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," all debt securities are designated as available-for-sale.
Available-for-sale securities are carried at fair value, which is determined
based upon the quoted market prices of the securities, with unrealized gains
and losses reported in stockholders' equity. Realized gains and losses and
declines in value judged to be other-than-temporary on available for-sale
securities are included in interest income. The cost of securities sold is
based on the specific identification method. Interest and dividends on
securities classified as available-for-sale are included in interest income.
INTANGIBLE ASSETS
Intangible assets consist of acquired developed technology and goodwill
resulting from the CTP and Isotel acquisitions (see Note 9) which are being
amortized over the estimated useful lives of up to five years. Acquired
developed technology and goodwill, are included in other assets and consist
of the following at December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997
-------------------------------------------------------------------------
CTP Isotel CTP Isotel
-------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Intangible assets $ 4,161 $ 6,616 $ 4,161 $ -
Accumulated amortization (2,635) - (1,803) -
-------------------------------------------------------------------------
Total purchase price $ 1,526 $ 6,616 $ 2,358 $ -
-------------------------------------------------------------------------
-------------------------------------------------------------------------
</TABLE>
Management assesses the realizability of the goodwill and the acquired
technology at each balance sheet date.
ACCOUNTING FOR STOCK-BASED COMPENSATION
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25") and related
interpretations in accounting for its employee stock options because, as
discussed below, the alternative fair value accounting provided for under
FASB Statement No. 123, "Accounting for Stock-Based Compensation," ("SFAS
123") requires use of option valuation models that were not developed for use
in valuing employee stock options. Under APB 25, because the exercise price
of the Company's employee stock options equals the market price of the
underlying stock on the date of the grant, no compensation expense is
recognized.
F-10
<PAGE>
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
NEW ACCOUNTING STANDARDS
Effective January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income" ("SFAS 130"). SFAS 130 establishes new rules for the
reporting and display of comprehensive income and its components; however,
the adoption of SFAS 130 had no impact on the Company's net income or
stockholders' equity. SFAS requires unrealized gains or losses on the
Company's available-for-sale securities, which prior to adoption were
reported separately in stockholders' equity, to be included in other
comprehensive income. Prior year statements have been reclassified to conform
to the requirements of SFAS 130.
Effective January 1, 1998, the Company adopted SFAS No. 131, "Disclosures
about Segments of an Enterprise and Related Information" ("SFAS 131"). SFAS
131 superseded FASB Statement No. 14, "Financial Reporting for Segments of a
Business Enterprise". SFAS 131 establishes standards for the way that public
business enterprises report information about operating segments in interim
financial reports. SFAS 131 also establishes standards for related
disclosures about products and services, geographic areas, and major
customers. The adoption of SFAS 131 did not affect results of operations or
financial position, but did affect the disclosure of geographic information
for assets (see note 12).
In March 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed For or Obtained For Internal Use" (the "SOP"). The Company plans to
adopt the SOP effective January 1, 1999. The SOP will require the
capitalization of certain costs incurred after the date of adoption in
connection with developing or obtaining software for internal use. The
Company currently expenses such costs as incurred. The adoption of the new
SOP will not have a material impact on the Company's consolidated results of
operations, financial position or cash flows.
In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"), which is required to be
adopted in years beginning after June 15, 1999. Because of the Company's
minimal use of derivatives, the Company does not anticipate that the adoption
of SFAS 133 will have a significant effect on the Company's consolidated
results of operations or financial position.
RECLASSIFICATION
Certain prior year amounts have been reclassified to conform to the current
year presentation.
F-11
<PAGE>
2. AVAILABLE-FOR-SALE SECURITIES
The following is a summary of available-for-sale securities at December 31, 1998
(in thousands):
<TABLE>
<CAPTION>
AMORTIZED UNREALIZED UNREALIZED FAIR MARKET
COST GAINS LOSSES VALUE
-----------------------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial paper $ 815 $ - $ - $ 815
Closed-end mutual fund shares 3,607 - - 3,607
U.S. corporate obligations 13,043 31 (3) 13,071
-----------------------------------------------------------------------
$17,465 $ 31 $ (3) $ 17,493
-----------------------------------------------------------------------
-----------------------------------------------------------------------
Reported as:
Cash equivalents $ 4,422 $ - $ - $ 4,422
Short-term investments 13,043 31 (3) 13,071
-----------------------------------------------------------------------
$17,465 $ 31 $ (3) $ 17,493
-----------------------------------------------------------------------
-----------------------------------------------------------------------
</TABLE>
The following is a summary of available-for-sale securities at December 31, 1997
(in thousands):
<TABLE>
<CAPTION>
AMORTIZED UNREALIZED UNREALIZED FAIR MARKET
COST GAINS LOSSES VALUE
-----------------------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial paper $ 4,172 $ - $ - $ 4,172
Closed-end mutual fund shares 11,776 - - 11,776
U.S. corporate obligations 22,222 1 (7) 22,216
U.S. municipal obligations 11,108 8 - 11,116
U.S. government obligations 3,034 - - 3,034
-----------------------------------------------------------------------
$ 52,312 $ 9 $ (7) $ 52,314
-----------------------------------------------------------------------
-----------------------------------------------------------------------
Reported as:
Cash equivalents $ 17,995 $ - $ - $ 17,995
Short-term investments 34,317 9 (7) 34,319
-----------------------------------------------------------------------
$ 52,312 $ 9 $ (7) $ 52,314
-----------------------------------------------------------------------
-----------------------------------------------------------------------
</TABLE>
Proceeds from the sale of available-for-sale securities were $54,620,000,
$58,778,000 and $106,822,000 for the years ended December 31, 1998, 1997 and
1996, respectively. Realized gains and losses on the sale of
available-for-sale securities for the year ended December 31, 1998, 1997 and
1996 were immaterial.
The contractual maturity of available-for-sale securities as of December 31,
1998 are: 1999 - $12,678,000; 2000 - $4,815,000.
F-12
<PAGE>
3. PROPERTY AND EQUIPMENT
Property and equipment consist of the following at December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997
---------------------------------------------
<S> <C> <C>
Computer and laboratory equipment $ 8,035 $ 5,928
Furniture and fixtures and other 1,178 679
Leasehold improvements 1,739 1,263
---------------------------------------------
10,952 7,870
Accumulated depreciation (5,629) (3,719)
---------------------------------------------
$ 5,323 $ 4,151
---------------------------------------------
---------------------------------------------
</TABLE>
4. ACCRUED LIABILITIES
Accrued liabilities consist of the following at December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997
---------------------------------------------
<S> <C> <C>
Income tax authorities $ 7,412 $ 5,961
Compensation and benefits 4,576 3,361
Repurchase of common stock - 3,272
Warranty reserve 2,846 2,894
Other 2,276 1,605
---------------------------------------------
$17,110 $17,093
---------------------------------------------
---------------------------------------------
</TABLE>
5. LEASES
The Company leases facilities in Cupertino, California, in Israel, in Canada
and in Japan under noncancelable operating leases expiring on different dates
between March 1999 and February 2001. Future minimum payments under
noncancelable operating leases with initial terms of one year or more consist
of the following at December 31, 1998 (in thousands):
<TABLE>
<S> <C>
1999 $ 1,273
2000 1,075
2001 188
----------------------
$ 2,536
----------------------
----------------------
</TABLE>
The gross rental payments under all operating leases were $1,186,000, $1,142,000
and $865,000 in 1998, 1997 and 1996, respectively. Rental expense, net of
reimbursements from subleases, was $1,057,000, $962,000 and $784,000 in 1998,
1997, and 1996, respectively.
F-13
<PAGE>
6. COMMITMENTS AND CONTINGENCIES
ISRAELI GOVERNMENT RESEARCH GRANTS
The Company has participated in programs sponsored by the Israeli Government
for the support of research and development activities. Through December 31,
1996 the Company obtained grants from the Office of the Chief Scientist in
the Israeli Ministry of Industry and Trade (the "Chief Scientist") for
participation in a number of research and development projects. The terms of
the grants from the Chief Scientist prohibit the transfer of technology
developed pursuant to the terms of these grants to any person, without the
prior written consent of the Chief Scientist. The Company was obligated to
pay royalties to the Chief Scientist. For the year ended December 31, 1996,
the Company charged cost of revenues for approximately $724,000 for royalties
on products that were commercially developed out of projects funded by
research grants from the Chief Scientist. As of December 31, 1996, the
Company has repaid all amounts owed pursuant to the grants relating to
products being currently marketed by the Company.
OTHER ROYALTY COMMITMENTS
In connection with certain license agreements, DSPC agreed to pay royalties
on certain sales based on specified rates. The Company initiated payments of
these royalties during 1998. Royalty expenses in 1998 amounted to
approximately $744,000.
CTP participated with one of its customers in a program sponsored by the BIRD
Foundation, which was terminated prior to the acquisition by DSPC. In
connection with the program, CTP agreed to pay to the BIRD Foundation
royalties on its wireless PBX product sales at specified rates of 2.5% to 5%,
up to an aggregate total of approximately $800,000 as adjusted for changes in
the consumer price index. Through December 31, 1998, the Company has paid or
accrued royalties to the BIRD Foundation in the aggregate amount of $262,000.
SEVERANCE LIABILITY
The Company's liability for severance pay and pension, pursuant to Israeli
law is fully provided for through insurance contracts and by accrual. At
December 31, 1998, virtually all of the liability is funded. The amounts
maintained with insurance companies and part of pension and severance pay
funds, are not under the control of the Company and, therefore, are not
included in the financial statements. Pension and severance expenses for the
years ended December 31, 1998, 1997 and 1996 amounted to approximately
$1,002,000, $917,000 and $802,000, respectively.
