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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-K
(Mark One)
[X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 (Fee Required).
For the fiscal year ended December 31, 1996
or
[_] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 (No Fee Required).
For the transition period from ________________ to ________________
Commission file no. 0-25524
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HELLO DIRECT, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 94-3043208
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
5893 RUE FERRARI, SAN JOSE, CALIFORNIA 95138
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (408) 972-1990
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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. _____________
The aggregate market value of the Registrant's Common Stock, par value
$.001 per share, held by non-affiliates of the Registrant, based upon the
closing price at March 24, 1997 was approximately $9,100,000. For purposes of
this disclosure, shares of Common Stock held by persons who hold more than 5% of
the outstanding shares of Common Stock and shares held by officers and directors
of the Registrant have been excluded because such persons may be deemed to be
affiliates. This determination of affiliate status is not necessarily conclusive
for other purposes.
The number of shares of Registrant's Common Stock, par value $.001 per
share, outstanding at March 24, 1997 was 5,030,531.
Documents Incorporated By Reference
1. Portions of the Proxy Statement sent to stockholders in connection with the
Annual Meeting of Stockholders to be held on April 30, 1997 are incorporated by
reference into Items 10, 11, 12 and 13 (Part III) of this Report. Such Proxy
Statement, except for the parts therein which have been specifically
incorporated by reference, shall not be deemed "filed" for the purposes of this
report on Form 10-K.
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HELLO DIRECT, INC.
FORM 10-K
YEAR ENDED DECEMBER 31, 1996
TABLE OF CONTENTS
PART I
Page
----
Item 1. Business..................................................... 3
Item 2. Properties................................................... 10
Item 3. Legal Proceedings............................................ 10
Item 4. Submission of Matters to a Vote of Security Holders.......... 10
PART II
Item 5. Market for the Registrant's Common Equity and Related
Stockholder Matters........................................ 11
Item 6. Selected Financial Data...................................... 12
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................. 13
Item 8. Financial Statements and Supplementary Data.................. 17
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure........................ 33
PART III
Item 10. Directors and Executive Officers of the Registrant........... 33
Item 11. Executive Compensation....................................... 33
Item 12. Security Ownership of Certain Beneficial Owners and
Management................................................. 33
Item 13. Certain Relationships and Related Transactions............... 33
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on
Form 8-K................................................... 34
2
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PART I
ITEM 1. BUSINESS
This Business section and other parts of this Annual Report on Form 10-K
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contain forward-looking statements that involve risks and uncertainties. The
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Company's actual results may differ significantly from the results discussed in
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the forward-looking statements, and such differences may be material. Factors
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that might cause such a difference include, but are not limited to, those
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discussed below and in "Management's Discussion and Analysis of Financial
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Condition and Results of Operations."
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Founded in 1987, Hello Direct, Inc. ("Hello Direct" or the "Company") is a
Delaware corporation with principal executive offices located at 5893 Rue
Ferrari, San Jose, California 95138. The Company's main telephone number is
(408) 972-1990.
The Company is a leading direct marketer of innovative telecommunications
products to business end-users. The Company's primary channel to its business
end-users is direct mail solicitation through a catalog. During 1996, the
Company processed 300,000 orders from customers.
The Company offers a broad selection of commercial-grade brand name,
proprietary and private label products at competitive prices that provide
solutions to its customers' evolving telecommunications needs.
Products
--------
The Company's products are divided into four main categories: headset
products, which amounted to 54% of net sales in 1996; telecom products, 27% of
net sales; call processing products, 15% of net sales; and mobile communication
products, 4% of net sales.
Headset Products. The Company's catalog offers approximately 85 SKUs of
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headset products including a variety of headset related accessories such as
amplifiers, adapters and hangers. Currently all of the headsets offered in the
catalog belong to the Company's "HelloSet" product line, which consists of three
styles of corded headsets (Ultralight, Solo & Dual) and the first and broadest
line of commercial-grade wireless telephone headset currently on the market.
Headsets are available in multiple variations to address customer preferences
based on features, price, comfort, fit and feel.
Headsets have been a key Hello Direct product category since 1988. In 1991,
Hello Direct introduced the first commercial-grade wireless telephone headset by
incorporating 900 Megahertz technology, which provides the wireless headset with
greater range and sound clarity than earlier technology. Beginning in 1991, the
Company also began a transition from its private label line of corded headsets
to an all new proprietary line of corded headsets. In 1993, the Company
completed this transition and has since continued to expand and enhance its
wireless and corded headsets with new product offerings. New proprietary
products introduced during 1996 include the Cordless/TM/ 100, the SuperPro/TM/
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headset amplifier and the 900MHz wireless Office Rover/TM/. The Company believes
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that the HelloSet product line's features, comfort, quality and price
competitiveness have contributed to its strong unit sales volumes.
Approximately 52% of the Company's net sales in 1996 were derived
from sales of the Company's proprietary telephone headset products which have
higher gross margins than its other products. The Company anticipates that these
headset products will continue to account for a significant portion of its net
sales and profits in the foreseeable future.* If sales of the Company's
telephone headset products were to decline significantly for any reason, or the
gross margins on such products were to decrease significantly for any reason,
including competitive pressures or
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* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
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technological obsolescence, the Company's operating results would be materially
adversely affected.
Telecom Products. Hello Direct's telecom product line includes selected
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telephones and answering machines, telephone accessories, amplification products
and office communications accessories. Leading brand names include AT&T,
Southwestern Bell, Northern Telecom, Panasonic, Uniden, and Olympus America.
Call Processing Products. Hello Direct's call processing product line
------------------------
includes audio conferencing products, auto switches, small business telephone
systems (under 16 stations), caller ID devices, voice messaging products, PC-
based communications products, modular hardware and video communications
products. Brand names including U.S. Robotics, Intellidata, Panasonic and
Polycom, currently comprise a majority of the call processing products offered
by the Company. Hello Direct private label products in this category include
prepaid calling cards, fax/modem switches, and music-on-hold programs.
Mobile Communications Products. Hello Direct's mobile communications
------------------------------
products line includes cellular and mobile office accessories and pagers.
Leading brand names include GTE, Bell Atlantic, NYNEX and U.S. Robotics.
Development of Proprietary Products.
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A key element of the Company's business strategy is to develop and introduce
new innovative proprietary products.( In addition to strengthening the product
offering, increasing sales and providing higher gross margins, the Company
believes offering proprietary products enhances awareness of the Hello Direct
brand name.* The Company's product development team generates new product
specifications and manages the development process. Hello Direct works with
third parties for most engineering and design, and for all manufacturing.
The Company relies upon customer feedback and input as its primary source
of new product ideas and enhancements to currently available products. The
Company developed its wireless headset as a result of customer requests and has
continued to enhance this product since its introduction in 1991, in response to
customer feedback. Similarly, based on customer feedback regarding existing
corded headsets, in 1991 the Company developed a proprietary family of corded
headsets that address specific customer preferences for features, price,
comfort, fit and feel. In addition to individual customer contacts, Hello Direct
conducts regular user surveys and focus groups to solicit customer feedback and
generate product development ideas. The Company also obtains product development
ideas from trade shows, industry journals and suppliers.
As part of its development process, the Company has entered and expects to
continue to enter into development agreements whereby the Company will pay all
or a portion of product development costs, license technology and make royalty
payments based on product sales.* The Company's product development expenses
were $1,598,000, $1,326,000 and $843,000 in 1996, 1995 and 1994, respectively.
These amounts have been adjusted to exclude the expenses associated with
CellBase, a car kit the Company had been designing to support the most popular
portable cellular phones. The Company ceased development of this product in
1995. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
The Company is continually developing new products and product enhancements.
In 1997, the Company plans to offer additional proprietary products as well as
enhancements to its present products. Other new products could include products
featuring CODiT/TM/, an interface technology.*
The market for telecommunications products is generally characterized by
rapidly changing technology that can render existing products obsolete and
unmarketable. The Company believes its current and future success will depend
on its ability to use its direct customer contacts and product development
capabilities to identify, develop or source and successfully introduce and
market in a timely manner both enhancements to its existing products and
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* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
4
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new products that respond effectively to technological change. The Company has
experienced delays in the past in introducing certain of its products and could
encounter similar technical difficulties in the future that will result in
delayed product introductions or expensive recalls. There can be no assurance
that the Company will be successful in anticipating technological changes, or in
selecting and developing new and enhanced products on a timely basis, or that
once developed or sourced, any such products will gain market acceptance.
CODiT/TM/. Telephone accessories such as headsets, external speakerphones
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and facsimiles typically access networks through the handset jack. Since each
manufacturer uses different interface protocols, suppliers have had to provide
telephone-specific accessories or, like the Company, universal accessories which
users must manually configure. The problem has been exacerbated by the
proliferation of telephone systems and accessories. During 1993, the Company
began development of CODiT which uses two custom integrated circuits to
automatically interface with the protocols of a particular unit and thereby
eliminate the need for manual adjustments. The Company believes CODiT, which
will initially be incorporated into its headset products, will improve product
performance by enhancing sound quality and make products more user friendly by
simplifying the installation process.* The Company believes CODiT technology can
also be used to provide access through the telephone handset jack to other
communications products such as external speakerphones, facsimiles and modems.*
In the second half of 1996, the Company introduced the SuperPro(TM) headset
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amplifier which uses the CODiT "smartchip" technology.
The Hello Direct Catalog
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The Hello Direct catalog, the Company's primary sales tool, is a direct
response catalog which is designed to provide all the information necessary for
a customer to purchase any of the Company's telecommunications products. The
catalog includes product descriptions, full color photographs, product
specifications and prices as well as information concerning the use and
applications of telecommunications products. It has an end-user orientation and
is designed to appeal to both technical and non-technical users. The product
copy follows the generally accepted direct response principles of presenting
user benefits, explaining product features and soliciting orders. The catalog
also features a complete easy-to-use index and "Fast Facts," a service by which
the Company will fax its customers detailed information on specific products
offered in the catalog.
In 1996, the Company's catalogs ranged from 60 to 100 pages each. The
Company mailed 23.9 million catalogs during 1996, an increase of 33% over the
17.9 million catalogs mailed in 1995. The Company publishes eight editions of
its catalog annually, four for existing customers and four for new customer
prospecting. Each of the customer's editions is produced in three versions
featuring a different cover and updated product offerings. The Company's
customers receive up to 12 catalogs per year. The Company typically uses the
third version of each edition for special promotions on new products targeted to
its existing customer base.
