<PAGE>
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
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(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JANUARY 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 0-25540
STB SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
TEXAS 75-1855896
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1651 NORTH GLENVILLE DRIVE, RICHARDSON, TEXAS 75081
(Address of principal executive offices)
(972) 234-8750
(Registrant's telephone number, including area code)
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 the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date.
Number of Shares Outstanding as of
Title of each class: March 16, 1998:
Common Stock, $.01 par value 10,500,137
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<PAGE>
STB SYSTEMS, INC.
INDEX
PAGE
PART I FINANCIAL INFORMATION NUMBER
Item 1 Consolidated Financial Statements (unaudited) :
Consolidated Balance Sheets at January 31, 1998
and October 31, 1997 2
Consolidated Statements of Operations for the
quarters ended January 31, 1998 and 1997 3
Consolidated Statements of Cash Flows for the
three months ended January 31, 1998 and 1997 4
Notes to Consolidated Financial Statements 5 - 6
Item 2 Management's Discussion and Analysis of
Financial Condition and Results of Operations 7 - 13
PART II OTHER INFORMATION
Items 1 through 4 Have been omitted since the registrant has no
reportable events in relation to these items.
Item 5 Other Information - Risk Factors 13 - 26
Item 6 Exhibits and Reports on Form 8-K 27
Signatures 28
-1-
<PAGE>
PART I FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
STB SYSTEMS, INC. and SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
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(dollars in thousands except per share data)
<TABLE>
January 31, October 31,
1998 1997
------------------------
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 3,391 $ 3,869
Accounts receivable - trade, net of allowance
for doubtful accounts of $548 and $465 49,806 47,208
Inventories, net 45,811 41,295
Other current assets 2,659 1,970
----------------------
Total current assets 101,667 94,342
Property and equipment, net 12,130 12,348
Other assets 1,970 2,864
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Total assets $115,767 $109,554
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LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Short-term debt $ 23,000 $ 21,520
Accounts payable - trade 38,938 36,801
Accrued wages, commissions and bonuses 936 1,466
Other accrued liabilities 2,403 2,027
Current portion of long-term liabilities 589 1,167
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Total current liabilities 65,866 62,981
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Long-term Liabilities:
Long-term notes payable - 500
Obligations under capital leases and other
long-term liabilities 2,538 2,611
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Total long-term liabilities 2,538 3,111
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Shareholders' Equity:
Preferred stock, 2,000,000 shares authorized,
none issued or outstanding - -
Common stock, $.01 par value, 25,000,000 shares
authorized, 10,464,897 and 10,452,473 shares issued,
respectively 105 105
Additional paid-in capital 25,453 25,357
Retained earnings 22,050 18,245
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47,608 43,707
Treasury stock, 35 shares, at cost (245) (245)
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Total shareholders' equity 47,363 43,462
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Total liabilities and shareholders' equity $115,767 $109,554
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</TABLE>
The accompanying notes are an integral part of these financial statements
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<PAGE>
STB SYSTEMS, INC. and SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
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(DOLLARS IN THOUSANDS EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
Three months ended
January 31,
1998 1997
-------------------------
<S> <C> <C>
Net sales $ 78,758 $ 48,092
Cost of sales 62,542 37,459
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Gross profit 16,216 10,633
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Operating expenses:
Research and development 2,338 1,238
Sales and marketing 4,424 3,286
General and administrative 3,235 2,383
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Total operating expenses 9,997 6,907
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Income from operations 6,219 3,726
Interest expense, net 518 376
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Income before income taxes 5,701 3,350
Provision for income taxes 1,896 1,098
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Net income $ 3,805 $ 2,252
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Net income per share:
Basic $ 0.36 $ 0.22
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-------------------------
Diluted $ 0.33 $ 0.21
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-------------------------
Weighted average shares outstanding:
Basic 10,461,695 10,158,549
Diluted 11,388,554 10,730,624
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-------------------------
</TABLE>
The accompanying notes are an integral part of these financial statements.
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<PAGE>
STB SYSTEMS, INC. and SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
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(DOLLARS IN THOUSANDS)
<TABLE>
Three months ended
January 31,
1998 1997
---------------------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 3,805 $ 2,252
Adjustments to reconcile net income to net cash
from operating activities:
Depreciation and amortization 660 420
Changes in assets and liabilities:
Accounts receivable - trade (2,598) 667
Inventories (4,516) 457
Other current assets (689) (260)
Other assets 894 33
Accounts payable - trade 2,136 (4,483)
Accrued wages, commissions, and bonuses (530) (109)
Other accrued liabilities 376 365
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Net cash used in operating activities (462) (658)
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Cash flows from investing activities -
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Purchases of property and equipment (442) (1,085)
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Cash flows from financing activities:
Borrowings on short-term debt 1,480 2,145
Payments on long-term debt (1,150) (185)
Issuance of common stock, net of issue costs 96 99
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Net cash provided by financing activities 426 2,059
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Net increase (decrease) in cash and cash equivalents (478) 316
Cash and cash equivalents at beginning of period 3,869 3,420
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Cash and cash equivalents at end of period $ 3,391 $ 3,736
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</TABLE>
The accompanying notes are an integral part of these financial statements
- 4 -
<PAGE>
STB SYSTEMS, INC.
Notes To Consolidated Financial Statements
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
STB Systems, Inc. develops, manufactures and sells a wide selection of
multimedia accelerator subsystems, other multimedia subsystem products and
specialized technology products for use in mid-range and high-end personal
computers ("PCs"). STB Assembly, Inc. is a wholly-owned subsidiary and
provides manufacturing services to STB Systems, Inc. Symmetric Simulation
Systems, Inc., also a wholly-owned subsidiary of STB Systems, Inc., designs
high-end 3D graphics acceleration products for use in applications such as
computer-aided design, product visualization and animation.
The accompanying financial statements include the consolidated accounts of STB
Systems, Inc., STB Assembly, Inc. and Symmetric Simulation Systems, Inc.,
(collectively referred to as the "Company"). STB Assembly, Inc. has two
majority owned subsidiaries, STB de Mexico S.A. de C.V. ("STB de Mexico") and
Maquilados Continentales de Ciudad Juarez, S.A. de C.V. ("MCC"). STB de Mexico
is a Mexican corporation operated as a maquiladora that performs assembly
services for STB Systems, Inc. MCC entered into an agreement in January 1990
to provide subcontract manufacturing services for STB Systems, Inc. As of
December 1992, MCC became an inactive entity. All significant intercompany
accounts and transactions have been eliminated in consolidation. Minority
interests in the subsidiaries are insignificant for financial reporting
purposes.
In February 1997, the Financial Accounting Standards Board issued FAS No. 128
"Earnings per Share", (SFAS 128). The Company has adopted SFAS 128, which
establishes standards for computing and presenting earnings per share (EPS).
This statement requires dual presentation of basic and diluted EPS on the face
of the income statement for entities with complex capital structures and
requires a reconciliation of the numerator and denominator of the basic EPS
computation to the numerator and denominator of the diluted EPS computation.
Basic EPS excludes the effect of potentially dilutive securities while diluted
EPS reflects the potential dilution that would occur if securities or other
contracts to issue common stock were exercised, converted into or resulted in
the issuance of common stock. The provision and disclosure requirements of
SFAS 128 were required to be adopted for interim and annual periods ending
after December 15, 1997, with restatement of EPS for prior periods.
Accordingly, EPS data for all periods has been restated to reflect the
computation of EPS in accordance with the provisions of SFAS 128.
The financial information presented herein should be read in conjunction with
the Company's annual consolidated financial statements for the year ended
October 31, 1997. The foregoing unaudited interim consolidated financial
statements reflect all adjustments (all of which are of a normal recurring
nature) which are, in the opinion of management, necessary for a fair
presentation of the results of the interim periods. The results for the
interim periods are not necessarily indicative of the results to be expected
for the year.
NOTE 2 - INVENTORIES
Inventories at January 31, 1998 and October 31, 1997 consist of the following
(in thousands):
<TABLE>
January 31, 1998 October 31, 1997
---------------- ----------------
<S> <C> <C>
Raw materials $23,789 $22,416
Work-in-process 15,236 13,416
Finished goods 6,786 5,463
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TOTAL $45,811 $41,295
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</TABLE>
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NOTE 3 - SHORT TERM DEBT
In November 1997, the Company entered into a new credit agreement with a bank,
increasing its borrowing capacity to $30,000,000 from $25,000,000. The new
revolving credit facility ("Revolving Credit Facility") bears interest at LIBOR
plus 175 basis points (7.367% at January 31, 1998). Availability under the
Revolving Credit Facility is subject to limitation determined by the Company's
borrowing base, which is calculated based on eligible accounts receivable as
defined in the Revolving Credit Facility Agreement. In January 1998, the
Company increased its borrowing capacity under its Revolving Credit Facility to
$40,000,000 from $30,000,000.
NOTE 4 - STOCK SPLIT
On January 27, 1998, the Company declared a three-for-two split of the
Company's common stock. The stock split was effected in the form of a
stock dividend on February 20, 1998, to shareholders of record on February 11,
1998. Share and per share amounts in the accompanying financial statements
have been retroactively adjusted to reflect the stock split.
NOTE 5 - EARNINGS PER SHARE
The following table sets forth the reconciliation of the numerators and
denominators of the basic and diluted EPS computations at January 31:
<TABLE>
1998 1997
----------- -----------
<S> <C> <C>
Net income (in thousands) $ 3,805 $ 2,252
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Weighted average shares outstanding 10,461,695 10,158,549
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Basic net income per share $ 0.36 $ 0.22
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Weighted average shares outstanding 10,461,695 10,158,549
Additional weighted average shares from
assumed exercise of dilutive stock options,
net of shares assumed to be repurchased with
exercise proceeds 926,859 572,075
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Dilutive weighted average shares outstanding 11,388,554 10,730,624
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Diluted net income per share $ 0.33 $ 0.21
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</TABLE>
Options to purchase 20,625 shares of common stock ranging in price from $21.27
to $25.67 per share were outstanding during the first quarter of fiscal 1998
but were not included in the computation of diluted EPS because the options'
exercise price was greater than the average market price of the common shares.