INVESTMENT COMMITMENT
The Company, which was incorporated in November 1994, succeeded to the
business of DSP Telecom, pursuant to a reorganization completed upon the
closing of the Company's initial public offering in March 1995, under which
DSP Telecom became a wholly-owned subsidiary of the Company (the
"Reorganization"). In obtaining approval of the Reorganization from Israeli
tax authorities, the Company agreed to invest in activities in Israel no less
than $9,000,000 out of the proceeds of the initial public offering within
three years after consummation of the offering. In 1998, the Company received
approval from the Israeli tax authorities for a two year extension of this
requirement until March 2000. Through December 31, 1998, $7,800,000 has been
transferred to Israel.
F-14
<PAGE>
6. COMMITMENTS AND CONTINGENCIES (CONTINUED)
LITIGATION
On May 12, 1997, a class action lawsuit was filed against the Company and
several of its officers and directors in the Superior Court of California,
Santa Clara Country. A second, identical lawsuit was filed on May 22, 1997.
The complaints, which were consolidated, alleged that the Company and certain
of its officers and directors violated California securities laws in
connection with certain statements allegedly made during the first quarter of
1997, and sought damages in an unspecified amount, interest, attorney's fees
and other costs, and other equitable and injunctive relief. On February 26,
1998, two of the plaintiffs in the state action filed a similar complaint in
the U.S. District Court for the Northern District of California. The
complaint made the same allegations as the amended complaint filed in state
court, but charged violations of federal securities laws.
The Company has executed an agreement to settle these lawsuits. Under the
agreement, the claims will be settled for $3,000,000, which will be funded by
insurance proceeds. The settlement is subject to approval by the court. The
court has set a date of April 9, 1999 for hearing on final approval. The
Company continues to deny all allegations.
7. CREDIT ARRANGEMENTS
As of December 31, 1998, the Company had issued bank guarantees and a letter
of credit totaling $2,471,000. The term of the letter of credit is through
June 30, 1999.
8. STOCKHOLDERS' EQUITY
PREFERRED STOCK
The board of directors has the authority, without any further vote or action
by the stockholders, to provide for the issuance of up to 5,000,000 shares of
preferred stock from time to time in one or more series with such
designations, rights, preferences and limitations as the board of directors
may determine, including the consideration received therefore, the number of
shares comprising each series, dividend rates, redemption provisions,
liquidation preferences, redemption fund provisions, conversion rights and
voting rights, all without the approval of the holders of common stock.
COMMON STOCK
In 1997, the Company implemented a repurchase program pursuant to which the
Company, from time to time and at management's discretion, may purchase
shares of the Company's common stock in open-market and privately negotiated
transactions. The number of shares in the repurchase plan, which at December
31, 1997 was 8,000,000, was increased during 1998 to a total of 16,000,000
shares. During 1997, the Company repurchased 5,869,800 shares of its common
stock, with an aggregate purchase price of $52,628,000 and, in 1998, the
Company repurchased 4,500,900 shares of its common stock for an aggregate
purchase price of $44,372,000, bringing the total number of shares
repurchased and retired in this repurchase program to 10,370,700 shares with
a total aggregate purchase price of $97,000,000. The Company uses a last-in,
first-out method, and the excess of repurchase cost over issuance price is
treated as a reduction of retained earnings.
F-15
<PAGE>
8. STOCKHOLDERS' EQUITY (CONTINUED)
SHARE OPTION PLANS
1995 EMPLOYEE AND CONSULTANT STOCK PLAN
DSPC's 1995 Employee and Consultant Stock Plan (the "1995 Plan") provides for
(i) the grant to DSPC employees of incentive stock options, (ii) the grant to
employees and consultants of DSPC of nonstatutory stock options and (iii) the
grant of stock options which comply with the applicable requirements of
Israeli law to the extent granted to persons who may be subject to income tax
in Israel. A total of 4,800,000 shares of common stock have been authorized
for issuance under the 1995 Plan.
Options granted under the 1995 Plan have an exercise price no less than the
fair market value of the common stock on the date of grant. The period within
which the option may be exercised is determined at the time of grant. In no
event may the term of an incentive stock option be longer than ten years.
1996 STOCK OPTION PLAN
DSPC's 1996 Stock Option Plan (the "1996 Plan") provides for (i) the grant to
DSPC employees of incentive stock options, (ii) the grant to employees,
consultants and nonemployee directors of DSPC of nonstatutory stock options,
and (iii) the grant of stock options which comply with the applicable
requirements of Israeli law to the extent granted to persons who may be
subject to income tax in Israel. A total of 5,000,000 shares of common stock
have been authorized for issuance under the 1996 Plan.
Options granted under the 1996 Plan have an exercise price no less than the
fair market value of the common stock on the date of grant. The period within
which the option may be exercised is determined at the time of grant. In no
event may the term of an incentive stock option be longer than ten years.
1995 DIRECTOR STOCK OPTION PLAN
Each nonemployee director of the Company is entitled to participate in the
Company's 1995 Director Stock Option Plan (the "Director Option Plan"). The
board of directors and the stockholders have authorized a total of 600,000
shares of common stock for issuance under the Director Option Plan. The
Director Option Plan provides for the grant of nonstatutory options to
nonemployee directors of the Company.
The Director Option Plan provides that each eligible director shall be
granted an option to purchase 32,000 shares of common stock on the date on
which the optionee first becomes a director of the Company. Thereafter, each
nonemployee director shall be granted an option to purchase 8,000 additional
shares of common stock on January 1 of each year if, on such date, he or she
shall have served on the Company's board of directors for at least six months.
Options granted under the Director Option Plan have an exercise price equal
to the fair market value of the common stock on the date of grant and have a
term of ten years, unless terminated sooner upon termination of the
optionee's status as a director or otherwise pursuant to the Director Option
Plan.
F-16
<PAGE>
8. STOCKHOLDERS' EQUITY (CONTINUED)
1998 NON-QUALIFIED STOCK OPTION PLAN
DSPC's 1998 Non-Qualified Stock Option Plan (the "1998 Plan") provides for
(i) the grant to employees, consultants and non-employee directors of DSPC of
non-qualified stock options, and (ii) the grant of stock options which comply
with the applicable requirements of Israeli law to the extent granted to
persons who may be subject to income tax in Israel. A total of 5,000,000
shares of common stock have been authorized for issuance under the 1998 Plan.
Options granted under the 1998 Plan have an exercise price no less than the
fair market value of the common stock on the date of grant. The period within
which the option may be exercised is determined at the time of grant.
OPTION EXCHANGE PROGRAMS
In March 1997, the Company adopted an Option Exchange Program whereby
employee options which were previously granted at exercise prices greater
than $9.88 and $10.88 per share for non-executives and executives,
respectively, were exchanged. The exercise price of the new options for
non-executives and executives are: $9.88 and $10.88 per share, respectively.
Notwithstanding the original vesting schedule, the new options generally vest
over a three year period and have a term of five years. A total of 4.0
million options with a weighted-average exercise price of $21.55 were
exchanged and are reflected in the following table as cancellations and
grants.
In October 1998, the Company adopted an Option Exchange Program whereby
employee options which were previously granted but not previously repriced,
at exercise prices greater than $6.13 and $6.69 per share for non-executives
and executives, respectively, were exchanged. The exercise price of the new
options for non-executives and executives are: $6.13 and $6.69 per share,
respectively. Notwithstanding the original vesting schedule of the repriced
options for non-executives, the vesting schedule of the new options was
amended such that one-sixth (1/6) of the options vest six months after the
date of the repricing, and one-thirty-sixth (1/36) of the options vest at the
end of each month thereafter for the following 30 months. In addition,
certain of these new options are subject to acceleration of vesting upon the
occurrence of certain milestones based upon the market price of the Company's
common stock. Any of such options whose original termination date was prior
to April 7, 2002, were extended to have a termination date of April 7, 2002.
The repriced options of executives retained their original vesting schedules,
except that the new options are subject to acceleration of vesting upon the
occurrence of certain milestones based upon the market price of the Company's
common stock. A total of approximately 2.4 million options with a
weighted-average exercise price of $15.07 were exchanged and are reflected in
the following table as cancellations and grants.