The Company's full color catalogs are produced in-house on advanced desk top
publishing equipment ("DTP"). Substantially all of the text, graphics and photos
used in the catalog are completely digitized. Use of DTP equipment for page
production has provided the Company with significant flexibility, speed and cost
savings over traditional catalog production methods.
Hello Direct believes direct marketing is the most cost-effective way to
market its telecommunications products to its target customers, and that such
marketing gives the Company a distinct advantage over its competitors in other
channels of distribution. A selection of the Company's most popular products is
currently promoted on the Internet. Although the revenue generated from the
Internet is currently negligible, it is increasing in both volume and average
order value.* The Company is also using other methods of direct selling, such as
outbound telemarketing.*
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* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
5
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Sales and Marketing
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The Company relies primarily on promotional materials delivered by mail to
its customers and rented lists of prospective customers to market its products.
The Company's promotional materials contain an order form to be completed by the
customer and either telephoned, mailed or faxed to the Company. Over 90% of
customer orders are received over the Company's network of toll-free telephone
and data lines.
The Company believes that prompt and courteous customer service is critical
in encouraging customers to make repeat purchases from Hello Direct. The
objective of the Company's customer care organization, which is responsible for
inbound sales, technical support, training and all sales-related order
processing functions, is to provide excellent customer service.* The Company
currently has 85 people in this organization.
The Company maintains a comprehensive database of customers' purchasing
history which is used by the direct marketing group to identify both high-volume
and potential high-volume customers. Representatives from the outbound sales
force cultivate customers targeted through this program and provide them with a
specific representative to serve their individual needs. The Company currently
has 12 people within this organization which includes both the outbound sales
associates as well as administrative assistants to identify potential customers
to be targeted.
Procurement
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The Company purchases over 90% of its products in large volumes directly
from manufacturers who deliver the merchandise to the Company's distribution
center. The Company believes that, because of its volume purchases and its
direct response channel, it has benefited from favorable pricing, payment and
delivery terms and promotional allowances from its suppliers. The Company
believes it has good relationships with its suppliers and to date has not
experienced any difficulty in obtaining products.
A substantial portion of the Company's purchases of brand name and private
label products are concentrated with a relatively small number of manufacturers.
However, the Company believes that alternate sources of supply are available for
virtually every third-party product it carries. Sales of brand name products
represented approximately 45% of net sales in 1996. The failure of an existing
significant supplier to provide products would materially adversely affect the
Company's operating results until it could develop an alternate source of supply
or an alternate product. Certain vendors provide advertising allowances to the
Company to promote sales of their products. In addition, the Company typically
receives price protections should a vendor subsequently lower its price. In
general, the Company can return unsold inventory to its suppliers.
All of the Company's proprietary products are manufactured by independent
contractors according to specifications and conditions set by the Company. Each
independent contractor must meet the Company's specifications relating to the
manufacturing process and quality assurance before such contractor is selected
by the Company to manufacture Hello Direct products. The Company's strategy is
to continue using independent contractors to meet its manufacturing
requirements. * A substantial portion of the Company's private label and
proprietary products are manufactured by a relatively small number of
manufacturers and most of such products, including all headset products, are
manufactured by only two sources. To date, the Company has been able to obtain
adequate supplies of these products, although on occasion the Company has
incurred additional delivery costs to air ship products to obtain inventory in a
timely manner. The Company's inability in the future to obtain sufficient
quantities of sole or limited source products, or to develop alternate sources,
would result in shortages of such products, which would have a material adverse
effect on the Company's net sales and operating results.
Substantially all of Hello Direct's proprietary products are manufactured
to its specifications by Seo Won K-
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* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
6
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Tec, Inc, located in South Korea, Sinoca Enterprises Co., Ltd., located in
Taiwan, and Sinoca Electronics Group headquartered in Singapore (plant located
in Batam, Indonesia). Each of these manufacturers is a substantial supplier to
the Company and products manufactured by these manufacturers represented
approximately 55% of the Company's net sales in 1996. The Company has no long-
term contracts with these manufacturing sources and competes with other
companies for production facilities and import quota capacity. Although the
Company believes that it has established close relationships with these foreign
manufacturing sources, the Company's future success will depend in large measure
upon its ability to maintain such relationships. The Company's business is
subject to the risks generally associated with doing business abroad, such as
foreign governmental regulations, political unrest, disruptions or delays in
shipments and changes in economic conditions in countries in which the Company's
manufacturing sources are located. The Company cannot predict the effect that
such factors will have on its business arrangements with foreign manufacturing
sources. If any such factors were to render the conduct of business in a
particular country undesirable or impractical, or if the Company's current
foreign manufacturing sources were to cease doing business with the Company for
any reason, the Company's business and operating results could be adversely
affected. Further, the Company cannot predict whether additional United States
quotas, duties, taxes or other charges or restrictions will be imposed upon the
importation of its products in the future, or what effect any such actions would
have on its business, financial condition and results of operations.
Quality Assurance
-----------------
Hello Direct's quality assurance program is dedicated to maximizing customer
satisfaction. To achieve this goal, the company oversees various aspects of
quality assurance related to catalog content, customer qualification, order
entry, product fulfillment, post-sales support and customer follow-up. The
Company tests and evaluates every product considered for inclusion in the Hello
Direct catalog. The Company's quality assurance personnel work with the
Company's product development team to assure all new proprietary products adhere
to the Company's quality standards.
Management Information and Call Processing Systems
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Hello Direct is committed to using a high level of information and
communications systems to manage all aspects of its business. The Company
currently uses a Hewlett-Packard 3000 Model 928 to support customer care,
marketing, procurement, accounting and distribution. The system allows the
Company, among other things, to monitor sales trends, make informed purchasing
decisions and provide product availability and order status information. In
addition to the main system, the Company has a system of networked personal
computers, which facilitates data sharing and provides an automated office
environment. In 1996, the Company began updating its personal computer network
and operating system including the development of a new transaction system.
The Company also purchased a new Aspect 200-R Automated Call Distributor
(ACD) with installation coinciding with the move to its new facility. The system
includes a fully redundant hardware and software platform and desktop software
tools to provide each supervisor with accurate call management information.
Future enhancements will include the Aspect Agility Interactive Voice Response
(IVR), which will enable automated responses to customer requests, and computer-
telephony integration (CTI).
The Company's success is in part dependent on the accuracy and proper
utilization of its management information systems and call processing systems.
These investments are intended to continue to improve the Company's customer
care capabilities and the Company's customer information database.*
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* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
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Competition
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The market for customer premise telecommunications products is highly
competitive. The Company competes with a variety of traditional dealers and
retailers, including catalog companies, electronics specialty stores and office
products and computer superstores. A variety of external and internal factors
could adversely affect the Company's ability to compete. These include the
functions, performance, price and reliability of the products offered by the
Company and its competitors, and the effectiveness of the marketing efforts of
the Company and its competitors. Certain competitors of the Company have greater
financial, technical, sales and marketing and other resources than the Company.
There can be no assurance that the Company will continue to compete effectively
against existing competitors or new competitors that may enter the market. In
addition, while the Company currently does not know of any competitor
specializing in distributing a broad line of telecommunications products
directly to business end-users via catalog, there can be no assurance that the
Company will be able to compete successfully in the future in the direct
marketing catalog channel, which may attract new market entrants.
Sales of the Company's headset products accounted for approximately 54% of
the Company's total net sales for 1996. Hello Direct faces competition in this
product category from a variety of sources. The Company believes Plantronics,
Inc., the leading manufacturer of telephone headset products, has sales
representing approximately 60% of the headset market, but it currently does not
sell directly to end-users. In traditional telecommunications sales channels,
such as distributors and telephone systems dealers, headset products are
generally sold as "add-on sales" in connection with other purchases. The Company
believes specialized headset product distributors such as Communitech and GBH
Distributors generally focus their sales efforts on fulfilling existing demand
from traditional headset users, such as call centers, and devote little or no
resources to marketing to small and medium-sized businesses. Hello Direct,
through its Outbound Telemarketing Program, markets to traditional high-volume
headset users. Certain office and computer products dealers also sell headset
products which are primarily consumer-grade.
Telecom and Cellular products are sold through a wide variety of channels
ranging from large discount chains and mass merchandisers to specialized catalog
operations. Hello Direct faces strong competition in this area, and has
responded by focusing its efforts on providing strong customer service and
product support and by offering a wide array of carefully selected, high-quality
products that may be difficult to find elsewhere or are sufficiently early in
their product life cycle to appeal to customers seeking innovative
telecommunications solutions. This product category is comprised primarily of
brand name products which are widely available through alternate suppliers. The
Company competes with such suppliers on the basis of features and price;
however, because the Company limits its branded product offering to innovative
products, the Company does not compete for commodity sales.
In the call processing product category, Hello Direct faces competition
primarily from dealers of specialty systems which sell telephone systems using a
direct sales force. Such dealers, however, generally focus their resources on
call processing systems and products in the $5,000 and over price range. In
contrast, Hello Direct is a direct marketer of commercial-grade
telecommunications products selling for under $5,000. While certain retail
stores sell lower-priced processing systems and accessories, selection and
support in such retail outlets is minimal.
Intellectual Property Rights
----------------------------
The Company relies on a combination of patent, copyright, trademark and
trade secret laws and confidentiality procedures to protect its proprietary
rights. As part of its confidentiality procedures, the Company generally enters
into non-disclosure agreements with its employees, distributors and corporate
partners, and limits access to and distribution of its software, documentation
and other proprietary information.
There are currently no pending material claims that the Company's products,
trademarks or other proprietary rights significantly infringe the proprietary
rights of third parties. In the event of litigation and an adverse ruling in
such litigation, the Company might be required to discontinue the use and sale
of infringing products, expend significant resources to develop non-infringing
technology or obtain licenses to infringing technology. In the event of a
successful claim against the Company and the failure of the Company to develop
or license a substitute technology, the Company's business and operating results
would be adversely affected.
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Personnel
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The Company had 161 full-time employees at December 31, 1996. The Company
sponsors a number of employee benefit plans including medical/dental insurance
plans, life and long-term disability insurance plans, flexible spending
accounts, an employee stock purchase plan and a 401(k) salary deferral plan.
None of the Company's employees are represented by a collective bargaining
agreement. The Company believes that its relations with its employees are good.
Executive Officers of the Company
---------------------------------
The Company's executive officers are traditionally elected to office at the
first meeting of the Board of Directors following the Annual Meeting of
Stockholders. Each officer holds office until the first meeting of the Board
following the next Annual Meeting and until a successor is chosen. Biographical
information for the executive officers follows:
C. Allen Batts, age 52, co-founded the Company in 1987 and has served as
President, Chief Executive Officer and a Director of the Company since 1988.