The options will expire in 2007.
NOTE 6 - SECONDARY OFFERING
On February 25, 1998 the Company filed a registration statement on Form S-3 to
offer 3,000,000 shares of its common stock to the public in a secondary
offering. Of the shares being offered, 2,775,000 shares are being sold by the
Company and 225,000 are being sold by certain selling shareholders. The net
proceeds received by the Company upon the effectiveness of the offering are
expected to be used to repay certain indebtedness outstanding under the
Company's revolving credit facility and for other general corporate purposes.
- 6 -
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
The Company designs, manufactures and sells multimedia subsystem and
specialized technology products, primarily for use in desktop personal
computers (PCs). These products supplement a PC's CPU to enhance multimedia
performance and accelerate the computationally intensive operations and
processing requirements necessary to perform advanced multimedia
applications. The Compnay focuses primarily on the sale of its products to
major original equipment manufacturers, "OEMs", and works closely with its
component suppliers and OEM customers to develop products that are responsive
to technological trends and consumer demand. STB manufactures substantially
all of its products at its ISO 9002 certified facility in Juarez, Mexico,
which the Company believes enables it to respond more quickly to changing
customer needs, maintain product quality and achieve economies of scale.
The Company currently sells multimedia subsystems and specialized technology
products. The Company's multimedia subsystem product line includes a wide
selection of multimedia accelerator subsystems designed primarily for use in
mid-range to high-end PCs as well as several complementary products, including
DVD decoder subsystems, PC/TV convergence subsystems and sound cards. STB's
specialized technology products include products designed to enable a single
computer to control the display of up to 32 monitors and a recently introduced
line of flat panel display products.
The Company sells its products to OEM customers, the commercial market, and
the specialized technology market. The Company sells its multimedia
subsystems primarily to major OEMs and, to a lesser extent, the commercial
market. Sales of the Company's products to OEMs represented approximately 85%
and 79% of total net sales for the 1998 first fiscal quarter and fiscal year
1997, respectively. The Company's three largest OEM customers accounted in
the aggregate for approximately 76% and 66% of total net sales for the 1998
first fiscal quarter and fiscal year 1997, respectively. Sales of multimedia
subsystems to the commercial market accounted for approximately 9% and 12% of
total net sales for the 1998 first fiscal quarter and fiscal year 1997
respectively, and sales of specialized technology products accounted for
approximately 5% and 8% of total net sales for the 1998 first fiscal quarter
and fiscal year 1997, respectively. The balance of total net sales was
derived primarily from third party contract assembly services, which
accounted for approximately 1% of total net sales for the 1998 first fiscal
quarter and fiscal year 1997. The Company has no long-term commitments or
contracts with any of its customers and the loss of any of the Company's key
customers could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Risk Factors - Customer
Concentration; Dependence on PC Market."
Sales of multimedia accelerator subsystems and other multimedia subsystems to
OEMs have typically been characterized by relatively high unit volumes and
relatively low gross profit margins. Sales of multimedia subsystem products
to the commercial market are characterized by relatively modest unit volumes
and moderate gross profit margins. Sales of the Company's specialized
technology products are characterized by relatively low unit volumes and
relatively high gross profit margins. Shifts in the mix of products sold or
in the sales channels into which such products are sold could have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Risk Factors - Change in Product Mix or Sales Channel." In
addition, a substantial majority of the Company's net sales have been derived
from sales of multimedia accelerator subsystems and, from time to time, a
substantial majority of the Company's net sales in a given fiscal quarter
have been derived from the sales of a single or a limited number of
multimedia accelerator subsystems. See "Risk Factors - Product
Concentration." The markets for the Company's products in general, and its
multimedia accelerator subsystems in particular, are characterized by short
product life cycles, evolving industry standards and frequent introductions
of new products. See "Risk Factors - Limited Product Life Cycle; Rapid
Techological Change; Management of Product Introductions."
- 7 -
<PAGE>
The Company recognizes revenue upon shipment of its products. For products
sold through the commercial channel, the Company generally allows returns in
the form of stock rotation and price protection in the form of credits. The
Company's current stock rotation policies permit a commercial channel customer
to return approximately 10% of products purchased within the previous 90 days
if the customer has placed an order for other Company products of equal or
greater value. The Company also provides price protection to commercial
channel customers in the form of credits for price reductions on products
remaining in customer inventories at the time of the price reduction. The
Company maintains reserves related to these sales programs, which it believes
are adequate. See "Risk Factors - Price Protection and Stock Rotations."
The Company has no guaranteed supply arrangements with any of its suppliers.
The Company obtains most of the primary components for its current products,
consisting mainly of controller chips and memory chips, directly from the
component manufacturers. The prices of such components can change
significantly from time to time. In the past, the Company has experienced, and
may in the future experience, increases in its unit component costs without
being able to increase the price of the products incorporating such components.
Such an increase in component costs could impair the Company's gross profit
margins and results of operations. In particular, occasional worldwide
shortages of memory and controller chips and international tariff disputes have
in the past resulted in substantial component cost increases that have had a
material adverse effect on the Company's gross profit margins and its results
of operations. In recent periods, a decline in the price of memory chips,
together with improved inventory management practices and other factors, has
contributed to improved gross profit margins. The Company's total gross profit
margins and gross profits will likely continue to fluctuate from period to
period as a result of the Company's product mix, sales channel mix, component
costs and competitive pricing pressures on the Company's products. See "Risk
Factors - Dependence on Suppliers" and "--Change in Product or Sales Channel
Mix."
In recent periods, the Company's business has been strongly influenced by the
following trends: the growth of the PC market in general; the ability of
several major PC manufacturers to expand their respective market shares of the
PC market in general; the Company's ability to establish and expand OEM
relationships with several of these major PC manufacturers; the expansion of
the market for multimedia subsystems and, in particular, the market for
multimedia accelerator subsystems; the ability of the Company to identify and
source key components, such as graphics controller chips, that enable the
Company's products to compete effectively with its competitors; and the
Company's ability to design, develop and manufacture successive generations of
multimedia accelerator subsystems that secure design wins with major OEM
customers and achieve wide market acceptance. Although the Company is
currently attempting to diversify its product offerings, expand its existing
OEM customer relationships, establish new OEM customer relationships and expand
sales into the commercial market, there can be no assurance that the Company
will be successful with respect to any of these efforts. The failure by the
Company to further diversify its product offerings and to expand its
distribution channels could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Risk Factor -
Customer Concentration; Dependence on PC Market," "--Dependence on Multimedia
Accelerator Market; Migration to Motherboards," "--Dependence on Suppliers" and
"--Limited Product Life Cycle; Rapid Technological Change; Management of
Product Transitions."
During the fiscal quarter ended April 30, 1997, the Company acquired all of the
outstanding shares of Symmetric Simulation Systems, Inc. ("Symmetric"), a
designer and builder of high-end 3D graphics acceleration subsystems used in
applications such as computer-aided design product visualization, architectural
walk-throughs and multimedia authoring. The Company believes that the
Symmetric product line complements the Company's existing products and enables
the Company to market products to the high-end 3D market.
- 8 -
<PAGE>
RESULTS OF OPERATIONS
The following table sets forth certain items from the Company's Consolidated
Statement of Operations as a percentage of net sales from continuing
operations:
<TABLE>
Percentage of net sales
Three months ended
January 31,
1998 1997
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<S> <C> <C>
Net sales 100.0% 100.0%
Cost of sales 79.4% 77.9%
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Gross profit 20.6% 22.1%
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Operating expenses:
Research and development 3.0% 2.6%
Sales and marketing 5.6% 6.8%
General and administrative 4.1% 5.0%
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Total operating expenses 12.7% 14.4%
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Income from operations 7.9% 7.7%
Interest expense, net 0.7% 0.7%
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Income before income taxes 7.2% 7.0%
Provision for income taxes 2.4% 2.3%
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Net income 4.8% 4.7%
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</TABLE>
THREE MONTHS ENDED JANUARY 31, 1998 COMPARED TO THREE MONTHS ENDED
JANUARY 31, 1997.
NET SALES. Net sales increased to $78.8 million in the 1998 first fiscal
quarter from $48.1 million in the 1997 first fiscal quarter, representing an
increase of 63.8%. Unit volume for the 1998 first fiscal quarter increased
by 64.6% over the 1997 first fiscal quarter, while the Company's average unit
selling prices remained essentially unchanged. OEM channel sales increased
to approximately $66.2 million in the 1998 first fiscal quarter from $34.7
million in the 1997 first fiscal quarter, representing an increase of 90.9%.
Sales growth in the OEM channel was primarily the result of increased demand
for the Company's Velocity 128 multimedia accelerator. See "Risk Factors -
Product Concentration". Commercial channel sales decreased to $7.4 million
in the 1998 first fiscal quarter from $9.4 million in the 1997 first fiscal
quarter, a decrease of 21.5%, primarily due to limited controller chip
availability for the Velocity 128 multimedia accelerator resulting from
unexpected OEM product demand increases. Sales in the specialized technology
market increased to $4.1 million in the 1998 first fiscal quarter from $2.7
million in the 1997 first fiscal quarter, or 53.3%, which was primarily a
result of increased sales to OEM customers for financial services
workstations.
- 9 -
<PAGE>
GROSS PROFIT. Gross profit consists of net sales less cost of goods sold.
Cost of sales primarily consists of the cost of materials and manufacturing
costs associated with the production of the Company's products. Gross profit
increased to $16.2 million in the 1998 first fiscal quarter from $10.6
million in the 1997 first fiscal quarter, representing an increase of 52.5%.