F-17
<PAGE>
8. STOCKHOLDERS' EQUITY (CONTINUED)
SHARE OPTION PLANS
A summary of the Company's stock option activity under all option plans and
related information for the years ended December 31 is as follows (in
thousands except per share information):
<TABLE>
<CAPTION>
Weighted
Shares Shares Average Weighted
Available Under Exercise Average Options
For Grant Option Price Fair Value Exercisable
----------- ----------- ----------- ------------ -------------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1995 3,416 5,534 $ 2.71 1,360
Authorized 3,000 - $ -
Granted (4,307) 4,307 $ 19.92 $ 8.33
Exercised - (2,077) $ 1.57
Canceled and forfeited 374 (374) $ 3.94
----------- -----------
Year ended December 31, 1996 2,483 7,390 $ 13.00 995
Granted (6,233) 6,233 $ 11.63 $ 4.85
Exercised - (1,789) $ 5.50
Canceled and forfeited 5,214 (5,214) $ 19.60
----------- -----------
Year ended December 31, 1997 1,464 6,620 $ 8.49 953
Authorized 7,000 - $ -
Granted (6,873) 6,873 $ 8.76 $ 3.22
Exercised - (1,900) $ 6.60
Canceled and forfeited 3,549 (3,549) $ 12.92
----------- -----------
Year ended December 31, 1998 5,140 8,044 $ 7.22 3,329
----------- -----------
----------- -----------
</TABLE>
The options outstanding at December 31, 1998 have been segregated into ranges
for additional disclosure as follows (in thousands except per share
information):
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
-----------------------------------------------------------------------------------------
Weighted- Options
Options Average Weighted- Currently Weighted-
Range of Outstanding at Remaining Average Exercisable Average
Exercise December 31, Contractual Exercise at December 31, Exercise
Prices 1998 Life (Years) Price 1998 Price
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 1.04- $ 3.88 872 1.64 $ 2.87 663 $ 2.73
$ 5.00- $ 6.00 646 3.54 $ 5.24 415 $ 5.23
$ 6.13- $ 6.13 1,570 4.12 $ 6.13 - $ -
$ 6.68- $ 6.68 1,978 3.69 $ 6.68 988 $ 6.68
$ 6.81- $ 9.88 2,037 3.10 $ 9.22 1,056 $ 9.23
$ 9.94- $19.38 941 4.61 $ 11.32 207 $ 10.82
------------- ---------------
$ 1.04- $19.38 8,044 3.49 $ 7.22 3,329 $ 6.87
------------- ---------------
------------- ---------------
</TABLE>
F-18
<PAGE>
8. STOCKHOLDERS' EQUITY (CONTINUED)
OPTIONS GRANTED ABOVE FAIR VALUE
Substantially all options have been granted at fair market value. In 1998,
1997 and 1996, options to purchase 986,000, 2,078,000 and 420,000 shares,
respectively, were granted with an exercise price in excess of the fair
market value on the date of grant. The weighted-average exercise prices and
the weighted-average fair values of these options were $11.04 and $2.99,
respectively, in 1998, $10.88 and $4.79, respectively, in 1997 and $26.00 and
$9.08, respectively, in 1996. During 1998 and 1997, the Company recorded
compensation cost of $342,000 and $332,000, respectively, for stock-based
compensation awards granted to consultants and one retiring executive.
1995 EMPLOYEE STOCK PURCHASE PLAN
DSPC has reserved 2,000,000 shares of common stock for issuance under the
1995 Employee Stock Purchase Plan (the "1995 Purchase Plan"). Under the 1995
Purchase Plan, eligible employees are permitted to purchase shares of common
stock at the end of each six month purchase period during a two year offering
period (the "Offering Period"), through payroll deductions not exceeding 10%
of an employee's compensation. The price per share is equal to 85% of the
fair market value of the common stock on the first day of the Offering Period
or on the last day of the applicable purchase period, whichever is lower. At
December 31, 1998, approximately 78,500 shares of common stock had been
issued under this plan.
PRO FORMA DISCLOSURES
Pro forma information regarding net income and net income per share is
required by SFAS 123, which also requires that the information be determined
as if the Company has accounted for its employee stock options granted
subsequent to December 31, 1994 under the fair value method of that
Statement. The fair value for these options was estimated at the date of
grant using a Black-Scholes option pricing model with the following
weighted-average assumptions for 1998, 1997 and 1996, respectively: risk-free
rates of 4.8%, 6.4% and 5.9%; no dividend yield; volatility factors of the
expected market price of the Company's common stock of .75, .75 and .65; and
a weighted-average expected life of the option of approximately 2.5 years.
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimate, in management's opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of its employee stock
options.
F-19
<PAGE>
8. STOCKHOLDERS' EQUITY (CONTINUED)
PRO FORMA DISCLOSURES (CONTINUED)
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The
Company's pro forma information follows (in thousands except for earnings per
share information):
<TABLE>
<CAPTION>
1998 1997 1996
-------------------------------------------------------------------
<S> <C> <C> <C>
Pro forma net income $ 14,547 $ 5,469 $ 15,194
Pro forma earnings per share:
Basic $ 0.37 $ 0.13 $ 0.36
Diluted $ 0.36 $ 0.13 $ 0.34
Shares used in the calculation
of pro forma earnings per share:
Basic 39,672 41,776 41,865
Diluted 40,452 42,971 44,464
</TABLE>
COMMON STOCK RESERVED FOR FUTURE ISSUANCE
As of December 31, 1998, approximately 15,105,000 shares of common stock are
reserved for future issuance under the Company's stock option and stock
purchase plans.
9. MERGER AND ACQUISITION ACTIVITY
On December 31, 1998, the Company acquired substantially all the assets of
Isotel Research Ltd., a Canadian company that specializes in the development
of call processing software and Java based products for various wireless
standards, for $11,000,000 in cash. The transaction was accounted for as a
purchase.
The value assigned to acquired in-process technology was determined by
identifying the research projects in areas for which technological
feasibility had not been achieved and assessing the date of completion of the
research and development effort. The state of completion was determined by
estimating the costs and time incurred to date relative to those costs and
time to be incurred to develop the acquired in-process technology into
commercially viable products, estimating the resulting net cash flows only
from the percentage of research and development efforts complete at the date
of acquisition, and discounting the net cash flows back to their present
value. The discount rate included a factor that took into account the
uncertainty surrounding the successful development of the acquired in-process
technology projects. To determine the value of acquired developed technology,
the expected future cash flows of the existing developed technologies were
discounted taking into account the characteristics and applications of the
product, the size of existing markets, growth rates of existing and future
markets as well as the evaluation of past and anticipated product-life cycles.
F-20
<PAGE>
9. MERGER AND ACQUISITION ACTIVITY (CONTINUED)
An additional contingent payment of $2 million will be payable to Isotel
Research Ltd. on December 31, 1999, if all three of the key employees of
Isotel Research Ltd., who were employed by DSPC upon the consummation of the
acquisition, remain employed with DSPC on that date, and an additional $2
million will be payable on December 31, 2000, if all of these employees are
still employees of DSPC on December 31, 2000. If any of the above employees
leave prior to December 31, 2000, the contingent payments will be reduced
according to a predetermined formula based upon which of the employees leave
and on which date they leave. The contingent payments applicable to each of
the above employees will be accelerated in the event of death, disability or
termination without cause of any of these persons.
<TABLE>
<S> <C>
Net tangible assets $ 584
Acquired developed technology 1,625
Acquired in-process technology 3,800
Goodwill 4,991
----------------------
Total purchase price $ 11,000
----------------------
----------------------
</TABLE>
In the fourth quarter of 1996, the Company incurred a charge of approximately
$5,000,000 in connection with the termination of a proposed acquisition of
Proxim, Inc.
The following unaudited pro forma financial summary is presented as if the
operations of the Company and Isotel Research Ltd. were combined as of
January 1, 1997. The unaudited pro forma combined results are not necessarily
indicative of actual results that would have occurred had the purchase been
consummated at this date, or of the future operations of the combined
entities.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------------
1998 1997
--------------------------------------------
<S> <C> <C>
Revenues $135,874 $83,787
--------------------------------------------
--------------------------------------------
Net Income $ 30,745 $21,710
--------------------------------------------
--------------------------------------------
Net Income per share :
Basic $0.77 $0.52
--------------------------------------------
--------------------------------------------
Diluted $0.73 $0.48
--------------------------------------------
--------------------------------------------
</TABLE>
F-21
<PAGE>
10. INCOME TAXES
The provision for income taxes consists of the following for the years ended
December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
-------------------------------------------------------------------
<S> <C> <C> <C>
Current:
Federal $ - $ 283 $ 630
State - - 170
Foreign 4,101 2,472 2,770
-------------------------------------------------------------------
4,101 2,755 3,570
Deferred:
Federal - - (183)
Foreign - (121) (279)
-------------------------------------------------------------------
- (121) (462)
-------------------------------------------------------------------
Provision for income taxes $4,101 $2,634 $3,108
-------------------------------------------------------------------
-------------------------------------------------------------------
</TABLE>
The tax benefits resulting from the exercise of nonqualified stock options
and the disqualifying dispositions of shares acquired under the Company's
incentive stock option plans were $1,617,000 in 1996. Such benefit was
credited to additional paid-in capital.
Pretax income from foreign operations was $38,768,000, $23,424,000, and
$24,655,000 in 1998, 1997, and 1996, respectively.
A reconciliation between the Company's effective tax rate and the United
States ("U.S.") federal statutory rate of 35% is as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------------------------------------------
1998 1997 1996
--------------------------------------------------------------------
<S> <C> <C> <C>
Tax at U.S. statutory rate $ 11,716 $ 8,412 $ 8,700
State taxes, net of federal benefit - - 110
Valuation of temporary differences - - (163)
Foreign earnings taxed at less than
U.S. rate (9,127) (6,342) (7,656)
Charge for acquired Israeli in-process
technology 1,330 - -
Unbenefited foreign losses 612 1,006 1,518
Other (430) (442) 599
--------------------------------------------------------------------
Provision for income taxes $ 4,101 $ 2,634 $ 3,108
--------------------------------------------------------------------
--------------------------------------------------------------------
Effective Tax Rate 12.3% 10.9% 12.5%
--------------------------------------------------------------------
--------------------------------------------------------------------
</TABLE>
F-22
<PAGE>
10. INCOME TAXES (CONTINUED)
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Significant
components of the Company's deferred tax assets and liabilities are as
follows at December 31 (in thousands):
<TABLE>
<CAPTION>
1998 1997
---------------------------------------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards $ 12,860 $ 10,824
Accruals and reserves not currently deductible 49 585
Capitalized research and development 308 321
Other 103 8
---------------------------------------------
Total deferred tax assets 13,320 11,738
Valuation allowance (11,120) (9,538)
---------------------------------------------
Total deferred tax assets $ 2,200 $ 2,200
---------------------------------------------
---------------------------------------------
</TABLE>
Of the valuation allowance as of December 31, 1998, $10,305,000 is related to
the benefits of stock options, which will be credited to paid-in capital when
realized. The valuation allowance increased by $3,914,000 in 1997.