From 1984 to 1987, Mr. Batts was an officer of Contel Texocom, a communication
products distribution company, most recently serving as President. From 1964 to
1984, Mr. Batts held management and executive positions at North Supply,
Carolina Telephone and United Intermountain Telephone, each of which was a
subsidiary of United Telecommunications, Inc. (now Sprint Corporation). Mr.
Batts holds an M.B.A. from Rockhurst College.
E. Alexander Glover, age 53, joined the Company in 1995 as Executive Vice
President. From 1983 to 1994, Mr. Glover was Senior Vice President, Marketing
and R&D for Kransco Group Companies ("Kransco"), a toy and sporting goods
company. Mr. Glover was also a member of the Corporate Executive Committee at
Kransco. From 1969 to 1983, Mr. Glover progressed through various senior
marketing management positions with Procter & Gamble Co., in its Paper and
Packaged Soap/Detergent Divisions. Mr. Glover holds an M.B.A. from Stanford
University.
Raymond E. Nystrom, age 53, joined the Company in 1996 as Vice President of
Operations, Chief Financial Officer and Secretary. From 1983 until 1996, Mr.
Nystrom held various senior level financial and accounting positions with Inmac
Corp., a direct marketer of computer hardware and software products, and was
most recently Vice President, General Manager of North American Operations and
Chief Financial Officer. Mr. Nystrom held various financial and accounting
positions with Hewlett Packard Company from 1974 to 1983. Mr. Nystrom holds an
M.B.A. from the University of Santa Clara and is a Certified Public Accountant
in the State of California.
Dennis P. Waldera, age 48, joined the Company in 1996 as Vice President of
Direct Marketing. From 1983 through early 1996, Mr. Waldera held various
positions, lastly Executive Vice President, Managing Director, with Clarion
Marketing and Communications, one of the largest marketing consulting, sales
promotion, and direct marketing services firms in the United States. He was
also a member of Clarion's Management Committee and Board of Directors. From
1978 through 1982 Mr. Waldera was a Vice President of Glendinning Associates, a
marketing, promotion and sales consulting company. Mr. Waldera began his career
at Procter & Gamble Co. where from 1972 to 1978 he progressed through various
marketing management positions in the Paper Products Division. Mr. Waldera
holds an M.B.A. degree from Northwestern University.
Ronald J. Becht, Jr., age 41, joined the Company in 1993 and has been Vice
President of Product Marketing since October 1994. From 1991 to September 1993,
he was President and Chief Executive Officer of Personal Computing Tools, a
direct marketer of data acquisition and control products which was acquired by
Software Developers Corporation, a direct marketer of engineering, software and
hardware products. From 1981 to 1991, he served as Director of Worldwide
Marketing at Inmac Corp. a direct marketer of computer hardware and software
products. Mr. Becht holds a B.S. in Business from the University of San Diego.
9
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Charles E. Volwiler, age 41, co-founded the Company in 1987 and has served
as Vice President since then. Prior to co-founding Hello Direct, Mr. Volwiler
was Director of Marketing for Devoke. In 1977 Mr. Volwiler joined Devoke, which
was owned by New England Business Service ("NEBS") from 1983 to 1989. Mr.
Volwiler remained with NEBS until 1987. Mr. Volwiler holds a B.S. in Commerce
from Santa Clara University.
Frank S. McNear, age 50, joined the Company in 1996 as Vice President of
Sales. From 1992 to 1995, Mr. McNear was Manager of Direct Marketing and Lead
Generation of UB Networks, a division of Tandem Computers. Prior to 1992, Mr.
McNear held various sales and marketing positions for Pacific Bell. Mr. McNear
holds a B.S. degree from Menlo School of Business.
The Company's future success will depend to a significant extent on the
efforts of these key management personnel. The loss of the services of any of
these individuals could have a material adverse effect on the Company's
business, financial condition and results of operations. Except for Messrs.
Glover, Nystrom and Waldera, none of these individuals has entered into an
employment agreement with the Company. The Company does not maintain key-man
life insurance on any of these individuals.
ITEM 2. PROPERTIES
On January 1, 1997, the Company moved into a new leased 76,800 square foot
facility in San Jose, California. The term of the lease agreement is 15 years
and the Company anticipates this new facility will meet its growth needs for the
foreseeable future.
The Company has taken precautions to protect itself from events that could
interrupt order fulfillment and customer service, such as offsite storage of
computer backup data and a backup power source. Notwithstanding these
precautions, there can be no assurance that a fire, flood, earthquake or other
disaster affecting the Company's facility would not disable these functions. Any
significant damage to this facility would have a material adverse effect on the
Company's business, financial condition and results of operations.
ITEM 3. LEGAL PROCEEDINGS
No material legal proceedings are pending on the date hereof to which the
Company is a party or to which any property of the Company is subject.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
10
<PAGE>
PART II
Item 5. Market for the registrant's common equity and related stockholder
matters
The Company's Common Stock has been quoted on the Nasdaq National Market
under the Nasdaq symbol "HELO" since the Company's initial public offering in
April 1995. The following table sets forth, for the periods indicated, the high
and low closing sale prices for the Common Stock on such market.
High Low
------- -------
1995:
Second quarter ended June 30, 1995 (from April 7, 1995)... $ 16 $11 1/2
Third quarter ended September 30, 1995.................... 17 3/4 9 3/8
Fourth quarter ended December 31, 1995.................... 10 5 1/4
1996:
First quarter ended March 31, 1996........................ 8 5 1/2
Second quarter ended June 30, 1996........................ 8 1/4 6 1/8
Third quarter ended September 30, 1996.................... 7 1/4 4 5/8
Fourth quarter ended December 31, 1996.................... 5 1/8 4
At March 24, 1997, the Company had 57 holders of record of its Common Stock.
The Company estimates the number of beneficial owners of the Company's Common
Stock at March 24, 1997 to be 1,800.
The market price of the Company's Common Stock has been highly volatile and
may be significantly affected by factors such as anticipated or actual
fluctuations in the Company's operating results, announcements of new
technological innovations or new products by the Company or its competitors,
developments with respect to intellectual property and proprietary rights,
conditions and trends in the telecommunications and telephone headset
industries, changes in estimates by securities analysts of the Company's
financial performance, general market conditions and other factors. In addition,
the stock market has from time to time experienced significant price and volume
fluctuations that have particularly affected the market prices for the common
stocks of emerging growth companies and that have often been unrelated to the
operating performance of particular companies. These broad market fluctuations
may also adversely affect the market price of the Company's Common Stock.
The Company has not paid cash dividends on its Common Stock or other
securities. The Company currently anticipates that it will retain all of its
future earnings for use in the expansion and operation of its business and does
not anticipate paying any cash dividends on its Common Stock in the foreseeable
future Under the Company's existing credit facility, the Company cannot declare
and pay dividends without prior written approval from the lender.
11
<PAGE>
Item 6. Selected Financial Data (in thousands except per share data):
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------------
1996 1995 1994 1993 1992
--------- --------- --------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Net sales .................................. $ 51,590 $ 36,823 $ 26,216 $ 15,240 $10,787
Cost of goods sold .......................... 25,181 16,916 12,179 7,102 5,643
--------------------------------------------------------
Gross profit .......................... 26,409 19,907 14,037 8,138 5,144
Selling, general and administrative expenses 24,277 17,050 11,335 7,067 5,738
Product development expenses ................ 1,598 1,326 843 359 147
CellBase expenses ........................... -- 2,096 523 27 --
--------------------------------------------------------
Operating income (loss) ............... 534 (565) 1,336 685 (741)
Interest income (expense), net .............. 720 579 (195) (129) (118)
Other income (expense), net ................. (20) (37) 142 400 21
-------- --------- ------- ------- ------
Income (loss) before income taxes ..... 1,234 (23) 1,283 956 (838)
Provision (credit) for income taxes ......... 493 (2,112) 34 22 --
--------------------------------------------------------
Income (loss) before extraordinary item 741 2,089 1,249 934 (838)
Extraordinary item .......................... -- 137 -- -- --
-------- --------- ------- ------- ------
Net income (loss)(1) .................. $ 741 $ 1,952 $ 1,249 $ 934 $ (838)
======== ========= ======= ======= ======
Per share amounts:
Income (loss) before extraordinary item ..... $ 0.15 $ 0.46 $ 0.39 $ 0.32 $(1.44)
======== ========= ======= ======= ======
Net income (loss) ........................... $ 0.15 $ 0.43 $ 0.39 $ 0.32 $(1.44)
======== ========= ======= ======= ======
Weighted average common shares and
equivalents(2) .......................... 5,043 4,525 3,204 2,954 583
======== ========= ======= ======= ======
Balance Sheet Data:
Working capital (deficiency) ................ $ 16,282 $ 14,397 $ 5,267 $ 458 $ (592)
Total assets ................................ $ 28,966 $ 25,716 $ 8,408 $ 3,510 $2,481
Long-term debt and capital lease obligations $ -- $ 20 $ 1,958 $ 67 $ 94
Redeemable preferred stock and stockholders'
equity (deficiency) ....................... $ 24,643 $ 23,727 $ 4,333 $ 748 $ (202)
</TABLE>
- --------
(1) Results in 1995, 1994 and 1993 reflect the application of tax loss
carryforwards. Assuming a 40% combined federal and state statutory tax
rate, net income (loss) would have been $(121,000), $770,000 and $574,000,
and net income (loss) per share would have been $(0.03), $0.24 and $0.19 in
1995, 1994 and 1993, respectively.
(2) See Note 1 of Notes to Financial Statements for an explanation of the
determination of weighted average common shares and equivalents used in
computing net income (loss) per share.
12
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and Results
of Operations and other parts of this Annual Report on Form 10-K contain
forward-looking statements that involve risks and uncertainties. The Company's
actual results may differ significantly from the results discussed in the
forward-looking statements and such differences may be material. Factors that
might cause such a difference include, but are not limited to, those discussed
below and in "Business."