During the period, gross profit as a percentage of net sales decreased to
20.6% in the 1998 first fiscal quarter from 22.1% in the 1997 first fiscal
quarter. The increase in the amount of gross profit resulted primarily from
increases in sales volumes of the Company's products (and, in particular, the
Company's Velocity 128 multimedia accelerator), partially offset by
decreasing unit prices. The decrease in gross profit as a percentage of net
sales resulted primarily from (i) an increase in the precentage of sales to
the OEM market, which typically is characterized by lower gross profit
margins, and (ii) increased component costs due to a temporary shortage in
memory component supply resulting from higher product demand and (iii)
increased overtime labor costs caused by the higher rates of production
necessary to meet increased product demand. These increases were partially
offset by the economies of scale resulting from higher production volumes and
increased operating efficiencies. Gross margins are expected to continue to
fluctuate as a result of sales channel, product mix and other factors. See
"Risk Factors --Potential for Fluctuating Operating Results; Seasonality" and
"-- Dependence on Suppliers".
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses primarily
consist of compensation and associated expenses relating to engineering
personnel, development tool expenses, prototyping expenses and product
enhancement expenses. Research and development expenses increased to $2.3
million in the 1998 first fiscal quarter from $1.2 million in the 1997 first
fiscal quarter, representing an increase of 88.9%. Research and development
expenses as a percentage of net sales increased to 3.0% in the 1998 first
fiscal quarter from 2.6% in the 1997 first fiscal quarter. The increase in
research and development expenses on a dollar and percentage basis resulted
from increased staffing at the Company's corporate headquarters and at each of
the design centers in Houston, Texas, Eugene, Oregon; and the recently
established design center in Belfast, Northern Ireland. Other expenses
associated with the development of new products and increased expenses
associated with software and driver development also contributed to the
increase in research and development expenses.
SALES AND MARKETING EXPENSES. Sales and marketing expenses primarily consist
of personnel and related overhead expenses for sales, marketing and customer
support activities, promotional and advertising expenses, and commissions
paid to independent sales representatives. Sales and marketing expenses
increased to $4.4 million in the 1998 first fiscal quarter from $3.3 million
in the 1997 first fiscal quarter, representing an increase of 34.6%. Sales
and marketing expenses as a percentage of net sales decreased to 5.6% in the
1998 first fiscal quarter from 6.8% in the 1997 first fiscal quarter,
primarily due to increases in net sales at a rate faster than that of sales
and marketing expenses. The increase in sales and marketing expenses
resulted primarily from additional staffing and commissions paid as a result
of higher sales, partially offset by decreases in commissions paid to
independent sales representatives. Increased expenses for advertising and
promotional programs in the commercial channel, the specialized technology
channel and the international market also contributed to the increased
expenses.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
primarily consist of personnel and related overhead expenses for management,
finance, management information systems activities, legal and human
resources, as well as expenses associated with occupancy and other general
operating expenses. General and administrative expenses increased to $3.2
million in the 1998 first fiscal quarter from $2.4 million in the 1997 first
fiscal quarter, representing an increase of 35.8%. General and
administrative expenses as a percentage of net sales decreased to 4.1% in the
1998 first fiscal quarter from 5.0% in the 1997 first fiscal quarter. The
increase in the amount of general and administrative expenses was primarily
due to increased expenses associated with the Company's growth, including
increased staffing, occupancy and other general operating expenses.
Increased employee profit sharing, as a result of higher earnings, also
contributed to the increase in general and administrative expenses. The
Company recently commenced construction of a new headquarters facility that
it plans to occupy in the 1999 first fiscal quarter. The terms of the lease
relating to the new headquarters facility provide for increased occupancy
expense from current levels and are subject to adjustment based on prevailing
interest rates. See "--Liquidity and Capital Resources."
- 10 -
<PAGE>
INTEREST EXPENSE, NET. Interest expense net, primarily consists of the
interest expense associated with the Company's Revolving Credit Facility,
Mezzanine Facility (as defined below) and capital leases, offset partially by
the interest income earned on the Company's cash and cash equivalents.
Interest expense net increased to approximately $518,000 in the 1998 first
fiscal quarter from approximately $376,000 in the 1997 first fiscal quarter,
representing an increase of 37.8%. The increase in the amount of net interest
expense was primarily related to an increase in the average total debt and
obligations under capital leases outstanding during the 1998 first fiscal
quarter compared to the 1997 first fiscal quarter.
SEASONALITY. The Company's quarterly operating results vary significantly
depending on a number of factors, including, but not limited to: the timely
introduction by the Company of new or enhanced products and the market's
acceptance of these products; the Company's ability to introduce and market
products in accordance with its OEM customers' design requirements and design
cycles; changes in demand for functionality of the Company's products and the
products of its OEM customers; the gain or loss of significant OEM customers;
the volume and timing of significant customer orders received during the
period; the availability, pricing and timeliness of component delivery for the
Company's products; increased competition from existing competitors and new
entrants to the market; the timing of new product announcements or product
introductions by the Company's competitors; product obsolescence, management of
product transitions and unanticipated delays or problems in the introduction or
production of products by the Company or its OEM customers; product reviews and
other media coverage; anticipated and unanticipated decreases in average
selling prices of the Company's products; changes in the mix of products sold
by the Company's OEM and other customers; changes in the pricing policies of
the Company, its suppliers and customers; management of inventory by the
Company and its customers; changes in the Company's sales channel mix or in the
sourcing strategies of its OEM customers; and product returns or price
protection charges by the Company's customers. Because the timing of these
factors may vary, the results of any particular quarter may not be indicative
of results for the full year or any future period. In addition, the PC market
generally experiences weaker sales during the summer months. Although the
Company has experienced sales growth for each year since fiscal year 1990,
there can be no assurance that this growth will continue on a quarterly or
annual basis. It is likely that in some future period the Company's operating
results or business outlook will be below the expectations of securities
analysts or investors, which would likely result in a significant reduction in
the market price of the Company's Common Stock. See "Risk Factors - Potential
for Fluctuating Operating Results; Seasonality" and " - Stock Price
Volatility."
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal capital and liquidity needs are for inventory and
accounts receivable and for manufacturing and other equipment expenditures.
The Company has generally financed these capital and liquidity needs and its
operations through a combination of cash generated from operations, trade
credit from vendors, bank borrowings and the net proceeds from its initial
public offering. As a result of the Company's rapid growth in recent years,
its capital requirements have increased substantially. Future growth, if any,
will require additional capital, particularly to support increased working
capital needs, staffing requirements, promotional expenses, and manufacturing
facilities and equipment requirements.
Cash used in operating activities of $462,000 in the 1998 first fiscal quarter
was primarily attributable to increases in inventory and accounts receivable as
a result of higher sales, partially offset by increases in earnings and
accounts payable. Cash used in operating activities of $3.9 million in fiscal
year 1997, was primarily attributable to increases in inventory and accounts
receivable as a result of higher sales, partially offset by increases in net
income and accounts payable. At October 31, 1997, the Company's working
capital was $31.4 million, compared to $35.8 million at January 31, 1998. Cash
and cash equivalents was $3.9 million and $3.4 million at October 31, 1997 and
January 31, 1998, respectively.
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The Company invested $9.6 million in capital equipment in fiscal 1997, and an
additional $442,000 during the 1998 first fiscal quarter. The Company's
investment in equipment is primarily attributable to manufacturing equipment
additions and upgrades of existing equipment to support the increased demand
for and complexity of the Company's products. During the 1998 first fiscal
quarter, the Company completed a move to a new 137,000 square foot
manufacturing facility in Juarez, Mexico, immediately adjacent to its previous
facility. The Company has retained one-half of its previous facility for
expansion, with an option to occupy, vacate or sublease the remaining half.
During the 1997 fourth fiscal quarter, the Company installed two new high-speed
surface-mount technology ("SMT") assembly lines at its new facility, at a total
cost of approximately $6.3 million. This equipment was financed by two
separate operating leases. During the 1996 fourth fiscal quarter, the Company
installed four SMT assembly lines, at an approximate total cost of $4.2
million. This equipment was also financed through operating lease financing
arrangements. The Company's aggregate obligations under all such equipment
lease financing arrangements totaled approximately $9.5 million at October 31,
1997 and approximately $9.1 million at January 31, 1998. The Company expects
that additional capital expenditures for similar types of equipment may be
necessary to support additional future customer demand and production
requirements, although there can be no assurance in this regard.
The Company has a $40.0 million Revolving Credit Facility, as well as a $3.0
million term loan (the "Mezzanine Facility"). As of January 31, 1998, the
Company had $23.0 million and $2.9 million outstanding under the Revolving
Credit Facility and the Mezzanine Facility, respectively. The principal amount
outstanding under the Revolving Credit Facility bears interest at LIBOR plus
175 basis points (7.367% at January 31, 1998). The principal amount
outstanding under the Mezzanine Facility bears interest at LIBOR plus 250 basis
points (8.126% at January 31, 1998) and is payable in 60 monthly installments
of principal and interest, which began on November 1, 1997. Availability under
the Revolving Credit Facility is calculated using formulas based on eligible
accounts receivable as defined by the Revolving Credit Facility Agreement. The
indebtedness under the Revolving Credit Facility matures on November 21, 1999
and the indebtedness under the Mezzanine Facility matures on November 1, 2002.
In December 1997, the Company entered into a five year agreement to construct
and lease a new corporate headquarters in Richardson, Texas. Construction on
the 210,000 square foot facility began in December 1997, and the total cost is
estimated to be approximately $22.8 million (including land). The lessor has
agreed to fund the cost of the land and construction of the building (subject
to reductions based on certain conditions in the lease agreement). The Company
plans to occupy the facility during the 1999 first fiscal quarter with rental
payments commencing upon occupancy. The Company estimates that its monthly
rent for this facility will be approximately $225,000 for the four year period
following completion of the facility. This amount is in excess of the current
facilities expense, as local rent rates have increased and the Company is
increasing the square footage of its corporate headquarters. The lease
agreement also provides that the amount of lease payments are subject to
adjustment based upon prevailing interest rates. As a consequence, an increase
in prevailing interest rates will increase the Company's facilities expense.