As of December 31, 1998, the Company has U.S. federal, state and Israel net
operating loss carryforwards of approximately $34,000,000, $16,200,000 and
$5,300,00, respectively. The federal and state net operating loss
carryforwards will expire beginning in years 2001 through 2013 if not
utilized. The Israeli loss carryforwards have no expiration date, but can
only be used to offset certain future Israeli subsidiary earnings.
Utilization of the U.S. net operating loss carryforwards may be subject to an
annual limitation due to the ownership change limitations provided by the
Internal Revenue Code of 1986 and similar state provisions.
Net undistributed earnings of the foreign subsidiaries amounted to
approximately $72,000,000 at December 31, 1998. These earnings are considered
to be indefinitely reinvested, and accordingly, no provision for U.S. federal
and state income taxes has been provided thereon. Upon distribution of those
earnings in the form of dividends or otherwise, the Company would be subject
to U.S. income taxes (subject to an adjustment for foreign tax credits) and
additional Israeli corporate income and withholding taxes in the amount of
approximately $26,000,000.
The Approved Enterprise status was granted according to several investment
plans and will allow the Israeli subsidiaries a two to four year tax holiday
on undistributed earnings and a corporate tax rate of 10% to 25% for an
additional six to eight years on each of the investment plans' proportionate
share of income. The benefits under these investment plans are scheduled to
expire between the years 2005 and 2008.
The per share (diluted) benefit of the Israeli tax holiday was $0.22, $0.14,
and $0.17 per diluted share for 1998, 1997 and 1996, respectively.
F-23
<PAGE>
11. RELATED PARTY TRANSACTIONS
In prior years, DSP Telecom entered into technology licensing, engineering,
and marketing arrangements and had transactions with DSP Group, Inc. a
Delaware corporation, and its subsidiaries ("DSP Group"). DSP Group was DSP
Telecom's former parent, and is primarily engaged in the development of
DSP-based software for digital speech products. One of DSPC's former
directors is DSP Group's chairman of the board. Pursuant to these
arrangements and transactions, through 1996, the Company performed certain
contract engineering, research and development, sales and marketing, and
general and administrative services for, and received certain research and
development, sales and marketing, and general and administrative services
from DSP Group, amounting to approximately none and $64,000 in 1996.
Currently, the Company has a license agreement with DSP Group, which gives
DSPC rights to develop five integrated circuits using DSP Group's current
generation digital signal processor technology.
In the normal course of business, DSPC provided certain officers and
employees loans, which amounted to an aggregate of $299,000 and $336,000 at
December 31, 1998, and 1997, respectively.
In connection with the appointment of the Chairman of the Board in October
1998, the Company sold 350,000 shares of the Company's common stock to the
Chairman of the Board on October 12, 1998. The purchase price was
approximately $2,341,000, or $6.6875 per share, which was the closing share
price of the common stock as reported on the New York Stock Exchange on
October 12, 1998. The purchase price was paid by delivery of a promissory
note in the principal amount of approximately $2,341,000. The note bears
interest at the rate of 6.5% per annum. Principal and interest under the note
are due and payable on December 31, 2001. The note is secured by a deed of
trust on certain real property owned by the Chairman of the Board.
In November 1998, the Chairman of the Board exercised options to purchase
412,500 shares of common stock. The exercise price was paid by a promissory
note in the principal amount of approximately $3,233,000. The note bears
interest at the rate of 6.5% per annum. Principal and interest under the note
are due and payable on the earlier of December 31, 2001 or the date on which
the individual sells certain shares of the Company's common stock. The note
is secured by a deed of trust on certain real property and shares of common
stock of the Company owned by the Chairman of the Board.
In connection with the Chief Executive Officer's ("CEO") relocation from
Israel to California, in June 1998, the Company loaned $1,000,000 to the CEO,
in exchange for the delivery of a promissory note in the principal amount of
$1,000,000. The note bears no interest. Principal under the note is due and
payable on the earlier to occur of this individual ceasing to be an employee
of the Company or the sale of the CEO's home in California. The note is
secured by a deed of trust on certain real property owned by the CEO.
F-24
<PAGE>
12. GEOGRAPHIC INFORMATION AND MAJOR CUSTOMERS
DSPC and its subsidiaries operate in one industry segment, principally the
development and marketing of integrated circuits for the wireless
communications market. Operations in Israel include research, development and
sales. Operations in the U.S. include marketing and sales. The following is a
summary of operations within geographic areas for the years ended December 31
(in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
-----------------------------------------------------------
<S> <C> <C> <C>
Revenues from external customers:
United States $ 32,402 $ 13,992 $ 2,711
Japan 96,647 65,553 83,771
Others 2,048 1,956 2,417
-----------------------------------------------------------
$ 131,097 $ 81,501 $ 88,899
-----------------------------------------------------------
-----------------------------------------------------------
Long-lived assets:
United States $ 556 $ 710
Canada 6,700 -
Israel 8,685 5,799
-----------------------------------------
$ 15,941 $ 6,509
-----------------------------------------
-----------------------------------------
</TABLE>
In 1998, 1997 and 1996 sales of chip sets through its distributors (two in
1998 and 1997 and one in 1996) accounted for 91%, 88% and 91% of total
revenues, respectively.
13. EVENTS SUBSEQUENT TO THE AUDITORS' REPORT (UNAUDITED)
Subsequent to December 31, 1998 and through March 4, 1999, the Company
repurchased 609,100 additional shares of its common stock, with an aggregate
purchase price of approximately $9,036,000, pursuant to the repurchase plan
described in Note 8.
F-25
<PAGE>
DSP COMMUNICATIONS, INC.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Col. A Col. B Col. C Col. D Col. E
- ------------------------ ------ --------------------------- ---------- --------
Additions
---------------------------
Charged
Balance at Charged to to Other Balance at
Beginning of Costs and Accounts Deductions End of
Descriptions Period Expenses Describe Describe Period
- ------------ ------------ ---------- -------- --------- ------
<S> <C> <C> <C> <C> <C>
Allowance for Doubtful
Accounts
Years Ended:
December 31, 1996............... $ 139,000 $ -- $ -- $ (7,000)(1) $ 132,000
December 31, 1997............... $ 132,000 $ -- $ -- $(132,000)(1) $ --
December 31, 1998............... $ -- $ 200,000 $ -- $ -- $ 200,000
Warranty Reserve:
Years Ended:
December 31, 1996............... $ 807,000 $2,262,000 $ -- $ -- $3,069,000
December 31, 1997............... $3,069,000 $ 575,000 $ -- $(750,000)(2) $2,894,000
December 31, 1998............... $2,894,000 $ 744,000 $ -- $(792,000)(2) $2,846,000
</TABLE>
(1) Estimated Allowance reduced as a result of a lower outstanding accounts
receivable balance.
(2) Charges applied against the warranty reserve and adjustment of warranty
reserve balance due to product maturity.
S-1
<PAGE>
EXHIBIT 10.29
EMPLOYMENT AGREEMENT
OF DAVIDI GILO
WITH
DSP TELECOM, INC.
THIS EMPLOYMENT AGREEMENT (this "Agreement"), made and entered into
effective as of this 12th day of October, 1998, by and between DSP TELECOM,
INC., a California corporation (hereinafter the "Corporation"), and DAVIDI GILO
(hereinafter "Gilo").
AGREEMENT
The parties hereto hereby agree as follows:
1. EMPLOYMENT DUTIES.
a. GENERAL. The Corporation hereby agrees to employ Gilo, and Gilo
hereby agrees to accept employment with the Corporation, as Chairman of the
Board of the Corporation on the terms and conditions hereinafter set forth.
b. CORPORATION'S DUTIES. The Corporation shall allow Gilo to, and
Gilo shall, perform responsibilities normally incident to his position as
Chairman, subject to his election by the stockholders of the Corporation's
parent, DSP Communications, Inc., a Delaware corporation ("DSPC"), as a Director
of DSPC, but otherwise as the immediate superior to the Chief Executive Officer
of the Corporation, commensurate with his background, experience and
professional standing. The Corporation shall provide Gilo with a private
office, stenographic help, office equipment, supplies, customary services and
cooperation suitable for the performance of his duties. These duties shall be
performed primarily in Cupertino, California.
c. GILO'S DUTIES. Unless otherwise agreed to by the parties, Gilo
shall serve as the Chairman of the Board of DSPC. Gilo shall devote at least
thirty (30) hours per week on average to the work of the Corporation. Gilo
shall report directly to DSPC's Board of Directors. Gilo's service for DSPC's
subsidiaries, including, without limitation, the Corporation, DSP
Telecommunications, Ltd., CTP Systems, Ltd., DSPC Israel, Ltd., DSPC Japan,
Inc., and CTP Systems, Inc., shall be credited to the hours requirement. Gilo
shall inform the Board of any other positions that he takes with any other
corporation from this date forward.
2. TERM. This Agreement shall terminate on December 31, 2002, unless
(a) extended as set forth herein, or (b) terminated sooner under the terms of
this Agreement. Thereafter, this Agreement may be renewed by Gilo and the Board
of Directors of this Corporation on such terms as the parties may agree to in
writing. Absent written notice to the contrary, thirty (30) days prior to the
end of the employment term, this Agreement will be renewed for consecutive one
(1) year extensions. As used herein, the term "employment term" refers to the
entire period of employment of Gilo hereunder, including any extensions.