RESULTS OF OPERATIONS
The following table sets forth statement of operations data as a percentage
of net sales for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------
1996 1995 1994
----- ------- -----
<S> <C> <C> <C>
Net sales .................................. 100.0% 100.0% 100.0%
Cost of goods sold ......................... 48.8% 45.9% 46.5%
----- ----- -----
Gross profit ......................... 51.2% 54.1% 53.5%
Selling, general and administrative expenses 47.1% 46.3% 43.2%
Product development expenses ............... 3.1% 3.6% 3.2%
CellBase expenses .......................... -- 5.7% 2.0%
----- ----- -----
Operating income (loss) .............. 1.0% (1.5)% 5.1%
Interest income (expense), net ............. 1.4% 1.6% (0.7)%
Other income (expense), net ................ -- (0.1)% 0.5%
----- ----- -----
Income (loss) before income taxes .... 2.4% (0.0)% 4.9%
Provision (credit) for income taxes ........ 1.0% (5.7)% 0.1%
----- ----- -----
Income before extraordinary item ..... 1.4% 5.7% 4.8%
Extraordinary item ......................... -- 0.4% --
----- ----- -----
Net income ........................... 1.4% 5.3% 4.8%
===== ===== =====
</TABLE>
1996 Compared to 1995
---------------------
Net Sales. Net sales reflect total sales less a provision for returns. Net
---------
sales increased $14,767,000, or 40.1% to $51,590,000 in 1996 from $36,823,000 in
1995. This increase was primarily attributable to a 33% increase in the number
of catalogs mailed, a 43% increase in the number of orders, and a 26% increase
in the number of active customer accounts.
Gross Profit. Cost of sales includes merchandise cost, freight and duties,
------------
warranty expense, and packaging and shipping supplies. Gross profit increased
$6,502,000, or 32.7% to $26,409,000 in 1996 from $19,907,000 in 1995. As a
percentage of net sales, gross profit declined to 51.2% in 1996 from 54.1% in
1995. The decrease in gross margin in 1996 was due to changes in product mix and
price promotions. The Company generally realizes a higher gross margin on sales
of its proprietary products than on sales of private label or brand name
products. Because the Company is responsible for the design, development and
manufacturing of its proprietary products, the Company is able to realize the
profit attributable to these activities. Due to the increase in the number of
branded products offered and the resulting change in sales mix, sales of
proprietary headset products as a percentage of total sales declined to 54% in
1996 from 59% in 1995, and the Company's gross margin declined accordingly.
Selling, General and Administrative Expenses. Selling, general and
--------------------------------------------
administrative expenses increased $7,227,000, or 42.4% to $24,277,000 in 1996
from $17,050,000 in 1995. As a percentage of net sales, these expenses increased
to 47.1% in 1996 from 46.3% in 1995, primarily due to the increase in catalog
mailings, the cost of paper and postage for catalogs, and marketing personnel
and related costs, particularly for increased customer
13
<PAGE>
care activities. The Company expects selling, general and administrative
expenses to increase in dollars, but decrease as a percentage of net sales, in
1997.*
Increases in postal rates and paper and printing costs increase the cost of
the Company's catalog mailings. While the Company experienced significant paper
price increases in 1995, paper costs did not materially change in 1996. Postal
rates were increased in January 1995 and the Postal Service introduced
requirements for sorting and bar coding of third class mail. These requirements
reduced postage expense in the second half of 1996, although not materially. In
the fourth quarter of 1996 the Company negotiated a new three year printing
contract at terms favorable to the Company. Should there be changes in the
current outlook, an increase in postal rates or higher than anticipated paper
and printing costs could have a material adverse impact on the Company's
financial position and results of operations to the extent that the Company is
unable to pass such increase directly on to customers by raising prices or to
offset such increase by implementing more efficient printing, mailing and
delivery systems.
Product Development Expenses. A key element of the Company's strategy is
----------------------------
the development of proprietary products. The Company expenses all its product
development costs as incurred. Product development expenses, excluding the
CellBase product, increased to $1,598,000 in 1996 from $1,326,000 in 1995, but
decreased as a percentage of net sales to 3.1% in 1996 from 3.6% in 1995. This
dollar increase was primarily attributable to development of several new and in
process products which were introduced in late 1996. The Company expects product
development expenses to continue to increase in dollars, but decrease as a
percentage of net sales, in 1997.*
CellBase Expenses. In December 1995, the Company discontinued the
-----------------
development and marketing of its CellBase product as a result of continuing
product development issues and the unexpected level of costs necessary to
develop an alternate distribution channel.
Interest Income. Interest income increased slightly to $733,000 in 1996
---------------
from $729,000 in 1995. Due to capital expenditures for hardware, software,
leasehold improvements and equipment in the Company's new facility , it is
expected interest income will decline in 1997.*
Interest Expense. Interest expense decreased to $13,000 in 1996 from
----------------
$150,000 in 1995. This decrease was due to elimination of interest on the
$2,000,000 of subordinated promissory notes issued in May 1994 and retired in
April 1995 with a portion of the proceeds from the initial public offering.
Provision (Credit) for Income Taxes. The provision for income taxes of
-----------------------------------
$493,000 in 1996 represents a combined federal and state effective tax rate of
40%. The credit for income taxes of $(2,112,000) in 1995 reflects the
recognition of operating loss carryforwards in accordance with SFAS No. 109 and
corresponding reduction of the valuation allowance. For further information
regarding the Company's tax provision (credit), see Notes to Financial
Statements.
Net Income. Net income decreased to $741,000 in 1996 from $1,952,000 in
----------
1995 for the reasons stipulated above.
Inflation. The Company does not believe that inflation has had a material
---------
effect on its results of operations in recent years. However, there can be no
assurance that the Company's business will not be affected by inflation in the
future, including higher than anticipated increases in paper and printing costs
and postal rates.
Quarterly and Seasonal Fluctuations. The Company has experienced in the
-----------------------------------
past and will experience in the future quarterly variations in net sales and net
income as a result of many factors, including the timing of catalog mailings;
catalog response rates; product mix; the level of selling, general and
administrative expenses; the timing
- --------------
* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
14
<PAGE>
and level of product development expenses; and the timing and success of new
product introductions by the Company or its competitors.* The Company's
planned operating expenditures are based on sales forecasts. If net sales are
below expectations in any given quarter, operating results would be materially
adversely affected.
To date, the Company's growth and changes in timing of catalog mailings have
tended to obscure the anticipated effects of seasonality, and may continue to do
so in the future. The Company expects that its business may exhibit some measure
of between quarters.
1995 Compared to 1994
---------------------
Net Sales. Net sales increased $10,607,000, or 40.5% to $36,823,000 in
---------
1995 from $26,216,000 in 1994. This increase was primarily attributable to a 56%
increase in the number of catalogs mailed, a 40% increase in the number of
orders, and a 42% increase in the number of active customer accounts.
Gross Profit. Cost of sales includes merchandise cost, freight and duties,
------------
warranty expense, and packaging and shipping supplies. Gross profit increased
$5,870,000, or 41.8% to $19,907,000 in 1995 from $14,037,000 in 1994. As a
percentage of net sales, gross profit increased to 54.1% in 1995 from 53.5% in
1994. The small increase in gross margin in 1995 was due to changes in product
mix. The Company generally realizes a higher gross margin on sales of its
proprietary products than on sales of private label or brand name products.
Because the Company is responsible for the design, development and manufacturing
of its proprietary products, the Company is able to realize the profit
attributable to these activities. Sales of proprietary headset products as a
percentage of total sales remained constant at 59% in 1995 and 1994.
Selling, General and Administrative Expenses. Selling, general and
--------------------------------------------
administrative expenses increased $5,715,000, or 50.4% to $17,050,000 in 1995
from $11,335,000 in 1994. As a percentage of net sales, these expenses increased
to 46.3% in 1995 from 43.2% in 1994, primarily due to the increase in catalog
mailings, increased in the cost of paper and postage for catalogs, and marketing
personnel and related costs, particularly for increased customer care
activities.
Product Development Expenses. The Company expenses all its product
----------------------------
development costs as incurred. Product development expenses, excluding the
CellBase product, increased to $1,326,000 in 1995 from $843,000 in 1994 and
increased as a percentage of net sales to 3.6% in 1995 from 3.2% in 1994. This
increase was primarily attributable to development of several new and in process
products which were introduced in 1996.
CellBase Expenses. In December 1995, the Company announced that it had
-----------------
discontinued the development and marketing of its CellBase product as a result
of continuing product development issues and the unexpected level of costs
necessary to develop an alternate distribution channel. The development of
CellBase, a universal car kit for hand held cellular telephones, was begun in
late 1993. Product and market development expenses in 1994 and 1995 were charged
to expense as incurred. Expenses related to discontinuing product and market
development were charged to expense in December 1995. The increase in CellBase
expense to $2,096,000 in 1995 from $523,000 in 1994 is primarily related to the
costs of discontinuing product and market development.
Interest Income. Interest income increased to $729,000 in 1995 from
---------------
$40,000 in 1994. This increase was due to interest earned on the net proceeds
from the Company's initial public offering in April 1995.
Interest Expense. Interest expense decreased to $150,000 in 1995 from
----------------
$235,000 in 1994. This decrease was due to elimination of interest on the
$2,000,000 of subordinated promissory notes issued in May 1994 and retired in
April 1995 with a portion of the proceeds from the initial public offering.
Other Income. In 1994 the Company produced catalogs for certain Regional
------------
Bell Operating Companies
- --------------
* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
15
<PAGE>
resulting in other income of $106,000 in 1994. The Company did not continue this
activity in 1995.
Provision (Credit) for Income Taxes. The credit for income taxes
-----------------------------------
$(2,112,000) in 1995 reflects the application of tax operating loss
carryforwards in accordance with SFAS No. 109 and corresponding reduction of the
valuation allowance. The provision for income taxes of $34,000 in 1994
represents federal and state alternative minimum taxes for the year.
Extraordinary Item. The extraordinary item of $137,000 in 1995 reflects
------------------
the net of tax write-off of the unamortized financing costs associated with the
subordinated promissory notes issued in May 1994 and retired in April 1995.
Net Income. Net income increased to $1,952,000 in 1995 from $1,249,000
----------
in 1994 for the reasons specified above.
LIQUIDITY AND CAPITAL RESOURCES
Hello Direct's primary sources of liquidity have been cash flow from
operations, proceeds from its initial public offering, venture capital equity
and debt financing, and borrowings under its revolving bank line of credit.
Cash provided by operating activities in 1996 was $1,179,000. This was the
result of $2,399,000 provided by operations including net income, depreciation
and amortization and other non-cash charges offset by $1,220,000 of changes in
operating assets and liabilities. Cash used by investing activities for 1996 was
$2,323,000 primarily related to the purchase of property and equipment of
$3,288,000 and an increase in notes receivable of $3,437,000 offset by a
$4,402,000 decrease in investments. Cash provided by financing activities was
$149,000 arising primarily from the issuance of common stock pursuant to the
employee stock purchase plan.