The Company is currently exploring strategies to hedge this interest rate
exposure. The Company is also seeking opportunities to sublease that portion
of its new headquarters facility which the Company does not expect to utilize
immediately following its occupancy of the new facility. The monthly rent
currently paid for the Company's headquarters facility will be eliminated with
the move to the new facility. At the end of the lease for the new facility,
the Company may elect to either renew the lease, pay off the underlying debt on
the facility or cause the building to be sold. In the event of a sale, the
proceeds will be used to retire the underlying debt with any excess to be paid
to the Company. The Company is responsible for any outstanding balance due on
the underlying obligation after the sale of the facility. See "Risk Factors -
Headquarters Relocation."
From time to time, the Company evaluates acquisitions of businesses, products
or technologies that complement the Company's business. Any such transactions,
if consummated, may use a portion of the Company's working capital or require
the issuance of securities which may result in further dilution to the
Company's shareholders. See "Risk Factors - Potential Future Acquisitions."
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The Company believes that the anticipated net proceeds from the sale of the
Common Stock offered by the Company in a public offering that the Company is
currently carrying-out, together with existing capital resources and
anticipated funds from operations, will satisfy the Company's anticipated
capital requirements for at least the next twelve months. After such period,
depending on its financial condition and results of operations, the Company may
require additional equity or debt financing to meet its capital requirements,
although to the extent the Company does not complete its currently contemplated
public offering, the Company may require external financing sooner than
anticipated. There can be no assurance that additional financing will be
available when required, or, if available, that such financing can be obtained
on terms satisfactory to the Company.
PART II OTHER INFORMATION
ITEM 5. OTHER INFORMATION - RISK FACTORS
All statements other than statements of historical fact contained in this
report are forward-looking statements within the meaning of the federal
securities laws. These forward-looking statements involve risks and
uncertainties, and the Company's actual results may differ materially from
the results discussed in the forward-looking statements. Factors that might
cause such a difference include, but are not limited to, the risks described
below.
POTENTIAL FOR FLUCTUATING OPERATING RESULTS; SEASONALITY
The Company's results of operations have fluctuated significantly in the past
and are expected to continue to fluctuate in the future as a result of a
number of factors, many of which are beyond the Company's control. These
factors include, but are not limited to: the timely introduction by the
Company of new or enhanced products and the market acceptance of these
products; the Company's ability to introduce and market products in
accordance with its OEM customers' design requirements and design cycles;
changes in demand for functionality of the Company's products and the
products of its OEM customers; the gain or loss of significant OEM customers;
the volume and timing of significant customer orders received during the
period; the availability, pricing and timeliness of component delivery for
the Company's products; increased competition from existing competitors and
new entrants to the market; the timing of new product announcements or
product introductions by the Company's competitors; product obsolescence,
management of product transitions and unanticipated delays or problems in the
introduction or production of products by the Company or its OEM customers;
product reviews and other media coverage; anticipated and unanticipated
decreases in average selling prices of the Company's products; changes in the
mix of products sold by its OEM and other customers; changes in the pricing
policies of the Company, its suppliers and customers; management of inventory
by the Company and its customers; changes in the Company's sales channel mix
or in the sourcing strategies of its OEM customers; and product returns or
price protection charges by customers. Because a significant portion of the
Company's business has been and is expected to continue to be derived from
orders placed by a limited number of larger OEM customers, any gain or loss
or variations in the timing of such orders can cause significant fluctuations
in the Customer's operating results. Anticipated orders from customers may
fail to materialize and delivery schedules may be deferred or canceled for a
number of reasons, including changes in specific customer requirements. The
volume and timing of orders received during a quarter are difficult to
forecast. Customers generally order on an as-needed basis. Consequently,
the Company operates with a relatively small backlog. Moreover, as is common
in the PC industry, a disproportionate percentage of the Company's net sales
in any quarter have historically been, and are expected in the future to be,
generated in the last month of a quarter. As a result, a shortfall in sales
in any quarter as compared to expectations may not be identifiable until near
the end of the quarter.
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The Company's gross profit margins are affected by a number of factors,
including sales channel mix, product mix, pricing pressures, the availability
and cost of components from the Company's suppliers, level of absorption of
fixed manufacturing costs, product cycles and general economic conditions.
Moreover, the Company operates its own manufacturing facility. As a result,
the Company incurs relatively high fixed overhead and labor costs compared with
those of its competitors that outsource their manufacturing requirements. Any
failure to generate the level of product revenues needed to absorb such fixed
overhead and labor costs will have a material adverse effect on the Company's
business, financial condition and results of operations.
In addition, the Company has experienced in the past and may experience in the
future excess demand for its products from its OEM customers and has elected in
the past and may elect in the future to pay its employees overtime and purchase
components on the spot market at prices higher than would have been available
if the Company had purchased such components in advance in order to meet its
production requirements. Such activities have resulted in the past and may
result in the future in lower gross margins for the additional products being
manufactured. The Company's markets are characterized by intense competition
and its products typically have a limited life cycle (usually six to nine
months) and declining average unit selling prices over time. Accordingly, the
Company's margins may decline from current levels with respect to its existing
product lines. In addition, the Company's margins may be materially adversely
affected by shortages in the availability of key components for the Company's
products, as well as by fluctations in the value of certain foreign currencies.
The Company's expenditures for research and development, selling and marketing,
and general and administrative functions are based in part on future revenue
projections. The Company may be unable to adjust spending in a timely manner
in response to any unanticipated declines in revenues. Any failure to adjust
spending in a timely manner may have a material adverse effect on the Company's
business, financial condition and results of operations.
The Company's quarterly results are also subject to seasonal fluctuations, with
generally weaker fiscal third quarter results. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Selected
Quarterly Operating Results and Seasonality."
As a result of the factors listed above and other factors, the Company believes
that period-to-period comparisons of its operating results must not be relied
upon as an indication of future performance. In particular, the Company has
recently experienced consistent growth in its annual unit sales volumes and
annual revenues and has reported nine consecutive quarters of record net
income. There can be no assurance that the Company's recent growth in unit
sales volumes, revenues or net income will be sustainable or will not decline.
It is likely that in some future period of the Company's operating results or
business outlook will be below the expectations of securities analysts or
investors, which would likely result in a significant reduction in the market
price for the Company's Common Stock.
DEPENDENCE ON SUPPLIERS
The Company has in the past obtained and expects in the future to obtain
several of the components used in its products from single or limited sources
and, in the instances in which component manufacturers have not or do not
allocate a sufficient supply of components to meet the Company's needs, the
Company has obtained in the past and may obtain in the future such components
from distributors or on the spot market at a higher cost. The Company has no
guaranteed supply arrangements with any of its suppliers, and there can be no
assurance that current suppliers will be able to meet the Company's current or
future component requirements. From time to time, the Company has relied, and
in the future expects to rely, substantially upon a limited number of sole
source suppliers for multimedia controller chips, which can, in large part,
determine the performance of a multimedia subsystem.
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<PAGE>
In the event that the Company experiences difficulty obtaining a particular
multimedia controller chip, the Company could be forced to pay higher prices
for comparable multimedia controller chips, alter product designs to use
alternative and potentially inferior components, reduce its production of the
related product, or delay product shipment schedules. The Company believes
that with respect to its single and limited source components, it generally
could obtain similar components from other sources but likely would be required
to pay significantly more for such products, alter product designs to use
alternative components (which would cause significant delays and could require
product recertification from the Company's OEM customers) or reduce its
production of the related products; however, no assurance can be given with
respect to the availablility of alternative sources for single and limited
source components in future products.
The Company has from time to time experienced difficulty meeting certain
product shipment dates to customers as a result of various causes, including
component delivery delays, component availability shortages, system
compatibility difficulties and supplier product quality deficiencies, which in
some instances has resulted in impaired margins, reduced production volumes,
strained customer relations and loss of business. In addition, software
drivers, which are essential to the performance of substantially all of the
Company's products, are included with some of these single and limited source
components. The Company has from time to time experienced product delivery
delays due to the inadequacy or the incompatibility of software drivers
provided by component suppliers or developed internally by the Company. The
Company expects that component delivery delays, component shortages, system
compatibility difficulties, supplier product quality deficiencies and software
driver problems will continue to occur in the future, and such delays or
problems could have a material adverse effect on the Company's business,
financial condition and results of operations. Additionally, in an effort to
counter actual or perceived component shortages, the Company may overpurchase
certain components. Excess inventory resulting from such overpurchases,
obsolescence or a decline in the market value of such inventory, could result
in inventory write-offs, which would have material adverse effect on the
Company's business, financial condition and results of operations.
Significant increases in the prices of components, such as controller chips or
memory chips, have occurred from time to time, and the Company has not always
been able to increase its products' prices accordingly. Worldwide shortages of
controller chips or memory chips and international tariff disputes have
resulted from time to time in substantial component cost increases that have
had a material adverse effect on the Company's business, financial condition
and results of operations. There can be no assurance that such price increases
will not take place in the future, or that such price increases will not have a
material adverse effect on the Company's business, financial condition and
results of operations.
The Company relies upon its suppliers to continue to develop, introduce and
manufacture controller chips, memory chips and other components in sufficient
volumes to satisfy the Company's requirements. These components must compare
favorably in terms of functionality, performance and price with competitive
offerings from other manufacturers, including competitors of the Company that
have internally developed computer chips or manufacturing expertise. Any
failure by the Company to continue to obtain components from its suppliers that
are competitive in terms of functionality, performance and price with the
components that are available to its competitors would have a material adverse
effect on the Company's business, financial condition and results of
operations.
CUSTOMER CONCENTRATION; DEPENDENCE ON PC MARKET
The Company's three largest OEM customers accounted for approximately 76% of
net sales during the 1998 first fiscal quarter, with Gateway 2000, Inc.