<PAGE>
3. COMPENSATION. Gilo shall be compensated as follows:
a. FIXED SALARY. Gilo shall receive a fixed annual salary of Three
Hundred Thousand Dollars ($300,000). The Corporation agrees to review the fixed
salary following the end of each twelve (12) month period during the employment
term based upon Gilo's services and the Corporation's financial results during
the calendar year, and to make such increases as may be determined appropriate
in the discretion of the Corporation's Board of Directors.
b. PAYMENT. Gilo's fixed salary shall be payable on a semi-monthly
basis.
c. BONUS COMPENSATION. During the employment term, Gilo shall
participate in each bonus plan adopted by the Corporation's Board of Directors.
Commencing in 1999, Gilo shall be entitled to receive an annual bonus equal to
(i) twenty-five percent (25%) of his base salary should this Corporation meet
eighty percent (80%) of its plan as presented to the Board in January of each
year, during the term of Gilo's employment ("Yearly Plan"); (ii) seventy-five
percent (75%) of his base salary should this Corporation meet its Yearly Plan;
and (iii) one hundred twenty-five percent (125%) of his base salary should this
Corporation meet one hundred twenty percent (120%) of its Yearly Plan, with the
bonus prorated if the Yearly Plan is met between eighty percent (80%) and one
hundred percent (100%); or between one hundred percent (100%) and one hundred
twenty percent (120%). The meeting of the Yearly Plan for purposes of this
Section shall be based upon the actual revenues and earnings per share for each
applicable year (each weighted fifty percent (50%)) compared to the revenues and
earnings per share projected in the Yearly Plan (with each item weighted fifty
percent (50%)) and no item shall be counted if it is not at least eighty percent
(80%) met.
d. VACATION. Gilo shall accrue paid vacation at the rate of thirty
(30) days for each twelve (12) months of employment. Gilo shall be compensated
at his usual rate of compensation during any such vacation. Gilo shall be
entitled to ten (10) paid holidays during each twelve (12) months of employment.
e. BENEFITS. During the employment term, Gilo and his dependents
shall be entitled to participate in any group plans or programs maintained by
the Corporation for any employees relating to group health, disability, life
insurance and other related benefits as in effect from time to time. The level
of benefits shall be based on the salary payable to Gilo. The Corporation shall
provide Gilo with Director and Officer Insurance, if reasonably available to the
Corporation, and all of its officers and directors. Gilo shall in no event
receive less insurance coverage than that available to any other employee. The
Corporation shall, at a minimum, keep in full force and effect its
indemnification agreement previously entered into with Gilo.
4. EXPENSES. The Corporation shall reimburse Gilo for his normal and
reasonable expenses incurred for travel, entertainment and similar items in
promoting and carrying out the business of DSPC in accordance with the
Corporation's general policy as adopted by the Corporation's
Page 2 of 8
<PAGE>
management from time to time. As a condition of reimbursement, Gilo agrees
to provide the Corporation with copies of all available invoices and
receipts, and otherwise account to the Corporation in sufficient detail to
allow the Corporation to claim an income tax deduction for such paid item, if
such item is deductible. Reimbursements shall be made on a monthly, or more
frequent, basis. The Corporation shall also reimburse Gilo for all
professional membership dues incurred, if any; all technical books purchased
by Gilo; and all moving and relocation expenses, incurred by Gilo at the
Corporation's request.
5. CONFIDENTIALITY AND COMPETITIVE ACTIVITIES. Gilo agrees that
during the employment term he is in a position of special trust and
confidence and has access to confidential and proprietary information about
the Corporation's business and plans. Gilo agrees that he will not directly
or indirectly, either as an employee, employer, consultant, agent, principal,
partner, stockholder, corporate officer, director, or in any similar
individual or representative capacity, engage or participate in any business
that is in competition, in any manner whatsoever, with the Corporation.
Notwithstanding anything in the foregoing to the contrary, Gilo shall be
allowed to invest as a shareholder in publicly traded companies, or through a
venture capital firm or an investment pool.
For purposes of this Section 5, the term "Corporation" shall also mean DSPC
or any of its subsidiaries.
6. TRADE SECRETS.
a. SPECIAL TECHNIQUES. It is hereby agreed that the Corporation
has developed or acquired certain products, technology, unique or special
methods, manufacturing and assembly processes and techniques, trade secrets,
special written marketing plans and special customer arrangements, and other
proprietary rights and confidential information and shall during the
employment term continue to develop, compile and acquire said items (all
hereinafter collectively referred to as the "Corporation's Property"). It is
expected that Gilo will gain knowledge of and utilize the Corporation's
Property during the course and scope of his employment with the Corporation,
and will be in a position of trust with respect to the Corporation's Property.
b. CORPORATION'S PROPERTY. It is hereby stipulated and agreed
that the Corporation's Property shall remain the Corporation's sole property.
In the event that Gilo's employment is terminated, for whatever reason, Gilo
agrees not to copy, make known, disclose or use, any of the Corporation's
Property without the Corporation's prior written consent which shall not be
unreasonably withheld. In such event, Gilo further agrees not to endeavor or
attempt in any way to interfere with or induce a breach of any prior
proprietary contractual relationship that the Corporation may have with any
employee, customer, contractor, supplier, representative, or distributor for
nine (9) months. Gilo agrees upon termination of employment to deliver to
the Corporation all confidential papers, documents, records, lists and notes
(whether prepared by Gilo or others) comprising or
Page 3 of 8
<PAGE>
containing the Corporation's Property. Gilo recognizes that violation of
covenants and agreements contained in this Section 6 may result in irreparable
injury to the Corporation which would not be fully compensable by way of money
damages.
c. COVENANT NOT TO COMPETE. For a period of one (1) year from the
date of any termination of Gilo's employment with the Corporation, provided that
he has sold substantially all of his stock in the Corporation, Gilo shall not,
directly or indirectly, either as an employee, employer, consultant, agent,
principal, partner, stockholder, corporate officer, Director, or in any other
individual or representative capacity, engage or participate in any activities
within the State of California, which are the same as, or competitive with, the
activities in which the Corporation is presently engaged.
d. CORPORATION DEFINED. For purposes of this Section 6, the term
"Corporation" shall also mean DSPC and any of its subsidiaries.
7. TERMINATION.
a. GENERAL. The Corporation may terminate this Agreement without
cause, by written notice. Gilo may voluntarily terminate his employment
hereunder upon ninety (90) days' advance written notice to the Corporation. A
change in control (as defined below) of the Corporation, other than a change in
control which is also a transaction described in Section 9.e. below, shall be
deemed to be an immediate termination without cause by the Corporation. As used
herein, "change in control" means a change in ownership or control of the
Corporation effected through either of the following transactions:
(i) the direct or indirect acquisition by any person or
related group of persons (other than an acquisition from or by the Corporation
or by a Corporation-sponsored employee benefit plan or by a person that directly
or indirectly controls, is controlled by, or is under common control with, the
Corporation of beneficial ownership (within the meaning of Rule 13d-3 of the
Securities Exchange Act of 1934, as amended) of securities possessing more than
fifty percent (50%) of the total combined voting power of the Corporation's
outstanding securities pursuant to a tender or exchange offer made directly to
the Corporation's stockholders which a majority of the Continuing Directors who
are not affiliates or associates of the offeror do not recommend such
stockholders accept, or
(ii) a change in the composition of the Board over a period of
thirty-six (36) months or less such that a majority of the Board members
(rounded up to the next whole number) ceases, by reason of one or more contested
elections for Board membership, to be comprised of individuals who are
Continuing Directors.
Page 4 of 8
<PAGE>
As used herein, "CONTINUING DIRECTORS" means members of the Board of the
Corporation who either (i) have been Board members continuously for a period of
at least thirty-six (36) months or (ii) have been Board members for less than
thirty-six (36) months and were elected or nominated for election as Board
members by at least a majority of the Board members described in clause (i) who
were still in office at the time such election or nomination was approved by the
Board.
b. TERMINATION FOR CAUSE. The Corporation may immediately terminate
Gilo's employment at any time for cause. Termination for cause shall be
effective from the receipt of written notice thereof to Gilo specifying the
grounds for termination and all relevant facts. Cause shall be deemed to
include: (i) material neglect of his duties or a significant violation of any
of the provisions of this Agreement, which continues after written notice and a
reasonable opportunity (not to exceed thirty (30) days) in which to cure;
(ii) fraud, embezzlement, defalcation or conviction of any felonious offense; or
(iii) intentionally imparting confidential information relating to the
Corporation, DSPC, or any of DSPC's subsidiaries, or their business to
competitors or to other third parties other than in the course of carrying out
his duties hereunder. The Corporation's exercise of its rights to terminate
with cause shall be without prejudice to any other remedy it may be entitled at
law, in equity, or under this Agreement.
c. TERMINATION UPON DEATH OR DISABILITY. This Agreement shall
automatically terminate upon Gilo's death. In addition, if any disability or
incapacity of Gilo to perform his duties as the result of any injury, sickness,
or physical, mental or emotional condition continues for a period of thirty (30)
business days (excluding any accrued vacation) out of any one hundred twenty
(120) calendar day period, the Corporation may terminate Gilo's employment upon
written notice. Payment of salary to Gilo during any sick leave shall only be
to the extent that Gilo has accrued sick leave or vacation days. Gilo shall
accrue sick leave at the same rate generally available to the Corporation's
employees.
d. SEVERANCE PAY. If this Agreement is terminated without cause
pursuant to Section 7.a. (above), the Corporation shall pay Gilo a
severance/consulting fee equal to the full amount of the compensation that he
could have expected under this Agreement, as and when payable under this
Agreement, without deduction except for tax withholding amounts, through the end
of the term, during which Gilo shall remain as a consultant to the Corporation.