Capital expenditures of $3,288,000 in 1996 represented a significant
increase over the $1,241,000 and $785,000 expended in 1995 and 1994,
respectively. The capital expenditures in 1996 included investments in computer
hardware capacity and the associated software, investment in assets for the new
facility, to which the Company relocated on January 1, 1997, and tooling for
proprietary products. In 1997, the Company expects to continue to purchase
additional capital equipment for enhancements to its management information
systems and tooling for proprietary products; however, such purchases are not
expected to exceed 1996 levels.*
The Company believes that funds generated from operations, together with
available funds remaining from the net proceeds of its initial public offering,
will be sufficient to fund its needs for working capital for the foreseeable
future.* However, should the Company need additional funds, it has an unsecured
line of credit with a major bank for $5,000,000 at the bank's prime lending
rate. At present, the Company has not directly borrowed under this line,
however, the Company was contingently liable for issued and open letters of
credit aggregating approximately $963,000, at December 31, 1996.
- --------------
* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations due to factors
described in "Business" and in "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
16
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Financial Statements
Page
----
Independent Auditors' Report.............................................. 18
Balance Sheets at December 31, 1996 and 1995.............................. 19
Statements of Operations for the years ended December 31, 1996, 1995
and 1994................................................................ 20
Statements of Stockholders' Equity for the years ended December 31,
1996, 1995 and 1994..................................................... 21
Statements of Cash Flows for the years ended December 31, 1996, 1995
and 1994................................................................ 22
Notes to Financial Statements............................................. 23
17
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Hello Direct, Inc. :
We have audited the accompanying balance sheets of Hello Direct, Inc. as of
December 31, 1996 and 1995, and the related statements of operations,
stockholders' equity, and cash flows for each of the years in the three-year
period ended December 31, 1996. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Hello Direct, Inc. as of
December 31, 1996 and 1995, and the results of its operations and its cash flows
for each of the years in the three-year period ended December 31, 1996, in
conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
San Jose, California
January 24, 1997
18
<PAGE>
<TABLE>
<CAPTION>
HELLO DIRECT, INC.
Balance Sheets
December 31, 1996 and 1995
ASSETS
1996 1995
------------ -------------
<S> <C> <C>
Current assets:
Cash and cash equivalents ............................................................... $ 2,492,000 $ 3,487,000
Short-term investments .................................................................. 6,007,000 4,322,000
Trade accounts receivable, less allowance for returns and doubtful accounts
of $508,000 and $467,000 in 1996 and 1995, respectively ............................ 4,852,000 3,408,000
Inventories ............................................................................. 5,287,000 3,914,000
Deferred tax assets ..................................................................... 628,000 231,000
Other current assets .................................................................... 1,339,000 1,004,000
------------ ------------
Total current assets ............................................................... 20,605,000 16,366,000
Long-term investments .......................................................................... -- 6,147,000
Notes receivable ............................................................................... 3,497,000 --
Property and equipment, net .................................................................... 3,792,000 1,280,000
Long-term deferred tax assets .................................................................. 1,072,000 1,923,000
------------ ------------
Total assets ....................................................................... $ 28,966,000 $ 25,716,000
============ ============
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of capital lease obligation ............................................. $ 20,000 $ 26,000
Accounts payable ........................................................................ 3,839,000 1,593,000
Accrued expenses ........................................................................ 464,000 350,000
------------ ------------
Total current liabilities .......................................................... 4,323,000 1,969,000
Long-term portion of capital lease obligation .................................................. -- 20,000
------------ ------------
Total liabilities .................................................................. 4,323,000 1,989,000
Stockholders' equity:
Preferred stock, $0.001 par value; authorized 2,000,000, none issued or outstanding ..... -- --
Common stock; $0.001 par value; authorized 15,000,000; 5,055,000 issued and
5,007,000 outstanding in 1996; 4,974,000 issued and 4,926,000 outstanding in 1995 5,000 5,000
Additional paid-in capital .............................................................. 27,807,000 27,632,000
Accumulated deficit ..................................................................... (2,724,000) (3,465,000)
Less treasury stock, at cost - 48,000 shares ............................................ (445,000) (445,000)
------------ ------------
Total stockholders' equity ......................................................... 24,643,000 23,727,000
------------ ------------
Commitments and contingencies
Total liabilities and stockholders' equity ......................................... $ 28,966,000 $ 25,716,000
============ ============
</TABLE>
See accompanying notes to financial statements
19
<PAGE>
<TABLE>
<CAPTION>
HELLO DIRECT, INC.
Statements of Operations
Years Ended December 31, 1996, 1995 and 1994
1996 1995 1994
------------- ------------ ------------
<S> <C> <C> <C>
Net sales ....................................................... $ 51,590,000 $ 36,823,000 $ 26,216,000
Cost of goods sold .............................................. 25,181,000 16,916,000 12,179,000
------------ ------------ ------------
Gross profit ............................................... 26,409,000 19,907,000 14,037,000
Selling, general and administrative expenses .................... 24,277,000 17,050,000 11,335,000
Product development expenses .................................... 1,598,000 1,326,000 843,000
CellBase expenses ............................................... -- 2,096,000 523,000
------------ ------------ ------------
Operating income (loss) .................................... 534,000 (565,000) 1,336,000
Other income (expense):
Interest income ............................................. 733,000 729,000 40,000
Interest expense ............................................ (13,000) (150,000) (235,000)
Other, net .................................................. (20,000) (37,000) 142,000
------------ ------------ ------------
Income (loss) before income taxes .......................... 1,234,000 (23,000) 1,283,000
Provision (credit) for income taxes ............................. 493,000 (2,112,000) 34,000
------------ ------------ ------------
Income before extraordinary item ........................... 741,000 2,089,000 1,249,000
Extraordinary item - loss on extinguisment of debt, net of
tax benefit of $41,000 ...................................... -- 137,000 --
------------ ------------ ------------
Net income ................................................. $ 741,000 $ 1,952,000 $ 1,249,000
============ ============ ============
Per share amounts:
Income before extraordinary item ............................ $ 0.15 $ 0.46 $ 0.39
============ ============ ============
Net income .................................................. $ 0.15 $ 0.43 $ 0.39
============ ============ ============
Weighted average shares outstanding ......................... 5,043,000 4,525,000 3,204,000
============ ============ ============
</TABLE>
See accompanying notes to financial statements
20
<PAGE>
HELLO DIRECT
STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1996, 1995, AND 1994
<TABLE>
<CAPTION>
PREFERRED STOCK
SERIES I COMMON STOCK ADDITIONAL TOTAL
---------------------- -------------------- PAID-IN ACCUMULATED TREASURY STOCKHOLDERS'
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT STOCK EQUITY
---------- --------- ------- ----------- ----------- ----------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balances as of December 31,
1993 - $ - 105,000 $7,009,000 $ - $(6,666,000) $ - $ 343,000
Expiration of redemption
feature on Series I
preferred stock 2,339,000 405,000 - - - - - 405,000
Common stock issued
pursuant to employee
stock option plan - - 344,000 6,000 - - - 6,000
Issuance of warrant to
purchase common stock - - - 96,000 - - - 96,000
Common stock issued in
exchange for services - - 1,000 1,000 - - - 1,000
Net income - - - - - 1,249,000 - 1,249,000
----------- --------- --------- ---------- ----------- ----------- --------- -------------
Balances as of December 31,
1994 2,339,000 405,000 450,000 7,112,000 - (5,417,000) - 2,100,000
Declaration of par value - - - (7,111,000) 7,111,000 - - -
Sale of common stock, net - - 1,725,000 2,000 17,881,000 - - 17,883,000
Conversion of Series I (2,339,000) (405,000) 2,339,000 2,000 403,000 - - -
preferred stock to
common stock
Conversion of Series II - - 368,000 - 2,233,000 - - 2,233,000
preferred stock to
common stock
Conversion of warrant to
common stock - - 48,000 - - - - -
Common stock issued
pursuant to employee
stock purchase and
option plans - - 38,000 - - - - -
Common stock issued in
exchange for services - - 6,000 - 4,000 - - 4,000
Acquisition of treasury
stock - - (48,000) - - - (445,000) (445,000)
Net income - - - - - 1,952,000 - 1,952,000
----------- --------- --------- ---------- ----------- ----------- --------- -------------
Balances as of December
31, 1995 - - 4,926,000 5,000 27,632,000 (3,465,000) (445,000) 23,727,000
Common stock issued
pursuant to employee
stock purchase
and option plans - - 81,000 - 175,000 - - 175,000
Net income - - - - - 741,000 - 741,000
----------- --------- --------- ---------- ----------- ----------- --------- -------------
Balances as of December
31, 1996 - $ - 5,007,000 $ 5,000 $27,807,000 $(2,724,000) $(445,000) $ 24,643,000
=========== ========= ========= ========== =========== =========== ========= =============
</TABLE>
See accompanying notes to financial statements.
22
<PAGE>
<TABLE>
<CAPTION>
HELLO DIRECT, INC.