("Gateway 2000"), Dell Computer Corporation ("Dell") and Compaq Computer
Corporation ("Compaq") accounting for approximately 40%, 32% and 4%,
respectively, of the Company's net sales for such period. The Company's three
largest OEM customers accounted for approximately 66% of net sales in fiscal
year 1997, with Gateway 2000, Dell and Compaq accounting for approximately 35%,
20% and 11%, respectively, of the Company's net sales for such period.
Historically, Gateway 2000 has been the Company's largest customer, while Dell
and Compaq have become more significant customers in recent periods. The
Company's other significant customers have changed from period to period.
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<PAGE>
The Company has no long-term commitments or contracts with any of its
customers. Any reduction of business from Gateway 2000, Dell or Compaq or the
loss of Gateway 2000, Dell or Compaq as a major customer would have a material
adverse effect on the Company's business, financial condition and results of
operations. Due to their purchasing power, the Company's OEM customers are
able to exert significant pressure on the prices of the Company's products,
which could impair the Company's gross profit margins and have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, the Company believes that its future prospects will
largely depend from time to time upon the success of a limited number of key
component suppliers (currently, its graphics controller chip suppliers) and a
few major OEM customers (currently, Gateway 2000, Dell and Compaq).
Because a limited number of major OEMs currently ship the majority of the PCs
products, the number of potential customers that the Company can target is
currently limited. There can be no assurance that the Company will be
successful in maintaining its existing relationships with its major OEM
customers or in securing additional major OEM customers and there can be no
assurance that the Company will be able to retain or increase the volume or
profitability of products currently manufactured by the Company for such
customers. Any failure by the Company to retain its existing OEM customers, or
establish profitable relationship with additional major OEM customers, or to
maintain and increase the volume and profitability of the products manufactured
for such customers would have material adverse effect on the Company's
business, financial condition and results of operations.
Substantially all of the Company's revenues are currently derived from products
sold for use in PCs, and the Company expects to continue to derive
substantially all of its revenues from the sales of products for use in PCs.
The PC market is characterized by rapidly changing technology, evolving
industry standards, frequent new product introductions and fierce price
competition, all of which contribute to short product life cycles and regular
reductions of average selling prices over the life of a specific product.
Although the PC market has grown substantially in recent years and continued
growth is currently forecasted, there can be no assurance that such growth will
continue. A reduction in sales of PCs, or a reduction in the growth rate of
such sales, would likely reduce demand for the Company's products. Moreover,
such changes in demand could be large and sudden. Since PC manufacturers often
build inventories during periods of anticipated growth, they may be left with
excess inventories if growth slows or if they have incorrectly forecasted
product transitions. In such cases, PC manufacturers may abruptly suspend
substantially all purchases of additional products from suppliers such as the
Company until the excess inventory has been absorbed. Any reduction in demand
for PCs generally, or for particular products that incorporate the Company's
multimedia subsystem or specialized technology products, would have a material
adverse effect on the Company's business, financial condition and results of
operations.
DEPENDENCE ON MULTIMEDIA ACCELERATION SUBSYSTEM MARKET; MIGRATION TO
MOTHERBOARDS
A substantial majority of the Company's net sales are derived from the sale
of multimedia accelerator subsystems. According to Jon Peddie Associates, an
independent industry research firm, approximately 69% of all graphics
controller chips manufactured in the twelve month period ended September 30,
1997 were incorporated onto multimedia accelerator subsystems, and
approximately 31% were incorporated onto motherboards. Generally, multimedia
accelerator subsystems are used in higher-end PCs offering the latest
technology and performance features. However, as a given functionality
becomes technologically stable and widely accepted by PC users, it typically
migrates to the PC motherboard. The Company expects this trend to continue
with respect to the functionality provided by many of its current products,
notably, in the near term, with respect to its low-end multimedia accelerator
subsystems. In this regard, the MMX instruction set from Intel Corporation
("Intel") and the expanded capabilities provided by the Direct X Applications
Programming Interfaces ("APIs") from Microsoft Corporation ("Microsoft") have
increased the capability of its operating systems to control display features
that have traditionally been performed by multimedia accelerator subsystems.
In addition, single chip solutions currently are available that provide
16-bit sound functionality for implementation directly onto PC motherboards.
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As a result of this tendency of technology to migrate to the PC motherboard,
the Company's prospects are largely dependent on its ability to continue to
develop products that incorporate new and rapidly evolving technologies that
manufacturers have not yet fully incorporated onto PC motherboards and to
develop PC motherboard products that incorporate multimedia accelerator
subsystems and other features demanded by the PC motherboard market. In
response to this trend of migration, the Company is now actively seeking orders
from OEMs for PC motherboards that incorporate STB's graphics circuitry, but
there can be no assurance that the Company will secure any such orders or that,
if it secures any such orders, it could produce such PC motherboards in
profitable quantities, if at all. The Company has no prior experience
designing, developing or marketing PC motherboards, and there can be no
assurance that the Company will be successful in developing this business.
While the Company believes that a market will continue to exist in the near
term for add-in subsystems that provide advanced functionalities and offer
flexible systems configuration, there can be no assurance that the
incorporation of multimedia functions onto PC motherboards will not have a
material adverse effect on the market for the Company's add-in subsystems. In
addition, OEMs may choose to develop multimedia accelerator subsystems
internally rather than purchase such products from external suppliers. An
increase in the number or percentage of PCs that incorporate graphics circuitry
on the motherboard at the expense of add-in multimedia accelerator subsystems,
an increase in the number or percentage of multimedia accelerator subsystems
manufactured internally by OEMs, or a decrease in PC sales volumes could
effectively shrink the market for the Company's current products, which would
have a material adverse effect on the Company's business, financial condition
and results of operations.
LIMITED PRODUCT LIFE CYCLE; RAPID TECHNOLOGICAL CHANGE; MANAGEMENT OF PRODUCT
TRANSITIONS
The market for the Company's products is characterized by short product life
cycles, evolving industry standards and frequent introductions of new
products. The Company's major OEM customers typically introduce new system
configurations as often as twice a year, and the life cycles of the Company's
multimedia accelerators subsystems typically range from six to nine months.
The Company's failure to successfully introduce new products within a given
product cycle could have a material adverse affect on the Company's business,
financial condition and results of operations for that cycle and possibly for
subsequent cycles. Any such failure could also impair the Company's brand
name, reputation and relationships with its OEM customers and have a longer
term material adverse effect on the Company's business, financial condition
and results of operations. The Company's submits most of its products for
compatibility and performance testing to the Microsoft Windows Hardware
Quality Lab ("WHQL"). WHQL certification typically requires up to several
weeks to complete and entitles the Company to claim that a particular product
is "Designed for Microsoft Windows". The Company's OEM customers typically
require the Company's product to be Designed for Microsoft Windows prior to
making volume purchases. There can be no assurance that the Company will
receive WHQL certification for any particular future product in a timely
fashion, and any failure to receive WHQL certification could have a material
adverse effect on the Company's business, financial condition and results of
operations.
The PC industry in general, and the market for the Company's multimedia
subsystem products in particular, is characterized by rapidly changing
technologies, evolving industry standards, rapid changes in customer
requirements and fierce price competition. The Company's prospects depend upon
market acceptance of its existing products, its ability to enhance its existing
products, and its ability to continually develop and introduce new products and
features to meet changing customer requirements. Each new product cycle
presents new opportunities for current or prospective competitors of the
Company to gain market share. The Company's competitors include manufacturers
of products that directly compete with the Company's products, as well as
competitors that can produce products that have a similar functionality to the
Company's products.
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<PAGE>
For instance, Intel has added new functionalities, such as the MMX instruction
set, to its controller chips to enhance the power of the central processing
unit (the "CPU") to manage the display features of a PC. Similarly, Microsoft
is introducing new versions of its operating systems with features, such as the
Direct 3D API, that increase the capability of its operating systems to control
a PC's display features. Moreover, Intel's recently completed acquisition of
Chips and Technologies, Inc. as well as Intel's introduction of the i740
graphics controller chip could accelerate migration of graphics functionality
to the motherboard or onto the CPU. The introduction of products embodying new
technologies and the emergence of new industry standards and practices can
significantly impair the average selling prices of the Company's multimedia
subsystem and other products, or render such products unmarketable or obsolete.
In the event that the Company's products are unable to support or interface
with these new products, standards and technologies in a timely manner, demand
for the Company's products could be reduced significantly, which would have a
material adverse effect on the Company's business, financial condition and
results of operations.
Because of the short product life cycles and the long lead times for many
components used in the Company's products, the Company may not be able to
quickly reduce its production or inventory levels in response to unexpected
shortfalls in sales or, conversely, to increase production in response to
unexpected demand. There can be no assurance of the continued acceptance of
the Company's existing products or that the Company will be successful in
enhancing its existing products or identifying, developing, manufacturing or
marketing new products. Delays in developing new products or product
enhancements or the failure of such products or product enhancements to gain
market acceptance would have a material adverse effect on the Company's
business, financial condition and results of operations.
Sales of individual products and product lines are typically characterized by
declines in unit volumes, pricing and margins toward the end of the product's
life cycle, the precise timing of which may be difficult to predict. As new
products are planned and introduced, the Company attempts to monitor closely
the inventory of older products (and older components) and to phase out their
manufacture in a controlled manner. Nevertheless, the Company has experienced
from time to time in the past, and expects to experience from time to time in
the future, unexpected reductions in sales of older products as customers
anticipate new products. These reductions have in the past and may in the
future give rise to additional charges for obsolete or excess inventory,
returns of older products by retailers or commercial distributors or
substantial price protection claims. The Company's failure to successfully
manage product transitions could have a material adverse effect on its
business, financial condition and results of operations.