The Corporation shall pay Gilo a severance fee equal to his monthly salary at
his then-current rate of fixed salary compensation, multiplied by the number six
(6) if this Agreement is terminated pursuant to Section 7.b (i) (above) or if
Gilo or the Corporation elects not to renew this Agreement. The Corporation
shall pay Gilo a severance fee equal to his monthly salary at his then-current
rate of fixed salary compensation, multiplied by the lesser of the number
eighteen (18) or the number of months left in the original term of this
Agreement as set forth herein plus nine (9), if Gilo voluntarily elects to
terminate his
Page 5 of 8
<PAGE>
employment, unless the Corporation successfully claims that a termination in
accordance with Section 7. b(ii) and (iii) is in order, or if Gilo or the
Corporation elects not to renew this Agreement. There shall be no severance in
the event that this Agreement is terminated in accordance with Section 7.b (ii)
and (iii).
8. CORPORATE OPPORTUNITIES.
a. DUTY TO NOTIFY. In the event that Gilo, during the employment
term, shall become aware of any material and significant business opportunity
directly related to the Corporation's digital signal processing business or the
Corporation's wireless PBX business, or such other businesses that become
significant for the Corporation, Gilo shall promptly notify the Corporation's
Directors of such opportunity. Gilo shall not appropriate for himself or for
any other person other than the Corporation, or any affiliate of the
Corporation, any such opportunity unless, as to any particular opportunity, the
Board of Directors of the Corporation fails to take appropriate action within
thirty (30) days. Gilo's duty to notify the Corporation and to refrain from
appropriating all such opportunities for thirty (30) days shall neither be
limited by, nor shall such duty limit, the application of the general law of
California relating to the fiduciary duties of an agent or employee.
b. FAILURE TO NOTIFY. In the event that Gilo fails to notify the
Corporation of, or so appropriates, any such opportunity without the express
written consent of the Board of Directors, Gilo shall be deemed to have violated
the provisions of this Section notwithstanding the following:
i. The capacity in which Gilo shall have acquired such
opportunity; or
ii. The probable success in the Corporation's hands of such
opportunity.
c. CORPORATION DEFINED. For purposes of this Section 8, the term
"Corporation" shall also mean DSPC or any of its subsidiaries.
9. MISCELLANEOUS.
a. ENTIRE AGREEMENT. This Agreement constitutes the entire
agreement and understanding between the parties with respect to the subject
matters herein, and supersedes and replaces any prior agreements and
understandings, whether oral or written between them with respect to such
matters. The provisions of this Agreement may be waived, altered, amended or
repealed in whole or in part only upon the written consent of both parties to
this Agreement.
b. NO IMPLIED WAIVERS. The failure of either party at any time to
require performance by the other party of any provision hereof shall not affect
in any way the right to require such performance at any time thereafter, nor
shall the waiver by either party of a breach of any provision hereof be taken or
held to be a waiver of any subsequent breach of the same provision or any other
provision.
Page 6 of 8
<PAGE>
c. PERSONAL SERVICES. It is understood that the services to be
performed by Gilo hereunder are personal in nature and the obligations to
perform such services and the conditions and covenants of this Agreement cannot
be assigned by Gilo. Subject to the foregoing, and except as otherwise provided
herein, this Agreement shall inure to the benefit of and bind the successors and
assigns of the Corporation.
d. SEVERABILITY. If for any reason any provision of this Agreement
shall be determined to be invalid or inoperative, the validity and effect of the
other provisions hereof shall not be affected thereby, provided that no such
severability shall be effective if it causes a material detriment to any party.
e. MERGER, TRANSFER OF ASSETS, OR DISSOLUTION OF THE CORPORATION.
This Agreement shall not be terminated by any dissolution of the Corporation
resulting from either merger or consolidation in which the Corporation is not
the consolidated or surviving corporation or a transfer of all or substantially
all of the assets of the Corporation. In such event, the rights, benefits and
obligations herein shall automatically be assigned to the surviving or resulting
corporation or to the transferee of the assets.
f. APPLICABLE LAW. This Agreement shall be governed by and
construed in accordance with the laws of the State of California, applicable to
contracts between California residents entered into and to be performed entirely
within the State of California.
g. NOTICES. All notices, requests, demands, instructions or other
communications required or permitted to be given under this Agreement shall be
in writing and shall be deemed to have been duly given upon delivery, if
delivered personally, or if given by prepaid telegram, or mailed first-class,
postage prepaid, registered or certified mail, return receipt requested, shall
be deemed to have been given seventy-two (72) hours after such delivery, if
addressed to the other party at the addresses as set forth on the signature page
below. Either party hereto may change the address to which such communications
are to be directed by giving written notice to the other party hereto of such
change in the manner above provided.
Page 7 of 8
<PAGE>
h. LEGAL COUNSEL. Gilo has been represented by or has been advised
by the Corporation to seek and obtain the advise of independent counsel of his
own choice and has been given an adequate opportunity to seek and obtain the
advise of such independent counsel in connection with the negotiation of this
Agreement.
IN WITNESS WHEREOF, the parties have executed this Agreement as of the date
first written above.
DSP TELECOM, INC.
a California corporation
20300 Stevens Creek Blvd., Ste. 465
Cupertino, CA 95014
By: /s/ Lewis Broad /s/ Davidi Gilo
------------------------ -------------------------
LEWIS BROAD, Chairman of DAVIDI GILO
Compensation Committee 100 Why Worry Lane
Woodside, CA 94062
Page 8 of 8
<PAGE>
EXHIBIT 10.30
SECURED PROMISSORY NOTE
$3,233,432.70 Woodside, California November 16, 1998
FOR VALUE RECEIVED, the undersigned, DAVIDI GILO (hereinafter the "MAKER"),
hereby promises to pay to DSP COMMUNICATIONS, INC. (hereinafter the "PAYEE"), or
order, in Cupertino, California, or at such other place as PAYEE may from time
to time designate, in United States of America currency, the sum of Three
Million Two Hundred Thirty-Three Thousand Four Hundred Thirty-Two and 70/100
Dollars ($3,233,432.70), with interest on the unpaid principal balance.
Interest shall accrue from the date of this Note at the rate of six and one-half
percent (6.5%) per annum.
The principal amount under this Note and any accrued and unpaid interest
thereon shall be due and payable in full on the earlier to occur of (i) December
31, 2001, or (ii) the date on which MAKER has sold any of the 350,000 shares of
PAYEE's common stock purchased by MAKER from PAYEE on October 12, 1998, or (iii)
the date on which MAKER has sold an aggregate of 100,000 of any other shares of
PAYEE's common stock held by MAKER.
The MAKER shall have the right to prepay all or any part of the unpaid
principal of this Note from time to time without any penalty or premium,
provided that any such prepayments shall be applied first against any accrued
interest, and then against principal.
In the event of default in the payment of any installment of principal or
interest for more than thirty (30) days after such comes due, the entire
outstanding balance of principal and interest shall become immediately due and
payable at the option of the holder of this Note.
If a party breaches this Note, the breaching party shall pay all costs and
attorneys' fees incurred by the other party in connection with such breach,
whether or not any litigation is commenced.
All principal and interest hereunder shall be secured by (i) Three Hundred
Fifty Thousand (350,000) shares of PAYEE's common stock owned by MAKER pursuant
to the terms and conditions of a Pledge Agreement entered into on even date
herewith by and between MAKER and PAYEE (the "Pledge Agreement"), and (ii) a
Deed of Trust and Assignment of Rents on certain real property owned by MAKER.
Consent by the PAYEE to waive one default shall not be deemed to be a
waiver of the right to require consent to waive future or successive defaults.
This Note shall be governed as to its construction, interpretation and
enforcement and in all other respects by the laws of the State of California
without regard to the conflicts of laws provisions thereof.
This Note shall not be modified, amended or canceled except in writing by
the MAKER and PAYEE or other assignee of this Note.
The MAKER waives demand, presentment, protest, notice of nonpayment, notice
of protest and any and all lack of diligence or delays which may occur in the
collection of this Note.
IN WITNESS WHEREOF, the MAKER has caused this Note to be duly executed in
Woodside, California.
/s/ Davidi Gilo
---------------------------------
Davidi Gilo
<PAGE>
EXHIBIT 10.31
RESTATED AND AMENDED EMPLOYMENT AGREEMENT
OF STEPHEN P. PEZZOLA
WITH
DSP COMMUNICATIONS, INC. AND DSP TELECOM, INC.
THIS RESTATED AND AMENDED EMPLOYMENT AGREEMENT (this "Agreement"), made and
entered into effective as of the 16th day of January, 1999, by and between DSP
Communications, Inc., a Delaware corporation (hereinafter "DSPC"), DSP TELECOM,
INC., a California corporation (hereinafter the "Corporation"), and STEPHEN P.
PEZZOLA (hereinafter "Pezzola").
RECITALS
A. DSPC is the parent corporation of the Corporation.
B. Effective September 16, 1996, Pezzola entered into an employment
agreement with the Corporation and DSPC to serve as DSPC's General Counsel and
to serve as an employee of the Corporation, and such agreement was amended and
restated on January 1, 1998 (as so amended and restated, the "Employment
Agreement").