Statements of Cash Flows
Years Ended December 31, 1996, 1995 and 1994
1996 1995 1994
------------ ------------ -------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income ............................................................. $ 741,000 $ 1,952,000 $ 1,249,000
Adjustments to reconcile net income to net cash
provided by (used in) operating activities
Depreciation and amortization ....................................... 589,000 866,000 276,000
Deferred income taxes ............................................... 454,000 (2,154,000) --
Disposal of fixed assets ............................................ 187,000 -- --
Allowance for returns and doubtful accounts ......................... 41,000 107,000 48,000
Issuance of preferred stock Series II for product development and
common stock for services ....................................... -- 4,000 256,000
Changes in items affecting operations:
Trade accounts receivable ....................................... (1,485,000) (1,049,000) (1,327,000)
Inventories ..................................................... (1,373,000) (1,327,000) (1,363,000)
Other assets .................................................... (335,000) (371,000) (53,000)
Accounts payable and accrued expenses ........................... 2,360,000 (151,000) 618,000
------------ ------------ -----------
Net cash provided by (used in) operating activities .......... 1,179,000 (2,123,000) (296,000)
------------ ------------ -----------
Cash flows from investing activities:
Purchases of property and equipment .................................... (3,288,000) (1,241,000) (785,000)
Decrease (increase) in investments ..................................... 4,462,000 (10,469,000) --
Increase in notes receivable ........................................... (3,497,000) -- --
Other assets ........................................................... -- 118,000 (5,000)
------------ ------------ -----------
Net cash used in investing activities ........................ (2,323,000) (11,592,000) (790,000)
------------ ------------ -----------
Cash flows from financing activities:
Payments on capital lease obligations .................................. (26,000) (23,000) (17,000)
Proceeds from issuance of preferred stock, net ......................... -- -- 633,000
Proceeds from (payment of) note payable and warrant .................... -- (1,912,000) 2,000,000
Purchase of treasury stock ............................................. -- (445,000) --
Sale of common stock, net .............................................. 175,000 17,883,000 6,000
------------ ------------ -----------
Net cash provided by financing activities .................... 149,000 15,503,000 2,622,000
------------ ------------ -----------
Net increase (decrease) in cash and cash equivalents ........................ (995,000) 1,788,000 1,536,000
Cash and cash equivalents at beginning of period ............................ 3,487,000 1,699,000 163,000
------------ ------------ -----------
Cash and cash equivalents at end of period .................................. $ 2,492,000 $ 3,487,000 $1,699,000
============ ============ ===========
Supplemental disclosure of cash paid during year:
Interest ............................................................... $ 13,000 $ 169,000 $ 284,000
============ ============ ===========
Income taxes ........................................................... $ 16,000 $ 15,000 $ 34,000
============ ============ ===========
Noncash financing activities:
Conversion of notes payable to preferred stock ......................... $ -- $ -- $ 1,200,000
============ ============ ===========
Issuance of Series II preferred stock for product development, tooling
and license agreement .............................................. $ -- $ -- $ 400,000
============ ============ ===========
Conversion of preferred stock Series I and II
into common stock ................................................... $ -- $ 2,638,000 $ --
============ ============ ===========
Issuance of common stock in exchange for services ....................... $ -- $ 4,000 $ 1,000
============ ============ ===========
</TABLE>
See accompanying notes to financial statements
21
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996, 1995 AND 1994
(1) SUMMARY OF THE COMPANY AND SIGNIFICANT ACCOUNTING POLICIES
The Company
-----------
Hello Direct, Inc. (the "Company"), is a direct marketer of
telecommunications products to business end-users. The Company markets its
products by mailing its full color catalogs to current and prospective
customers.
Cash Equivalents
----------------
The Company considers all highly liquid investments purchased with an
original maturity date of three months or less to be cash equivalents. Cash
equivalents consist primarily of government agency obligations, commercial paper
and money market funds.
Investments
-----------
Short-term investments consist of high quality money market instruments,
primarily commercial paper with original maturities greater than three months
and less than twelve months.
Long-term investments consist of high quality money market instruments,
primarily commercial paper and government agency obligations, with a maturity
greater than twelve months and less than eighteen months. The Company classifies
its debt securities as held-to-maturity as the Company has the ability and the
intent to hold them until maturity. These investments are recorded at amortized
cost, which approximates fair value.
Impairment of Long-Lived Assets
- -------------------------------
In fiscal 1996, the Company adopted Statement of Financial Accounting
Standards (SFAS) No. 121, Accounting for the Impairment of Long-Lived Assets and
------------------------------------------------------
for Long-Lived Assets To Be Disposed Of. SFAS No. 121 requires that long-lived
- ---------------------------------------
assets and certain identifiable intangibles held and used by an entity be
reviewed for impairment whenever events or changes indicate that the carrying
amount of an asset may not be recoverable. Upon adoption, the Company identified
no long-lived assets or identifiable intangibles which were impaired.
Inventories
-----------
Inventories are stated at the lower of cost or market. Cost is determined
using the first-in, first-out method.
Catalog Costs
-------------
Catalog costs are deferred and amortized over the expected revenue stream,
generally nine months.
Property and Equipment
----------------------
Property and equipment are stated at cost. Assets under capital leases are
stated at the present value of
23
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
minimum lease payments at the inception of the lease. Depreciation is calculated
on the straight-line method over the estimated useful lives of the assets,
generally three to seven years. Amortization of assets under capital leases and
leasehold improvements is calculated using the straight-line method over the
lesser of the estimated useful life of the asset or the term of the respective
leases.
Revenue Recognition
-------------------
The Company recognizes revenue at the time of the product shipment.
Appropriate provisions are provided for customer returns and exchanges under the
Company's satisfaction guarantee.
Income Taxes
------------
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rate is recognized in income in the period that includes the
enactment date.
Net Income Per Share
--------------------
Net income per share amounts have been computed using the weighted average
number of common and common equivalent shares outstanding when dilutive. Common
equivalent shares includes convertible preferred stock, outstanding stock
options and warrants and have been calculated utilizing the as if converted
method and the treasury stock method, respectively, prescribed by Accounting
Principles Board Opinion No. 15. The difference between primary and fully
diluted earnings per share is not material for any of the periods presented, and
has therefore been excluded.
Pursuant to Securities and Exchange Commission Staff Accounting Bulletin No.
83, common and preferred stock issued for consideration below the assumed
initial public offering (the IPO) price and stock options and warrants granted
with exercise prices below the IPO price during the 12-month period preceding
the date of the initial filing of the Registration statement, have been included
in the calculation of common equivalent shares, using the treasury stock method,
as if they were outstanding for all periods presented.
Reverse Stock Split
-------------------
On April 7, 1995, the Company made an underwritten IPO of 1,725,000 shares
of Common Stock. For this IPO, the Company effected a reverse stock split of its
capital stock at a ratio of .5654:1 and all share information has been restated
to reflect this split.
Use of Estimates
----------------
The Company's management has made a number of estimates and assumptions
relating to the reporting of assets and liabilities and the disclosure of
contingent assets and liabilities to prepare these financial statements in
conformity with generally accepted accounting principles. Actual results could
differ from those estimates.
24
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
Stock Option and Stock Purchase Plan Accounting
-----------------------------------------------
Prior to January 1, 1996, the Company accounted for its stock option plan
and employee stock purchase plan in accordance with Accounting Principles Board
("APB") Opinion No. 25, Accounting for Stock Issued to Employees, together with
its related interpretations. As such, compensation expense would be recorded on
the date of grant only if the current market price of the underlying stock
exceeded the exercise price. On January 1, 1996 the Company adopted Statement of
Financial Accounting Standard ("SFAS") No. 123, Accounting for Stock-Based
Compensation, which permits the Company to recognize as expense over the vesting
period the fair value of all stock-based awards on the date of grant.
Alternatively, SFAS No. 123 allows the Company to continue to apply the
provisions of APB Opinion No. 25 and provide pro forma net income and pro forma
net income per share disclosures for stock option grants and stock purchase plan
purchases made in 1995 and future years as if the fair-value-based method
defined in SFAS No. 123 was applied. The Company has elected to continue to
apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure
provisions of SFAS No. 123.
Concentration of Credit Risk
----------------------------
The Company offers credit terms to customers after an evaluation of a
customer's financial condition. No one customer accounts for a substantial part
of sales or receivables. The Company estimates an allowance for doubtful
accounts based on the credit worthiness of its customers as well as general
economic conditions. Consequently, an adverse change in those factors could
effect the Company's estimate of its bad debts.
(2) OTHER CURRENT ASSETS
A summary of other current assets as of December 31, 1996 and 1995 follows:
1996 1995
---------- ----------
Deferred catalog costs $ 992,000 $ 874,000
Other 347,000 130,000
---------- ----------
$1,339,000 $1,004,000
========== ==========
(3) NOTE RECEIVABLE
The Company entered into a loan agreement to make available $5,000,000 to a
developer for the construction of the Company's new corporate facility. As of
December 31, 1996, the Company had loaned $3,437,000 under this loan agreement.
The borrowings under this loan agreement bear interest at 7.5%, principal and
interest are due in monthly installments of $53,000 over 12 years and the note
is secured by the building and land. The fair value of the loan as of December
31, 1996 is estimated to approximate its face value which was calculated by
discounting the future cash flows using the current interest rate at which a
similar loan would be made to the developer for the same remaining maturity.
The note contains a provision that if the developer defaults on the monthly
payment, the Company can offset the non-payment against their monthly rent
payment. The lease agreement contains the same type of provision for non-
payment.
In connection with the loan agreement, the Company entered into a 15 year
lease agreement. The present value of the total future minimum lease payments
under the lease is approximately $7,083,000 as of December 31, 1996, which
approximates the fair value of the lease using rates currently available to the
Company for a lease with similar terms.
25
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(4) PROPERTY AND EQUIPMENT
A summary of property and equipment as of December 31, 1996 and 1995
follows:
1996 1995
---------- ----------
Computer equipment and software $2,166,000 $1,083,000
Furniture and fixtures 1,693,000 695,000
Production tooling and equipment 1,250,000 468,000
---------- ----------
5,109,000 2,246,000
Less accumulated depreciation and amortization 1,317,000 966,000
---------- ----------
$3,792,000 $1,280,000
========== ==========
(5) ACCRUED EXPENSES
A summary of accrued expenses as of December 31, 1996 and 1995 follows:
Accrued compensation and related liabilities $299,000 $268,000
Other 165,000 82,000
-------- --------
$464,000 $350,000
======== ========
(6) BANK LINE OF CREDIT
As of December 31, 1996, the Company had a financing agreement with a bank
to provide a $5,000,000 revolving line of credit for both letters of credit and
working capital. As of December 31, 1996, $4,037,000 was available under the
agreement. Any borrowings bear interest at the bank's prime rate (8.25% as of
December 31, 1996). The line of credit will expire on May 15, 1997 and
outstanding borrowings are secured by substantially all of the Company's assets.
The agreement contains various financial covenants, including profitability and
financial ratios such as quick ratio and debt to net worth. As of December 31,
1996, the Company was contingently liable for issued and open letters of credit
aggregating approximately $963,000.
(7) LEASE COMMITMENTS
As of December 31, 1996, the Company was obligated under a noncancelable
operating lease agreement expiring in December 2011, for office and warehouse
space. A summary of future minimum lease payments follows:
YEAR ENDING DECEMBER 31,
------------------------
1997 $ 645,000
1998 645,000
1999 698,000
2000 698,000
2001 755,000
Thereafter 8,916,000
-----------
Total future minimum lease payments $12,357,000
===========
Rent expense aggregated approximately $245,000, $207,000, and $195,000 for
1996, 1995 and 1994, respectively.
26
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(8) CELLBASE EXPENSES
The development of CellBase, a universal car kit for hand held cellular
telephones, began in late 1993. In December 1995, the Company discontinued the
development and marketing of its CellBase product as a result of product
development issues and the level of costs necessary to develop an alternate
distribution channel. Costs related to discontinuing product and market
development were charged to expense in 1995.