COMPETITION
The market for the Company's products is intensely competitive and the Company
expects competition to increase. The Company competes with independent
manufacturers of brand name multimedia subsystem products, as well as contract
manufacturers and certain OEM manufacturing operations that produce multimedia
subsystem products. The Company's major competitors in the multimedia
subsystems market include Diamond Multimedia Systems, Inc., ATI Technologies,
Inc., Matrox Graphics, Inc., ELSA GmbH, AccelGraphics, Inc., Creative Labs,
Inc., CEI Inc., Number Nine Visual Technology Corporation, and Hauppauge
ComputerWorks, Inc. In the specialized technology product market, the
Company's major competitors include Colorgraphic Communications Corporation,
Datapath Ltd, and Appian Graphics Corp.
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<PAGE>
In addition to its major competitors, certain of the Company's suppliers sell
graphics controller chips directly to OEMs for use in internally produced
multimedia accelerator subsystems, other multimedia subsystems or on
motherboards. If one or more of the Company's significant OEM customers were
to commence or increase internal production of multimedia accelerator
subsystems or other multimedia subsystems, the Company's business, financial
condition and results of operations could be materially adversely affected.
Furthermore, several major OEMs currently integrate graphics controller chips
on the motherboard of their PCs. If one or more of the Company's major OEM
customers begin to incorporate graphics controller chips or other controller
chips onto motherboards rather than incorporating the Company's products, the
Company's business, financial condition and results of operations could be
materially adversely affected. See "--Dependence on Multimedia Acceleration
Subsystem Market; Migration to Motherboards."
The Company expects Intel to continue to invest heavily in research and
development and new manufacturing facilities in order to maintain its position
as one of the largest manufacturers of motherboards, and to promote its product
offerings through extensive advertising campaigns designed to increase brand
loyalty by PC users. Intel may, in the future, develop multimedia subsystems
or multimedia-enabled motherboards using its i740 3D graphics processor, or
other graphics controllers which could directly compete with products that the
Company may develop. In addition, Intel exerts significant influence over the
3D graphics industry due to the widespread acceptance of its microprocessor
architecture and its development of new interface architectures such as the
Advanced Graphics Port ("AGP") bus. Any significant modifications by Intel to
the AGP or future graphics interface architectures could render the Company's
products obsolete, incompatible or less competitive.
Any broad-scale introduction of multimedia subsystems or multimedia-enabled
motherboards or significant modifications to the graphics interface bus by
Intel which the Company is unable to access, and which consequently render the
Company's products less competitive or reduces their potential market, could
have a material adverse effect on the Company's business, financial condition
and results of operations.
The Company competes in its markets on the basis of a number of factors,
including the price, performance, reliability and compatibility of its
products, its ability to reach the market quickly with new products, its
ability to meet customer delivery and reliability requirements, the quality of
its technical support and its ability to develop and maintain relationships
with customers and suppliers. Many of the Company's competitors and potential
competitors have greater financial, marketing, manufacturing and technical
resources than the Company. In addition, some of the Company's competitors
manufacture their own controller chips, which provide these competitors with a
significant advantage over the Company when their internally produced
controller chips cost less or maintain higher price/performance levels than the
controller chips available to the Company from independent suppliers.
Furthermore, while the Company believes it is the only supplier of brand name
multimedia accelerator subsystems that manufactures its own products, some of
the Company's competitors internally manufacture other multimedia subsystems,
such as sound cards and PC/TV cards. The rapid pace of change in the industry
and in the markets in which the Company competes places a premium on the
knowledge and experience of a company's management, engineers and other
personnel, and their ability to continuously develop, enhance and transition
new products. The Company believes that increasing its hardware and software
engineering staff is an important factor to its future competitiveness.
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<PAGE>
PRODUCT CONCENTRATION
Historically, a substantial majority of the Company's net sales have been
derived from sales of multimedia accelerator subsystems and, from time to time,
a substantial majority of the Company's net sales in a given fiscal quarter
have been derived from the sale of a single or a limited number of multimedia
accelerator subsystems. Factors that increase the probability of a single or a
limited number of products accounting for a substantial majority of sales
during a given fiscal quarter may include one or more of the following factors:
the development and timely introduction of new and enhanced products by the
Company that meet OEM design requirements and design cycles and achieve wide
market acceptance; the selection of key components (such as multimedia
controller chips) at the design stage that provide the Company's products with
distinct advantages compared with the key components available to its
competitors; the availability of key components (such as multimedia controller
chips) in sufficient quantities to meet production schedules once the Company
commences manufacturing its products; favorable product reviews and other media
coverage; the volume and timing of significant customer orders received during
the period; and product obsolescence, maturation, or mismanagement of product
transitions by the Company's competitors. Because the market for the Company's
products is characterized by short product life cycles, evolving industry
standards and frequent introductions of new products, the Company's product
offerings may change significantly from quarter to quarter. There can be no
assurance that a product which was an industry leader and a major source of
revenue and gross profit in one fiscal quarter will not be rendered less
competitive or obsolete in a subsequent fiscal quarter. Moreover, in any given
quarter, one or more of the Company's competitors may introduce an industry
dominating product for one or more of the same factors noted above.
Accordingly, the Company's future prospects largely depend upon its ability to
continuously develop and introduce new products that generate sufficient net
sales to replace net sales from existing products as they mature. Any
inability to develop and introduce new products that compete favorably in the
marketplace and meet customer demand in future fiscal periods will have a
material adverse effect on the Company's business, financial condition and
results of operations.
SINGLE MANUFACTURING FACILITY
The Company's sole manufacturing facility is located in Juarez, Mexico. The
Company recently relocated a portion of its manufacturing operations to an
adjacent, larger building, thus expanding the overall facility square footage,
and transitioned to new or reconfigured manufacturing equipment. Since the
Company is substantially dependent on this single manufacturing facility, any
disruption of the Company's manufacturing operations at this facility would
have a material adverse effect on the Company's business, financial condition
and results of operations. Such disruption could result from various factors,
including difficulties in attracting and retaining qualifed manufacturing
employees, difficulties associated with the transition to new, reconfigured or
upgraded manufacturing equipment, a labor dispute, human error, governmental or
political risks or a natural disaster such as an earthquake, tornado, fire or
flood. In addition, in comparison to those of its competitors that do not
maintain their own manufacturing facilities, the Company incurs higher relative
fixed overhead and labor costs as a result of operating its own manufacturing
facility. Any failure to generate the level of product revenues needed to
absorb these overhead and labor costs would have a material adverse effect on
the Company's business, financial condition and results of operations.
MANAGEMENT OF GROWTH
The Company has recently experienced rapid growth and consequently has
increased its expenditures in a number of areas and made certain long-term
commitments (such as the expansion of production lines at its Juarez
manufacturing facility and the forthcoming relocation of its corporate
headquarters to a larger facility in Richardson, Texas), a number of which
would be difficult to reduce quickly in the event of a reduction in the rate of
growth or a decrease in the Company's business.
- 20 -
<PAGE>
In the event that the Company experiences further growth, such growth will
place additional strain on the Company's management and operations, including
its sales, customer support, research and development, and finance and
administrative operations and require larger quantities of components,
additional personnel and manufacturing equipment and improved operating,
financial and adminsitrative controls, any of which could require significant
additional capital expenditures. The Company may experience difficulty
securing adequate quantities of components or additional manufacturing
equipment, attracting or retaining skilled personnel, improving infrastructure
and management information systems or overcoming other difficulties associated
with growth. In addition, gross profit margins derived from initial orders
with new OEM customers are frequently lower than the Company's typical gross
profit margins, which could reduce the Company's overall gross profit margin.
There can be no asssurance that the Company will be able to manage future
changes in the size of its business successfully or that difficulties in doing
so will not have a material adverse effect on the Company's business, financial
condition and results of operations.
CHANGE IN PRODUCT OR SALES CHANNEL MIX
The Company offers two broad categories of products: multimedia subsystems
that are primarily sold to major OEMs and, to a lesser degree, to commercial
customers, and specialized technology products that are primarily sold to
resellers, the workstation groups of OEMs and corporate customers in certain
industries. Sales of multimedia accelerator subsystems to OEMs, which
currently account for a substantial majority of the Company's net sales of OEM
multimedia subsystems, are characterized by relatively high unit volumes and
relatively low gross profit margins. Sales of the Company's multimedia
subsystems to the commercial market are characterized by relatively modest
volumes and moderate gross profit margins. Sales of the Company's specialized
technology products are characterized by relatively low unit volumes and
relatively high gross profit margins. The Company's net sales to OEMs, the
commercial market and specialized technology customers represented
approximately 85%, 9% and 5% of the Company's total net sales in the 1998 first
fiscal quarter, and approximately 79%, 12% and 8% of the Company's total net
sales in the fiscal year 1997. Shifts in the mix of products sold or in the
sales channels into which such products are sold could have a material adverse
effect on the Company's business, financial condition and results of
operations.
In particular, a decrease in sales of multimedia subsystems to the commercial
market or in sales of specialized technology products could result in a
disproportionately greater decrease in the Company's gross profit margin
because sales of multimedia subsystems in the commercial market and sales of
specialized technology products currently have higher gross profit margins than
sales of multimedia subsystem products to the Company's OEM customers. On the
other hand, any decrease in the volume of multimedia subsystems sold to the
Company's OEM customers would significantly reduce total net sales, which would
also have a material adverse effect on the Company's business, financial
condition and results of operations. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations - Overview."
ENTRY INTO NEW PRODUCT MARKETS
While the Company's business historically has focused primarily on the design,
manufacture and sale of multimedia accelerator subsystems, the Company
commenced commercial shipments of its DVD decoder subsystems in the 1997 third
fiscal quarter and its flat panel display products in the 1998 first fiscal
quarter. Further, as a substantial number of PCs incorporate graphics
circuitry on the motherboard (particularly in lower cost PCs), the Company is
now actively soliciting orders for such motherboards from OEMs and, in the
event that the Company secures any orders, the Company plans to undertake the
design, manufacture and sales of motherboards incorporating the Company's
multimedia accelerator subsystem capabilities. There are numerous risks
inherent in the entry into new product markets, including the reallocation of
limited management, engineering and capital resources to unproven product
ventures, a greater likelihood of encountering technical problems and a greater
likelihood that the Company's new products (or the PCs into which they are
incorporated) will not gain market acceptance.