C. The terms of the Employment Agreement are hereby amended and restated
in full as of January 16, 1999.
AGREEMENT
NOW, THEREFORE, the parties hereto hereby agree as follows:
1. EMPLOYMENT DUTIES.
a. GENERAL. The Corporation hereby agrees to employ Pezzola, and
Pezzola hereby agrees to accept employment with the Corporation, on the terms
and conditions hereinafter set forth.
b. CORPORATION'S DUTIES. The Corporation shall allow Pezzola to,
and Pezzola shall, perform responsibilities normally incident to his position as
General Counsel of DSPC, commensurate with his background, education, experience
and
<PAGE>
professional standing. The Corporation shall provide Pezzola with a private
office, stenographic help, office equipment, supplies, assistant or secretary,
customary services and cooperation suitable for the performance of his duties.
c. PEZZOLA'S DUTIES. Unless otherwise agreed to by the parties,
Pezzola shall serve as General Counsel and Secretary of DSPC. Pezzola shall
devote such time in executing his duties as General Counsel as is deemed
needed by DSPC's Chairman of the Board of Directors. Pezzola shall not be
required to devote his full time efforts to the Corporation or DSPC. It is
intended that Pezzola will work the majority of his time, approximately
thirty (30) hours per week, and that he will serve as General Counsel of
entities other than DSPC, the Corporation, or their affiliates, and as an
owner in an investment entity. Pezzola shall report directly to the Chairman
of the Board of Directors of DSPC. Mr. Pezzola shall also inform the Chairman
of the DSPC Compensation Committee of any other positions that he takes with
any other entity, beyond the positions that he currently holds. Pezzola's
duties shall be performed primarily in the San Francisco Bay Area, and more
particularly, in either Cupertino or Oakland, California, at the option of
Pezzola.
2. EMPLOYMENT TERM. This Agreement shall terminate December 31, 2000
("Employment Term"), unless (a) extended as set forth herein, or (b) terminated
sooner under the terms of this Agreement. Thereafter, this Agreement may be
renewed by Pezzola and the DSPC Board of Directors of DSPC on such terms as the
parties may agree to in writing. Absent written notice to the contrary, thirty
(30) days prior to the end of the Employment Term, this Agreement will be
renewed for consecutive one (1) year extensions. As used herein, the term
"Employment Term" refers to the entire period of employment of Pezzola
hereunder, including any extensions.
3. COMPENSATION. Pezzola shall be compensated as follows:
a. FIXED SALARY. Effective January 16, 1999, Pezzola shall receive
a fixed annual salary of Two Hundred Thousand Dollars ($200,000). The
Corporation agrees to review the fixed salary following the end of each calendar
year during the Employment Term based upon Pezzola's services and the financial
results of DSPC
2
<PAGE>
during the calendar year, and to make such increases as may be determined
appropriate in the discretion of DSPC's Compensation Committee of the Board of
Directors ("Compensation Committee").
b. PAYMENT. Pezzola's fixed salary shall be payable on a
semi-monthly basis.
c. BONUS COMPENSATION. During the Employment Term, Pezzola shall
participate in each bonus plan adopted by the Corporation's Board of Directors.
Commencing in 1999, Pezzola shall be entitled to receive an annual bonus equal
to (i) twenty-five percent (25%) of his annual base salary should the
Corporation meet eighty percent (80%) of its plan as presented to the Board in
January of each year, during the term of Pezzola's employment ("Yearly Plan");
(ii) fifty percent (50%) of his annual base salary should the Corporation meet
its Yearly Plan; and (iii) one hundred percent (100%) of his annual base salary
should the Corporation meet one hundred twenty percent (120%) of its Yearly
Plan, with the bonus prorated if the Yearly Plan is met between eighty percent
(80%) and one hundred percent (100%); or between one hundred percent (100%) and
one hundred twenty percent (120%). For purposes of this Section, the meeting of
the Yearly Plan shall be based upon the actual revenues and earnings per share
for each applicable year (each weighted fifty percent (50%)) compared to the
revenues and earnings per share projected in the Yearly Plan (with each item
weighted fifty percent (50%)), and no item shall be counted if it is not at
least eighty percent (80%) met.
d. VACATION. Pezzola shall accrue paid vacation at the rate of
twenty-five (25) days for each twelve (12) months of employment. Pezzola shall
be compensated at his usual rate of compensation during any such vacation.
Pezzola shall be entitled to ten (10) paid holidays during each twelve (12)
months of employment. Pezzola shall receive sick leave or disability leave in
accordance with the terms of the Corporation's standard sick leave or disability
leave policy.
e. BENEFITS. During the employment term, Pezzola and his dependents
shall be entitled to participate in any group plans or programs maintained by
the
3
<PAGE>
Corporation for any employees relating to group health, disability, life
insurance and other related benefits as in effect from time to time. The level
of benefits shall be based on the salary payable to Pezzola. The Corporation
and DSPC shall provide Pezzola with Director and Officer Insurance, if
reasonably available to the Corporation and DSPC, and all of its officers and
directors. Pezzola shall in no event receive less insurance coverage than that
available to any other employee.
4. EXPENSES. The Corporation shall reimburse Pezzola for his normal and
reasonable expenses incurred for travel, entertainment and similar items in
promoting and carrying out the business of the Corporation in accordance with
the Corporation's general policy as adopted by the Corporation's management from
time to time. The Corporation shall pay Pezzola's cellular telephone expenses
to the extent incurred in carrying out the business of the Corporation. The
Corporation shall also reimburse Pezzola for the portion of his professional
membership dues incurred, if any; legal education and seminar expenses; and
California Bar Association dues or fees necessary to maintain his certification
as an attorney in California, as are allocable to the Corporation from time to
time, based on the percentage of Pezzola's time each year that is spent on
Corporation matters. The Corporation shall also reimburse Pezzola for
legal/technical books purchased by Pezzola that are used in carrying out
Pezzola's duties to the Corporation. As a condition of payment or
reimbursement, Pezzola agrees to provide the Corporation with copies of all
available invoices and receipts, and otherwise account to the Corporation in
sufficient detail to allow the Corporation to claim an income tax deduction for
such paid item, if such item is deductible. Reimbursements shall be made on a
monthly, or more frequent, basis.
5. INDEMNIFICATION. The parties entered into an Indemnification
Agreement, effective September 16, 1996, under which DSPC indemnifies Pezzola
for actions he may take on behalf of the Corporation or DSPC.
6. CONFIDENTIALITY AND COMPETITIVE ACTIVITIES. Pezzola agrees that
during the Employment Term he is in a position of special trust and confidence
and has access to confidential and proprietary information about the
Corporation's business and plans.
4
<PAGE>
Pezzola agrees that he will not directly or indirectly, either as an employee,
employer, consultant, agent, principal, partner, stockholder, corporate officer,
director, or in any similar individual or representative capacity, engage or
participate in any business that is in competition, in any manner whatsoever,
with the Corporation. Notwithstanding anything in the foregoing to the
contrary, Pezzola shall be allowed to invest as a shareholder in publicly-traded
companies, or through a venture capital firm or an investment pool.
7. TRADE SECRETS.
a. SPECIAL TECHNIQUES. It is hereby agreed that the Corporation
has developed or acquired certain products, technology, unique or special
methods, manufacturing and assembly processes and techniques, trade secrets,
special written marketing plans and special customer arrangements, and other
proprietary rights and confidential information and shall during the employment
term continue to develop, compile and acquire said items (all hereinafter
collectively referred to as the "Corporation's Property"). It is expected that
Pezzola will gain knowledge of and utilize the Corporation's Property during the
course and scope of his employment with the Corporation, and will be in a
position of trust with respect to the Corporation's Property.
b. CORPORATION'S PROPERTY. It is hereby stipulated and agreed that
the Corporation's Property shall remain the Corporation's sole property. In the
event that Pezzola's employment is terminated, for whatever reason, Pezzola
agrees not to copy, make known, disclose or use, any of the Corporation's
Property without the Corporation's prior written consent. In such event,
Pezzola further agrees not to endeavor or attempt in any way to interfere with
or induce a breach of any prior proprietary contractual relationship that the
Corporation may have with any employee, customer, contractor, supplier,
representative, or distributor for nine (9) months after any termination of this
Agreement. Pezzola agrees upon termination of employment to deliver to the
Corporation all confidential papers, documents, records, lists and notes
(whether prepared by Pezzola or others) comprising or containing the Corpora-
5
<PAGE>
tion's Property. Pezzola recognizes that violation of covenants and agreements
contained in this Section 7 may result in irreparable injury to the Corporation
which would not be fully compensable by way of money damages.
8. TERMINATION.
a. GENERAL. The Corporation may terminate this Agreement without
cause, by written notice. Pezzola may voluntarily terminate his employment
hereunder upon sixty (60) days' advance written notice to the Corporation.
b. TERMINATION FOR CAUSE. The Corporation may immediately terminate
Pezzola's employment at any time for cause. Termination for cause shall be
effective from the receipt of written notice thereof to Pezzola specifying the
grounds for termination and all relevant facts. Cause shall be deemed to
include: (i) material neglect of his duties or a significant violation of any
of the provisions of this Agreement, which continues after written notice and a
reasonable opportunity (not to exceed thirty (30) days) in which to cure; (ii)
fraud, embezzlement, defalcation or conviction of any felonious offense; or
(iii) intentionally imparting confidential information relating to the
Corporation or DSPC or their business to competitors or to other third parties
other than in the course of carrying out his duties hereunder. The
Corporation's exercise of its rights to terminate with cause shall be without
prejudice to any other remedy it may be entitled at law, in equity, or under
this Agreement.
c. TERMINATION UPON DEATH OR DISABILITY. This Agreement shall
automatically terminate upon Pezzola's death. In addition, if any disability or
incapacity of Pezzola to perform his duties as the result of any injury,
sickness, or physical, mental or emotional condition continues for a period of
thirty (30) business days (excluding any accrued vacation) out of any one
hundred twenty (120) calendar day period, the Corporation may terminate
Pezzola's employment upon written notice. Payment of salary to Pezzola during
any sick leave shall only be to the extent that Pezzola has accrued sick leave
or vacation days. Pezzola shall accrue sick leave at the same rate generally
available to the Corporation's employees.