(9) NOTE PAYABLE
On May 5, 1994, a $2,000,000 subordinated note was issued along with a
detachable warrant to purchase 136,000 shares of common stock at $7.07 per
share. The note was recorded at a discount reflecting the estimated fair value
of the warrant issued. Concurrent with the retirement of the note from proceeds
of the Company's IPO, the Company issued 48,000 shares of common stock under the
warrant and expensed the remaining unamortized financing costs as an
extraordinary item.
(10) STOCK OPTION AND EMPLOYEE STOCK PURCHASE PLANS
The Company applies APB Opinion No. 25 in accounting for its various stock
option plans and Employee Stock Purchase Plan (the "stock plans'). Accordingly,
no compensation cost has been recognized for the stock plans. However, if the
Company had determined compensation costs pursuant to SFAS No. 123 for its stock
plans, the Company's net income and net income per share would have been reduced
to the pro forma amounts indicated below for the years noted:
1996 1995
-------- ----------
Net income As reported $741,000 $1,952,000
Pro Forma $173,000 $1,706,000
Net income per share As reported $ 0.15 $ 0.43
Pro Forma $ 0.03 $ 0.38
Pro forma net income reflects only options granted in 1996 and 1995.
Therefore the full impact of calculating compensation cost for the Company's
stock plans under SFAS No. 123 is not reflected in the pro forma net income
amounts presented above as compensation cost is reflected over a stock options'
vesting period and compensation cost for options granted prior to January 1,
1995 is not considered.
1992 Stock Option Plan
----------------------
As of December 31, 1996, the Company had reserved 85,302 shares of common
stock for issuance under its 1992 Stock Option Plan (the Plan). Under the Plan,
the Company may grant either incentive stock options or nonqualified options to
employees, officers, directors, and consultants. Incentive stock options are
granted at prices not less than the fair market value of the Company's common
stock as determined by the Board of Directors on the grant date. Nonqualified
stock options are granted at prices not less than 85% of the fair market value
of the Company's common stock as determined by the Board of Directors, on the
grant date. Options normally vest ratably over 24-to-48 month periods and expire
no later than 10 years from the grant date.
1995 Employee Stock Purchase Plan
---------------------------------
The Company's 1995 Employee Stock Purchase Plan (the Purchase Plan) was
adopted by the Board of Directors in February 1995 and approved by the Company's
stockholders in March 1995. A total of 75,000 shares of
27
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
common stock are reserved for issuance under the Purchase Plan. The Purchase
Plan is administered by the Compensation Committee of the Board of Directors.
The Purchase Plan permits eligible employees, as defined, to purchase common
stock through payroll deductions, which may not exceed 15% of the employee's
base compensation. No employee may purchase more than $25,000 worth of stock in
any calendar year. The price of shares purchased under the Purchase Plan is 85%
of the lower of the fair market value of the common stock on (i) the first day
of the offering period; or (ii) the last day of the offering period. Employees
may end their participation in the offering at any time during the offering
period, and participation ends automatically on termination of employment with
the Company.
1995 Director Option Plan
-------------------------
The 1995 Director Option Plan (the Director Plan) was adopted by the
Company's Board of Directors in February 1995 and approved by the company's
stockholders in March 1995. A total of 75,000 shares of common stock are
reserved for issuance under the Director Plan. The Director Plan provides for
the grant of nonstatutory stock options to nonemployee directors of the Company
(Outside Directors) pursuant to a nondiscretionary grant mechanism. The exercise
price of options granted to Outside Directors must be 100% of the fair market
value of the Company's common stock on the date of grant. Options granted to the
Outside Director have a 10 year term, or shorter upon termination of their
tenure as a director.
1995 Stock Plan
---------------
The Company's 1995 Stock Plan (the Stock Plan) was adopted by the Board of
Directors in February 1995 and approved by the Company's stockholders in March
1995. 400,000 shares of Common Stock are reserved for issuance under the Stock
Plan. The Stock Plan provides for the grant to employees (including employee
directors and officers) of incentive stock options and for the grant of
nonstatutory stock options and the grant of sale of restricted stock to
employees and consultants. Non-employee directors are not eligible to
participate in the Stock Plan.
The exercise price per share of all incentive stock options granted under
the Stock Plan must be at least equal to fair market per share of Common Stock
on the date of grant. The exercise price per share of all nonstatutory stock
options and the price per share of restricted stock granted under the Option
Plan shall be determined by the administrator on the date of grant. Options
granted under the Stock Plan generally vest over four years and expire no later
than ten years from the grant date. Restricted stock generally vests over four
years.
28
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
The following table summarizes all option activity under the Company's stock
option plans during the three year period ended December 31, 1996:
<TABLE>
<CAPTION>
Weighted- Weighted- Weighted-Average
average average Options Exercise Price of
Options Exercise Grant Date Exercisable Options Exercisable
Outstanding Price Fair Value* at Year End at Year End
----------------- -------- -------------- ------------ -----------------
<S> <C> <C> <C> <C> <C>
December 31, 1993 479,780 $0.020
Granted 2,827 0.710
Exercised (344,085) 0.020
Canceled or expired (377) 0.020
---------------
December 31, 1994 138,145 0.034 42,779 $0.020
============ ==============
Granted 355,000 8.663 $3.957
============
Exercised (37,977) 0.020
Canceled or expired (3,557) 0.020
---------------
December 31, 1995 451,611 6.819 53,573 $2.182
============ ==============
Granted 196,065 6.054 $2.543
============
Exercised (49,312) 0.032
Canceled or expired (43,747) 8.792
===============
December 31, 1996 554,617 6.996 186,463 $6.816
=============== ============ ==============
</TABLE>
* Fair Value Assumptions:
Black-Scholes option-pricing model
Weighted-average Average Dividend
Risk Free Rate Expected Life Volitility Yield
----------------- -------------- ---------- ---------
1995 7.67% 3.03 58% 0%
1996 5.28% 2.83 58% 0%
The following table summarizes information about the Company's stock
options outstanding at December 31, 1996:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
----------------------------------------------- ----------------------------
Weighted-
Number average Weighted- Number Weighted-
Range of Outstanding Remaining average Exercisable average
Exercise Prices at 12/31/96 Contractual Life Exercise Price at 12/31/96 Exercise Price
- --------------- ------------ ---------------- --------------- ------------ -------------
<S> <C> <C> <C> <C> <C>
$0.02 - 0.71 47,302 6.15 $0.049 36,524 $0.042
4.13 - 5.50 73,565 9.80 4.343 8,315 4.336
6.13 - 8.00 216,500 8.78 7.532 46,750 7.976
8.50 -11.50 217,250 8.75 8.873 94,874 9.069
--------- -------- ------
$0.02 -11.50 554,617 8.68 $6.996 186,463 $6.816
========= ========
</TABLE>
(11) Benefit Plan
The Company has a 401(k) plan that covers all eligible employees as
defined. Employees can elect to defer from 1% to 15% of their compensation
limited to $9,500 in 1996. The Company may make discretionary contributions
and matching contributions. No such contributions were made by the Company
since inception of the plan.
29
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(12) INCOME TAXES
The components of income tax expense (credit) for the years ended
December 31, 1996, 1995 and 1994 follows:
1996 1995 1994
--------- ------------ ---------
Current:
Federal $ 15,000 $ - $ 26,000
State 24,000 - 8,000
--------- ------------ ---------
39,000 - 34,000
--------- ------------ ---------
Deferred:
Federal 481,000 (1,842,000) -
State (27,000) (270,000) -
--------- ------------ ---------
454,000 (2,112,000) -
--------- ------------ ---------
$ 493,000 $ (2,112,000) $ 34,000
========= ============ =========
A reconciliation between the provision for income taxes (credit) and the
amount computed by applying the statutory federal income tax rate to income
(loss) before income taxes for the years ended December 31, 1996, 1995, and
1994 follows:
<TABLE>
<CAPTION>
1996 1995 1994
---- ---- ----
<S> <C> <C> <C>
Statutory rate of 34% applied to pre-tax income (loss) $ 420,000 $ (8,000) $ 436,000
Change in valuation allowance - (1,997,000) -
Net operating loss benefit - - (436,000)
Federal and state alternative minimum tax - - 34,000
Other 73,000 (107,000) -
--------- ----------- -----------
$ 493,000 $(2,112,000) $ 34,000
========= =========== ===========
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and deferred tax liabilities as of December 31,
1996 and 1995 follows:
<TABLE>
<CAPTION>
1996 1995
---- ----
<S> <C> <C>
Deferred tax assets:
Net operating loss carryovers $1,034,000 $1,827,000
Accounts receivable principally due to allowances 244,000 172,000
Inventories principally due to costs inventoried for tax purposes 17,000 41,000
Tax credit carryovers 500,000 154,000
Other 35,000 74,000
---------- ----------
Deferred tax assets 1,830,000 2,268,000
Deferred tax liabilities:
State income tax (101,000) (92,000)
Other (29,000) (22,000)
---------- ----------
Deferred tax liabilities (130,000) (114,000)
---------- ----------
Net deferred tax assets $1,700,000 $2,154,000
========== ==========
</TABLE>
30
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
The net change in the valuation allowance for the year ended December
31, 1995 was a decrease of $1,997,000. Management believes that it is more
likely than not that the results of future operations will generate sufficient
income to realize the deferred tax assets, therefore no valuation allowance is
necessary for 1996 or 1995.
As of December 31, 1996, the Company had a net operating loss carryover
for federal and state income tax purposes of approximately $3,100,000 and
$100,000, respectively. The federal net operating losses expire from 2003 to
2011. The state net operating losses expire in 2000. The difference between the
federal and state loss carryforwards results primarily from a 50% limitation on
the state loss carryforwards and the deferral of research and development
expenditures for state purposes.
The Tax Reform Act of 1986 and the California conformity Act of 1987
impose substantial restrictions on the utilization of net operating loss
carryforwards in the event of an ownership change, as defined by section 382 of
the Internal Revenue Code of 1986, as amended . A portion of the federal loss
carryforward is subject to an annual limitation of approximately $150,000. Any
unused annual limitation can be carried forward and added to the succeeding
years annual limitation subject to the expiration dates discussed above.