- 21 -
<PAGE>
In addition, a new product line, like the Company's line of flat panel display
products, requires significant investment in long-lead time inventories as well
as certain manufacturing equipment. The failure of one or more of such
products, or any adverse effect such new products may have upon the Company's
reputation in its core multimedia accelerator subsystem business as a result of
such failure, could have a material adverse effect on the Company's business,
financial condition and results of operations.
PROPRIETARY TECHNOLOGY; INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS
The Company's success depends in part upon its proprietary technology,
including, in particular, its software drivers and utilities and its hardware
designs. The Company primarily relies upon copyright and trade secret laws and
agreements with its suppliers and customers to protect its proprietary
technology, and occasionally seeks patent protection on selected inventions.
The Company generally also enters into non-disclosure agreements with persons
to whom it reveals its proprietary information, such as OEMs that the Company
works with, concerning future products. There can be no assurance that the
Company's present protective measures will be adequate to prevent
misappropriation of its technology or independent third party development of
the same or similar technology. Many foreign jurisdictions offer less
protection of intellectual property rights than the United States, and there
can be no assurance that the protection provided to the Company's proprietary
technology by the laws of the United States or foreign jurisdictions will be
sufficient to protect the Company's technology.
The Company has in the past and may in the future find it necessary or
desirable to procure licenses from third parties relating to current or future
products or technologies; however, there can be no assurance that the Company
will continue to be able to obtain such licenses or other rights or, if it is
able to obtain them, that it will be able to do so on commercially acceptable
terms. The Company could be placed at a disadvantage if its competitors obtain
licenses with lower royalty fee payments or other terms more favorable than
those received by the Company. If the Company or its suppliers or customers
were unable to obtain licenses relating to current or future products or
technologies, the Company could be forced to market products without certain
technological features. The Company's inability to obtain licenses necessary
to use certain technology or its inability to obtain such licenses on
competitive terms could have a material adverse effect on the Company's
business, financial condition and results of operations.
It is common in the PC industry for companies to assert intellectual property
infringement claims against other companies. As a consequence, the Company
indemnifies some OEM customers in certain respects against intellectual
property claims relating to its products. Several OEM customers recently sent
the Company notices of potential indemnity claims based upon a notice of
infringement of his patent. Subsequently, the patent owner filed patent
infringement lawsuits in the U.S. and elsewhere against several of such OEM
customers and a number of other major PC systems manufacturers. The Company
provides multimedia subsystems to its OEM customers for use in such OEM
customers' products that are alleged to infringe on the patent owner's rights.
Based upon the Company's preliminary evaluation of the patent, it does not
believe the infringement claims are meritorious as to its products sold to its
customer. However, pursuant to such indemnity agreements or in the event the
Company is directly sued, the Company may be required to dedicate significant
management time and expense to defending itself or assisting its OEM customers
in their defense of this or other infringement claims, whether meritorious or
not, which could have a material adverse effect on the Company's business,
financial condition and results of operations. If this or another intellectual
property claim were to be brought against the Company, or one or more of its
OEM customers, and the Company, or one or more of its OEM customers, were found
to be infringing upon the rights of others, the Company could be required to
pay infringement damages, pay licensing fees, modify its products so that they
are not infringing or discontinue offering products that were found to be
infringing, any of which could have a material adverse effect on the
Company's business, financial condition and results of operations.
- 22 -
<PAGE>
If an intellectual property claim were to be brought against one or more of the
Company's suppliers and the supplier were found to be infringing upon the
rights of others, the supplier could be enjoined from further shipments of its
products to the Company, which could have a material adverse effect on the
Company's business, financial condition and results of operations.
DEPENDENCE ON KEY PERSONNEL; NEED FOR ADDITIONAL PERSONNEL
The Company's prospects depend largely upon the services of its management,
sales, marketing and engineering personnel. While the Company has entered into
employment agreements with a number of its officers and key personnel, the loss
of the services of one or more of such personnel could have a material adverse
effect on the Company's business, financial condition and results of
operations. The prospects of the Company also depend on its ability to retain
its key management, sales, marketing and engineering personnel and to attract
other personnel to satisfy the Company's current and future needs. There is
substantial competition for skilled personnel in the PC industry (and, in
particular, multimedia hardware and software engineers), and the failure to
retain key personnel or to attract additional personnel to satisfy the
Company's needs could have a material adverse effect on the Company's business,
financial condition and results of operations.
POTENTIAL FUTURE ACQUISITIONS
The Company has in the past pursued, and may in the future pursue, acquisitions
of product lines, technologies or businesses. Future acquisitions by the
Company may result in the use of significant amounts of cash, potentially
dilutive issuances of equity securities, incurrence of debt and amortization
expenses related to goodwill and other intangible assets, each of which could
have a material adverse effect on the Company's business, financial condition
and results of operations. In addition, acquisitions involve numerous risks,
including difficulties in the assimilation of the operations, technologies and
products acquired, the diversion of management's attention from other business
concerns, the risks of entering markets in which the Company has limited or no
prior experience, and the potential loss of key employees. There are currently
no negotiations, commitments or agreements with respect to any acquisition. In
the event that an acquisition does occur, such acquisition may have a material
adverse effect on the Company's business, financial condition and results of
operations.
INTERNATIONAL OPERATIONS
Substantially all of the Company's manufacturing operations are carried out in
Juarez, Mexico. The Company's export sales (which primarily consist of
European sales) were approximately 26% and 27% of net sales in the 1998 first
fiscal quarter and fiscal year 1997, respectively. The Company is subject to
the general risks of conducting business internationally, including unexpected
changes in regulatory requirements, fluctuations in currency exchange rates,
delays resulting from difficulty in obtaining export licenses for certain
technology, state imposed restrictions on the repatriation of funds, tarriffs
and other barriers and the restrictions and burdens of complying with a variety
of foreign laws. In addition, the Company is subject to general geopolitical
risks, such as political instability and changes in diplomatic and trade
relationships, in connection with its international operations. Although to
date the Company has not experienced any material adverse effects on its
business, financial condition or results of operations as a result of such
factors, there can be no assurance that such factors will not have such effects
in the future, or require the Company to modify its business practices. The
Company currently sells its products at prices denominated in U.S. dollars, and
an increase in the value of the U.S. dollar relative to foreign currencies
could make the Company's products more expensive and potentially less
competitive in foreign markets. The Company expects to sell a portion of its
products in the future at prices denominated in other currencies and will
therefore increase its currency exposure risk. In addition, a substantial
portion of the Company's manufacturing labor costs are paid in Mexican pesos.
Any decrease in the value of the U.S. dollar relative to the Mexican peso would
increase the Company's manufacturing costs, which could have a material effect
on the Company's business, financial condition and results of operations.
- 23 -
<PAGE>
PRICE PROTECTION AND STOCK ROTATION RISKS
As is common practice in its industry, the Company's arrangements with its
commercial customers generally allow such customers, in the event of a price
decrease, credit equal to the difference between the price originally paid and
the new decreased price on units in the customers' inventories on the date of
the price decrease. In addition, commercial customers generally have the right
to return slow-moving or excess inventory for product credit equal to an agreed
upon percentage of shipments within specified time periods. While the Company
establishes reserves to cover these practices, there can be no assurance that
these reserves will be sufficient or that any future price protection claims or
returns will not have a material adverse effect on the Company's business,
financial condition and results of operations. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Overview."
ENVIRONMENTAL REGULATIONS
The Company is subject to a variety of local, state, federal and foreign
governmental regulations relating to the storage, discharge, handling,
emission, generation, manufacture and disposal of toxic or other hazardous
substances used to manufacture the Company's products. The failure to comply
with current or future regulations could result in the imposition of
substantial fines on the Company, suspension of production, alteration of its
manufacturing processes or cessation of operations and have a material effect
on the Company's business, financial condition and results of operations.
POTENTIAL LIABILITY CLAIMS
The Company's purchase agreements with its major OEM customers typically
contain provisions that require the Company to indemnify the OEM customer and
any end-users for potential product liability claims. Although the Company has
not experienced product liability claims to date, there can be no assurance
that the Company will not become subject to such claims in the future. A
successful product liability claim against the Company could have a material
adverse effect on its business, financial condition and results of operations.
HEADQUARTERS RELOCATION
The Company recently commenced construction of a new 210,000 square foot
headquarters facility near its current location in Richardson, Texas and it is
anticipated that this facility will be completed by December 1998. In
connection with the transition to its new headquarter, the Company may
experience interruptions in certain aspects of its operations, including but
not limited to, those relating to its various engineering, sales and
administrative functions. There can be no assurance that any such
interruptions, or other consequences arising out of the Company's transition to
its new headquarters, will not have a material adverse effect on the Company's
business, financial condition or results of operations. In addition, pursuant
to the terms of its new headquarters lease, the Company will incur additional
occupancy expense. The amount of this additional occupancy expense will be
dependent on prevailing interest rates. Moreover, the Company will bear the
economic risk upon the sale of such facility. If this facility is sold for
less than the amount of the underlying debt on the facility then oustanding,
the Company would be required to cover any shortfall, which could have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources."
- 24 -
<PAGE>
YEAR 2000 COMPLIANCE
The Company uses a significant number of computer software programs and
operating systems in its internal operations, including applications used in
financial business systems and various administration functions, and also
includes software programs in its products. To the extent that these software
applications contain code that is unable to appropriately interpret the
upcoming calendar year 2000, some level of modification or possible replacement
of such source code or applications will be necessary. The Company is still
analyzing its software applications and, to the extent they are not fully year
2000 compliant, the costs necessary to update software or potential systems
interruptions may have a material adverse effect on the Company's business,
financial condition and results of operations. Furthermore, there can be no
assurance that the Company's customers and suppliers are or will be year 2000
compliant. The failure of the Company's customers and suppliers to achieve
year 2000 compliance could have a material adverse effect on the Company's
business, financial condition and results of operations.