6
<PAGE>
d. SEVERANCE PAY. If this Agreement is terminated by the
Corporation without cause pursuant to Section 8.a. (above), the Corporation
shall pay Pezzola a severance/consulting fee equal to the full amount of the
compensation that he could have expected under this Agreement, as and when
payable under this Agreement, without deduction except for tax withholding
amounts, through the end of the term, during which Pezzola shall remain as a
consultant to the Corporation in a non-policy-making role. If this Agreement is
terminated with cause pursuant to Section 8.b. (above), the Corporation shall
not be obligated to pay Pezzola any severance/consulting fee. If this Agreement
is not renewed on or after December 31, 2000, then the Corporation shall pay
Pezzola a severance/consulting fee equal to his then-current monthly rate of
fixed salary compensation, multiplied by the number four (4). The Corporation
shall pay Pezzola a severance/consulting fee equal to his monthly salary at his
then-current rate of fixed salary compensation, multiplied by the number three
(3), if Pezzola voluntarily elects to terminate his employment, unless the
Corporation successfully claims that a termination in accordance with Section
8.b. is in order.
9. CORPORATE OPPORTUNITIES.
a. DUTY TO NOTIFY. In the event that Pezzola, during the Employment
Term, shall become aware of any material and significant business opportunity
directly related to any of the Corporation's significant businesses, Pezzola
shall promptly notify the Corporation's Directors of such opportunity. Pezzola
shall not appropriate for himself or for any other person other than the
Corporation, or any affiliate of the Corporation, any such opportunity unless,
as to any particular opportunity, the Board of Directors of the Corporation
fails to take appropriate action within thirty (30) days. Pezzola's duty to
notify the Corporation and to refrain from appropriating all such opportunities
for thirty (30) days shall neither be limited by, nor shall such duty limit, the
application of the general law of California relating to the fiduciary duties of
an agent or employee.
b. FAILURE TO NOTIFY. In the event that Pezzola fails to notify the
Corporation of, or so appropriates, any such opportunity without the express
written
7
<PAGE>
consent of the Board of Directors, Pezzola shall be deemed to have violated the
provisions of this Section notwithstanding the following:
i. The capacity in which Pezzola shall have acquired such
opportunity; or
ii. The probable success in the Corporation's hands of such
opportunity.
c. CORPORATION DEFINED. For purposes of Sections 6, 7, 8 and 9, the
term "Corporation" shall also include DSPC and all of DSPC's subsidiaries.
10. MISCELLANEOUS.
a. ENTIRE AGREEMENT. This Agreement constitutes the entire
agreement and understanding between the parties with respect to the subject
matters herein, and supersedes and replaces any prior agreements and
understandings, whether oral or written between them with respect to such
matters. The provisions of this Agreement may be waived, altered, amended or
repealed in whole or in part only upon the written consent of both parties to
this Agreement.
b. NO IMPLIED WAIVERS. The failure of either party at any time to
require performance by the other party of any provision hereof shall not affect
in any way the right to require such performance at any time thereafter, nor
shall the waiver by either party of a breach of any provision hereof be taken or
held to be a waiver of any subsequent breach of the same provision or any other
provision.
c. PERSONAL SERVICES. It is understood that the services to be
performed by Pezzola hereunder are personal in nature and the obligations to
perform such services and the conditions and covenants of this Agreement cannot
be assigned by Pezzola. Subject to the foregoing, and except as otherwise
provided herein, this Agreement shall inure to the benefit of and bind the
successors and assigns of the Corporation.
d. SEVERABILITY. If for any reason any provision of this Agreement
shall be determined to be invalid or inoperative, the validity and effect of the
other
8
<PAGE>
provisions hereof shall not be affected thereby, provided that no such
severability shall be effective if it causes a material detriment to any party.
e. APPLICABLE LAW. This Agreement shall be governed by and
construed in accordance with the laws of the State of California, applicable to
contracts between California residents entered into and to be performed entirely
within the State of California.
f. NOTICES. All notices, requests, demands, instructions or other
communications required or permitted to be given under this Agreement shall be
in writing and shall be deemed to have been duly given upon delivery, if
delivered personally, or if given by prepaid telegram, or mailed first-class,
postage prepaid, registered or certified mail, return receipt requested, shall
be deemed to have been given seventy-two (72) hours after such delivery, if
addressed to the other party at the addresses as set forth on the signature page
below. Either party hereto may change the address to which such communications
are to be directed by giving written notice to the other party hereto of such
change in the manner above provided.
g. MERGER, TRANSFER OF ASSETS, OR DISSOLUTION OF THE CORPORATION.
This Agreement shall not be terminated by any dissolution of the Corporation
resulting from either merger or consolidation in which the Corporation is not
the consolidated or surviving corporation or a transfer of all or substantially
all of the assets of the Corporation. In such event, the rights, benefits and
obligations herein shall automatically be assigned to the surviving or resulting
corporation or to the transferee of the assets.
h. CONFLICT POTENTIAL AND DUTY TO NOTIFY. Pezzola agrees to notify
the Chairman of the Compensation Committee of: (1) any investments into any
company or other entity of his own personal funds which is in excess of Two
Hundred Thousand Dollars ($200,000); (2) any investment which results in Pezzola
owing over five percent (5%) of an entity; or (3) any other employment or
consulting arrangement that Pezzola is a party to. If the Chairman of the
Compensation Committee deems such investment or arrangement to be a conflict, he
and Pezzola shall attempt to
9
<PAGE>
resolve the conflict. If such conflict cannot be so resolved, then the Chairman
of the Compensation Committee shall discuss the matter with the entire board.
IN WITNESS WHEREOF, the parties have executed this Agreement as of the date
first written above.
DSP TELECOM, INC. DSP COMMUNICATIONS, INC.
a California corporation a California corporation
20300 Stevens Creek Blvd., 20300 Stevens Creek Blvd.,
Suite 465 Suite 465
Cupertino, CA 95014 Cupertino, CA 95014
By: /s/ Davidi Gilo By: /s/ Lewis Broad
--------------------------- ---------------------------
Davidi Gilo, Chairman Lewis Broad, Chairman
of the Board of Directors of the Compensation Committee
/s/ Stephen P. Pezzola
- ------------------------------
STEPHEN P. PEZZOLA
40 Yorkshire Drive
Oakland, CA 94618
10
<PAGE>
EXHIBIT 21.1
SUBSIDIARIES OF REGISTRANT
Name Jurisdiction of Incorporation
- ---- -----------------------------
DSP Telecom, Inc. California
CTP Systems, Inc. California
D.S.P.C. Technologies Ltd. Israel
DSP Telecommunications, Ltd. Israel
DSPC Israel Ltd. Israel
CTP Systems Ltd. Israel
DSP Communications (Japan), Inc. Japan
Isotel Corp. New Brunswick, Canada
DSPC Europe BVBA Belgium
<PAGE>
EXHIBIT 23.1
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statement (Form
S-8 No. 333-68777) pertaining to the 1998 Non-Qualified Stock Option Plan, the
Registration Statement (Form S-8 No. 333-19883) pertaining to the 1996 Stock
Option Plan, the Registration Statement (Form S-8 No. 333-11841) pertaining to
the 1996 Nonstatutory Employee and Consultant Option Plan and the Registration
Statement (Form S-8 No. 033-95886) pertaining to the 1995 Employee Stock
Purchase Plan, the 1995 Employee and Consultant Stock Plan and the 1995 Director
Stock Option Plan of DSP Communications, Inc., of our report dated January 11,
1999, with respect to the consolidated financial statements of DSP
Communications, Inc. included in the Annual Report (Form 10-K) for the year
ended December 31, 1998.
/s/ ERNST & YOUNG LLP
Palo Alto, California
March 23, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS IN THE ANNUAL REPORT ON FORM 10-K OF DSP COMMUNICATIONS,
INC. FOR THE TWELVE MONTHS ENDED DECEMBER 31, 1998 AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 66,818
<SECURITIES> 27,071
<RECEIVABLES> 29,551
<ALLOWANCES> 200
<INVENTORY> 2,657
<CURRENT-ASSETS> 128,957
<PP&E> 10,952
<DEPRECIATION> 5,629
<TOTAL-ASSETS> 145,237
<CURRENT-LIABILITIES> 38,869
<BONDS> 0
0
0
<COMMON> 38
<OTHER-SE> 111,330
<TOTAL-LIABILITY-AND-EQUITY> 145,237
<SALES> 126,874
<TOTAL-REVENUES> 131,097
<CGS> 71,236
<TOTAL-COSTS> 73,934
<OTHER-EXPENSES> 15,504
<LOSS-PROVISION> 200
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 33,473
<INCOME-TAX> 4,101
<INCOME-CONTINUING> 29,372
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 29,372
<EPS-PRIMARY> 0.74
<EPS-DILUTED> 0.70
</TABLE>