31
<PAGE>
HELLO DIRECT, INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(13) QUARTERLY RESULTS (UNAUDITED)
The following table (presented in thousands, except per share data) sets
forth statement of operations data for each of the four quarters of the years
ended December 31, 1996 and December 31, 1995. The unaudited quarterly
information has been prepared on the same basis as the annual information
presented elsewhere herein and, in the Company's opinion, includes all
adjustments (consisting only of normal recurring entries) necessary for a fair
presentation of the information for the quarters presented. The operating
results for any quarter are not necessarily indicative of results for any future
period.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
--------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1996 1996 1996 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net sales $12,073 $12,382 $13,111 $14,024
Cost of goods sold 5,723 5,898 6,463 7,097
------- ------- ------- -------
Gross profit 6,350 6,484 6,648 6,927
Selling, general and administrative expenses 5,583 5,613 6,297 6,784
Product development expenses 535 540 313 210
------- ------- ------- -------
Operating income(loss) 232 331 38 (67)
Other income - net 193 178 197 132
------- ------- ------- -------
Income before income taxes 425 509 235 65
Income taxes 170 204 90 29
------- ------- ------- -------
Net income $ 255 $ 305 $ 145 $ 36
======= ======= ======= =======
$ 0.05 $ 0.06 $ 0.03 $ 0.01
======= ======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
--------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31,
1995 1995 1995 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net sales $8,746 $9,038 $9,303 $ 9,736
Cost of goods sold 3,952 4,042 4,306 4,616
------ ------ ------ -------
Gross profit 4,794 4,996 4,997 5,120
Selling, general and administrative expenses 3,547 4,074 4,583 4,846
Product development expenses 357 311 319 339
CellBase expenses 182 170 226 1,518
------ ------ ------ -------
Operating income (loss) 708 441 (131) (1,583)
Other income - net (48) 163 204 223
------ ------ ------ -------
Income before income taxes 660 604 73 (1,360)
Income taxes (150) (97) (758) (1,107)
------ ------ ------ -------
Income before extraordinary item 810 701 831 (253)
Extraordinary item - (137) - -
------ ------ ------ -------
Net income $ 810 $ 564 $ 831 $ (253)
====== ====== ====== =======
Per share amounts:
Income before extraordinary item $ 0.24 $ 0.15 $ 0.16 $ (0.05)
====== ====== ====== =======
Net income $ 0.24 $ 0.12 $ 0.16 $ (0.05)
====== ====== ====== =======
</TABLE>
32
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Most of the information required in Item 10 is hereby incorporated by
reference to the Company's Proxy Statement for the Annual Meeting of
Stockholders to be held April 30, 1997. See also "Executive Officers of the
Company" in Item 1 above in this Annual Report on Form 10-K.
ITEM 11. EXECUTIVE COMPENSATION
The section entitled "Compensation of Officers and Directors" of the
Company's Proxy Statement for the Annual Meeting of Stockholders to be held
April 30, 1997 is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The section entitled "Voting Securities" of the Company's Proxy
Statement for the Annual Meeting of Stockholders to be held April 30, 1997 is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The section entitled "Certain Business Relationships--Compensation
Committee Interlocks and Insider Participation" of the Company's Proxy Statement
for the Annual Meeting of Stockholders to be held April 30, 1997 is incorporated
herein by reference.
33
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this Report.
1. Financial Statement Schedule. For the three years ended December
31, 1996, Independent Auditors' Report on Financial Statement
Schedule and Consent.
Other schedules not included here are not applicable to the Company.
Schedule II - Valuation and Qualifying Accounts. A schedule of the
allowance for doubtful accounts and allowance for returns account is presented
below:
<TABLE>
<CAPTION>
Balance at Charged to Balance
beginning of costs and at end of
Description and year year expenses Deductions year
- -------------------- ------------ ---------- ---------- ---------
<S> <C> <C> <C> <C>
Allowance for Doubtful accounts:
December 31, 1996 $227,000 $ 428,000 $ 407,000 $248,000
============ ========== ========== ========
December 31, 1995 $110,000 $ 282,000 $ 165,000 $227,000
============ ========== ========== ========
December 31, 1994 $112,000 $ 170,000 $ 172,000 $110,000
============ ========== ========== ========
Allowance for returns:
December 31, 1996 $240,000 $6,856,000 $6,836,000 $260,000
============ ========== ========== ========
December 31, 1995 $250,000 $4,373,000 $4,383,000 $240,000
============ ========== ========== ========
December 31, 1994 $200,000 $3,153,000 $3,103,000 $250,000
============ ========== ========== ========
</TABLE>
(b) REPORTS ON FORM 8-K.
None.
(c) EXHIBITS:
3.1 Amended and Restated Certificate of Incorporation of Registrant.(1)
3.2 Bylaws of the Registrant.(1)
4.1 Specimen Common Stock Certificate.(1)
10.1 Form of Indemnification Agreement with directors and officers.(1)
10.3 1995 Stock Plan and forms of agreements thereunder.(1)
10.4 1995 Employee Stock Purchase Plan.(1)
10.5 1995 Director Option Plan.(1)
10.7 Lease Agreement by and between MPJ-A and Registrant, dated May 10,
1996.(2)
10.8 Promissory Note by and between MPJ-A and Registrant, dated May 10, 1996.
(2)
10.9 Construction Loan Agreement by and between MPJ-A and Registrant, dated
June 7, 1996.(2)
10.10 Line of Credit Agreement by and between Wells Fargo Bank and Registrant,
dated June 17, 1996.(2)
34
<PAGE>
11.1 Computation of net income per share.
23.1 Report on Financial Statement Schedule and Consent of Independent Auditors
24.1 Power of Attorney (see page 36).
27.1 Financial Data Schedule.
- -------------------
(1) Incorporated by reference to the corresponding exhibit previously filed as
an exhibit to Registrant's Registration Statement on Form S-1 filed April
6, 1995, as amended (File No. 33-89246).
(2) Incorporated by reference to the corresponding exhibit previously filed as
an exhibit to Registrant's Form 10-Q for the quarter ended June 30, 1996,
filed August 13, 1996.
35
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this Report on Form 10-K to be
signed on its behalf by the undersigned, thereunto duly authorized.
Dated: March 24, 1997
Hello Direct, Inc.
By: /s/ C. ALLEN BATTS
-------------------------
C. ALLEN BATTS
PRESIDENT AND CHIEF EXECUTIVE OFFICER
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints C. Allen Batts and Raymond E. Nystrom, jointly
and severally, his attorneys-in-fact, each with the power of substitution, for
him in any and all capacities, to sign any and all amendments to this Report on
Form 10-K, and to file the same, with exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, hereby
ratifying and confirming all that each of said attorneys-in-fact, or his
substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1934, this Report on
Form 10-K has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ C. Allen Batts President and Chief Executive Officer March 24, 1997
- ------------------------
(C. Allen Batts) (Principal Executive Officer)
/s/ Raymond E. Nystrom Vice President of Operations and March 24, 1997
- -------------------------
(Raymond E. Nystrom) Chief Financial Officer
(Principal Financial and Accounting Officer)
/s/ John B. Mumford Chairman of the Board and Director March 24, 1997
- -------------------------
(John B. Mumford)
/s/ John W. Combs Director March 24, 1997
- -------------------------
(John W. Combs)
/s/ Deepak Kamra Director March 24, 1997
- -------------------------
(Deepak Kamra)
/s/ William P. Sousa Director March 24, 1997
- -------------------------
(William P. Sousa)
</TABLE>
36
<PAGE>
Exhibit 11.1
HELLO DIRECT, INC.
COMPUTATION OF NET INCOME PER SHARE
FOR THE YEARS ENDED DECEMBER 31, 1996, 1995, AND 1994
<TABLE>
<CAPTION>
1996 1995 1994
---- ---- ----
<S> <C> <C> <C>
Income before extraordinary item $ 741,000 $2,089,000 $1,249,000
========== ========== ==========
Net income $ 741,000 $1,952,000 $1,249,000
========== ========== ==========
Weighted average common shares outstanding 4,982,000 4,387,000 191,000
Common stock equivalents:
Common stock options, utilizing treasury stock method
when dilutive 61,000 138,000 132,000
Preferred stock, utilizing as if converted method when
dilutive - - 2,535,000
Staff Accounting Bulletin No. 83 issuances and grants (1) - - 346,000
---------- ---------- ----------
Weighted average shares outstanding 5,043,000 4,525,000 3,204,000
========== ========== ==========
Per share amounts
Income before extraordinary item $ 0.015 $ 0.46 $ 0.39
========== ========== ==========
Net income $ 0.015 $ 0.43 $ 0.39
========== ========== ==========
</TABLE>
(1) Pursuant to Securities and Exchange Commission Staff Accounting Bulletin
No. 83, common and preferred stock issued for consideration below the
assumed initial public offering (IPO) price, and stock options and warrants
granted with exercise prices below the IPO price during the 12-month period
preceding the date of the initial filing of the Registration Statement have
been included in the calculation of common equivalent shares, using the
treasury stock method, as if they were outstanding for all periods
presented.
<PAGE>
Exhibit 23.1
Report on Financial Statement Schedule
and Consent of Independent Auditors
-----------------------------------
The Board of Directors and Stockholders
Hello Direct, Inc.
The audits referred to in our report dated January 24, 1997, included the
related financial statement schedule as of December 31, 1996, and for each of
the years in the three-year period ended December 31, 1996, included in the
annual report on Form 10-K. This financial statement schedule is the
responsibility of the Company's management. Our responsibility is to express an
opinion on this financial statement schedule based on our audits. In our
opinion, this financial statement schedule, when considered in relation to the
basic financial statements taken as a whole, presents fairly in all material
respects the information set forth therein.
We consent to incorporation by reference in the registration statement on Form
S-8 of Hello Direct, Inc. of our report dated January 24, 1997, relating to the
balance sheets of Hello Direct, Inc. as of December 31, 1996, and 1995, and the
related statements of operations, stockholders' equity, and cash flows for each
of the years in the three year period ended December 31, 1996, and the related
financial statement schedule, which report appears in this December 31, 1996,
annual report on Form 10-K of Hello Direct, Inc.
/s/ KPMG Peat Marwick LLP
San Jose, California
March 24, 1997
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 2,492
<SECURITIES> 6,007
<RECEIVABLES> 5,360
<ALLOWANCES> 508
<INVENTORY> 5,287
<CURRENT-ASSETS> 20,605
<PP&E> 5,109
<DEPRECIATION> 1,317
<TOTAL-ASSETS> 28,966
<CURRENT-LIABILITIES> 4,323
<BONDS> 0
0
0
<COMMON> 5
<OTHER-SE> 24,638
<TOTAL-LIABILITY-AND-EQUITY> 28,966
<SALES> 51,590
<TOTAL-REVENUES> 51,590
<CGS> 25,181
<TOTAL-COSTS> 25,875
<OTHER-EXPENSES> (713)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 13
<INCOME-PRETAX> 1,234
<INCOME-TAX> 493
<INCOME-CONTINUING> 741
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 741
<EPS-PRIMARY> .15
<EPS-DILUTED> .15
</TABLE>