NO INTENTION TO PAY DIVIDENDS
Since the Company's initial public offering in February 1995, it has not
declared or paid any cash dividends on its Common Stock or other securities,
and does not anticipate paying any cash dividends in the foreseeable future.
The Company intends to retain any earnings for use in its business. The
decision to pay dividends in the future will be at the discretion of the Board
of Directors and will depend, among other things, upon future earnings,
operations, capital requirements, restrictions in financing agreements, the
general financial condition of the Company and general business conditions.
The Company's existing revolving credit facility prohibits the Company from
paying cash dividends.
NEED FOR ADDITIONAL CAPITAL
The Company requires substantial working capital to fund its business,
particularly to finance its inventory and accounts receivable and for capital
expenditures. The Company's future capital requirements will depend on many
factors, including the rate of revenue growth, if any; the Company's financial
condition; any need to expand the Company's manufacturing capacity; the timing
and extent of spending to support research and development programs; the
expansion of selling and marketing and administrative activities; the timing of
new product introductions and product enhancements; and the level of market
acceptance of the Company's products. The Company expects that it may need to
raise additional equity or debt financing in the future. There can be no
assurance that additional equity or debt financing, if required, will be
available on acceptable terms or at all. If the Company is unable to obtain
such additional capital, the Company may be required to reduce the scope of its
planned product development, manufacturing expansion or selling and marketing
activities, which would have a material adverse effect on the Company's
business, financial condition and results of operations. In the event that the
Company does raise additional equity financing, the Company's existing
shareholders could experience substantial dilution. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Liquidity and Capital Resources."
ANTI-TAKEOVER MEASURES
The Company is a Texas corporation and is therefore subject to the provisions
of the Texas Business Corporation Act, including the terms of the Texas
Business Combination Law ("TBCL") that became effective on September 1, 1997.
In general, the OBCL prohibits a Texas "issuing public corporation" (such as
the Company) from engaging in a "business combination" with any shareholder who
is a beneficial owner of 20% or more of the corporation's outstanding stock for
a period of three years after such shareholder's acquisition of a 20% ownership
interest, unless: (i) the board of directors of the corporation approves the
transaction or the shareholder's acquisition of shares prior to the acquisition
or (ii) two-thirds of the unaffiliated shareholders of the corporation approve
the transaction at a shareholders' meeting. The TBCL may have the effect of
inhibiting a non-negotiated merger or other business combination involving the
Company. The Company is subject to the terms of the TBCL, unless its
shareholders or directors take action electing not to be governed by its terms
(which action is not currently contemplated). The Company is also a party to
certain agreements that could be deemed to have an anti-takeover effect.
- 25 -
<PAGE>
The Company's Board of Directors has the authority to issue up to 2,000,000
shares of preferred stock in one or more series and to determine the price,
rights, preferences and privileges of those shares without any further vote
or action by the Company's shareholders. The rights of the holders of Common
Stock of the Company are subject to, and may be adversely affected by, the
rights of the holders of any shares of preferred stock which may be issued in
the future. While the Company has no present intention to issue shares of
preferred stock, such issuance, while providing desirable flexibility in
connection with possible acquistions and other corporate purposes, could have
the effect of making it more difficult for a third party to acquire a
majority of the outstanding voting stock of the Company. In addition, such
preferred stock may have other rights, including economic rights senior to
the Common Stock, and as a result the issuance thereof could have a material
adverse effect on the market value of such Common Stock.
STOCK PRICE VOLATILITY
The trading price of the Company's Common Stock has in the past and may in
the future be subject to wide fluctuations in response to factors such as
actual or anticipated variations in the Company's operating results;
announcements of technological innovations by the Company or its competitors;
new products, contracts or OEM design wins by the Company or its competitors;
developments with respect to patents, copyrights or proprietary rights;
changes in recommendations or financial estimates by securities analysts;
conditions and trends in the PC and technology industries; adoption of new
accounting standards affecting the Company's industry; general market
conditions and other factors. Further, the stock market has experienced in
recent months and may continue in the future to experience extreme price and
volume fluctuations that particularly affect the market prices or equity
securities of high technology companies and that often are unrelated or
disproportionate to the operating performance of such companies. The trading
prices of many high technology companies' stocks have recently been at or
near historical highs and reflect price to earnings ratios that are
substantially above historical levels. There can be no assurance that these
trading prices and price to earnings ratios will be sustained. These broad
market fluctuations, as well as general economic, policitcal and market
conditions, may adversely affect the market price of the Company's Common
Stock. In the past, following periods of volatility in the market price of a
company's stock, securities class action litigation has often been instituted
against the issuing company. There can be no assurance that such litigation
will not occur in the future with respect to the Company. Such litigation
could result in substantial costs and would at a minimum divert management's
attention and resources, which could have a material adverse effect on the
Company's business, financial condition and results of operations. Any
adverse determination in such litigation could also subject the Company to
significant liabilities.
SHARES ELIGIBLE FOR FUTURE SALE
The executive officers and directors and the Founding Shareholders of the
Company, who beneficially own a substantial portion of the outstnading shares
of Common Stock, are free to sell the shares beneficially owned by them,
subject to compliance with the Securities Act of 1933, as amended (the
"Securities Act"), including Rule 144 promulgated thereunder, and the terms
of a Right of First Refusal Agreement, to which certain of such shares are
subject. A large portion of the shares held by such beneficial owners may be
sold into the public market effectively free of significant restrictions. No
prediction can be made as to the effect, if any, that market sales of the
above shares or the availability of such shares for future sales will have on
the market price of shares of Common Stock prevailing from time to time.
Future sales of substantial amounts of Common Stock by existing shareholders
could adversely affect the prevailing market price of the Common Stock and
the Company's ability to raise additional capital.
- 26 -
<PAGE>
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit Number
- --------------
10.11 Indemnification Agreement by and between Dennis G. Sabo and the
Company (incorporated by reference to Exhibit 10.11 of the Company's
Registration Statement on Form S-3, Registration No. 333-4684)
10.12 Indemnification Agreement by and between Bryan F. Keyes and the
Company (incorporated by reference to Exhibit 10.12 of the Company's
Registration Statement on Form S-3, Registration No. 333-4684)
10.35 First Amendment to Credit Agreement dated as of January 30, 1998 by and
among the Company, Bank One, Texas, N.A. and the Original Lenders as
therein defined (incorporated by reference to Exhibit 10.35 of the
Company's Registration Statement on Form S-3, Registration No. 333-4684)
10.36 Lease Schedule No. 1000063250 dated as of October 31, 1997 to Master
Lease Agreement dated October 30, 1996 between Banc One Leasing
Corporation and the Company (incorporated by reference to Exhibit 10.36
of the Company's Registration Statement on Form S-3, Registration No.
333-4684)
10.37 Lease Schedule No. 1000063259 dated as of October 31, 1997 to Master
Lease Agreement dated October 30, 1996 between Banc One Leasing
Corporation and the Company (incorporated by reference to Exhibit 10.37
of the Company's Registration Statement on Form S-3, Registration No.
333-4684)
10.38 Lease Schedule No. 1000063905 dated as of December 15, 1997 to Master
Lease Agreement dated October 30, 1996 between Banc One Leasing
Corporation and the Company (incorporated by reference to Exhibit 10.38
of the Company's Registration Statement on Form S-3, Registration No.
333-4684)
10.39 Master Lease Amendment dated as of October 31, 1997 to Master Lease
Agreement dated October 30, 1996 between Banc One Leasing Corporation
and the Company (incorporated by reference to Exhibit 10.39 of the
Company's Registration Statement on Form S-3, Registration No. 333-4684)
10.40 Selling Shareholder Agreement between the Company and each of Messrs.
Ogle, Balthaser and Sims (incorporated by reference to Exhibit 10.40 of
the Company's Registration Statement on Form S-3, Registration No.
333-4684)
27.1 Financial Data Schedule
(b) Current Reports on Form 8-K
There were no reports filed on Form 8-K during the quarterly period ended
January 31, 1998.
- 27 -
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
STB SYSTEMS, INC.
Dated: March 17, 1998 By: /s/ William E. Ogle
------------------------------------------
President and Chief Executive Officer
Dated: March 17, 1998 By: /s/ Bryan F. Keyes
------------------------------------------
Bryan F. Keyes, Vice President of Administration
and General Counsel
- 28 -
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED FINANCIAL STATEMENTS OF STB SYSTEMS, INC. INCLUDED IN ITS
QUARTERLY REPORT ON FORM 10Q AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> OCT-31-1998
<PERIOD-START> NOV-01-1997
<PERIOD-END> JAN-31-1998
<CASH> 3,391
<SECURITIES> 0
<RECEIVABLES> 50,354
<ALLOWANCES> (548)
<INVENTORY> 45,811
<CURRENT-ASSETS> 101,667
<PP&E> 17,613
<DEPRECIATION> 5,483
<TOTAL-ASSETS> 115,767
<CURRENT-LIABILITIES> 65,866
<BONDS> 0
0
0
<COMMON> 105
<OTHER-SE> 47,258
<TOTAL-LIABILITY-AND-EQUITY> 115,767
<SALES> 78,758
<TOTAL-REVENUES> 78,758
<CGS> 62,542
<TOTAL-COSTS> 62,542
<OTHER-EXPENSES> 9,997
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 518
<INCOME-PRETAX> 5,701
<INCOME-TAX> 1,896
<INCOME-CONTINUING> 3,805
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,805
<EPS-PRIMARY> .36<F1>
<EPS-DILUTED> .33
<FN>
<F1>EARNINGS PER SHARE NUMBERS HAVE BEEN ADJUSTED TO REFLECT A THREE-FOR-TWO
STOCK SPLIT OF THE COMPANY'S COMMON STOCK ON FEBRUARY 20, 1998.
TAG 41 "EPS-PRIMARY" REPRESENTS BASIC EARNINGS PER SHARE AS DEFINED BY
SFAS 128.
</FN>
</TABLE>
