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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, 1999
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. [X]
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 3, 2000 was approximately $44,461,000. 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 3, 2000 was 5,262,641.
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 27, 2000 are incorporated by
reference into 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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<PAGE>
HELLO DIRECT, INC.
FORM 10-K
YEAR ENDED DECEMBER 31, 1999
TABLE OF CONTENTS
PART I
Item 1. Business
Factors Affecting Operating Results and Market Price of Stock
Item 2. Properties
Item 3. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
PART II
Item 5. Market for the Registrant's Common Equity and Related
Stockholder Matters
Item 6. Selected Financial Data
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Item 8. Financial Statements and Supplementary Data
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure
PART III
Item 10. Directors and Executive Officers of the Registrant
Item 11. Executive Compensation
Item 12. Security Ownership of Certain Beneficial Owners and
Management
Item 13. Certain Relationships and Related Transactions
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on
Form 8-K
<PAGE>
PART I
Item 1. Business
This Business section 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. Factors that might cause
such a difference include, but are not limited to, those discussed below
and in "Management's Discussion and Analysis of Financial Condition and
Results of Operations." The forward-looking statements contained herein
are made as of the date hereof, and the Company assumes no obligation to
update such forward-looking statements or to update reasons actual results
could differ materially from those anticipated in such forward-looking
statements.
Founded in 1987, Hello Direct, Inc. is a Delaware corporation with
principal executive offices located at 5893 Rue Ferrari, San Jose,
California 95138. On January 20, 1999, the Company acquired
PhoneZone.com, Inc. (PhoneZone), a privately held company. PhoneZone was
founded in 1996 and is a source of comparative research, analysis and
purchase information on telecom and networking solutions for small- and
medium-size companies. The terms "Hello Direct" and the "Company" refer
to Hello Direct, Inc. and subsidiary, unless the context indicates
otherwise. The Company's main telephone number is (408) 972-1990.
The Company is a leading developer and direct marketer of desktop
telephony products and equipment interface solutions to business end
users. The Company designs and sells its own products and also offers a
wide variety of products and accessories from other manufacturers. The
Company's primary marketing channels to its customers are direct mail
solicitation through catalogs, outbound telemarketing and the internet.
During 1999, the Company distributed 29.6 million catalogs and processed
330,000 orders from customers.
Products
The Company sells telecommunications products that are divided into
two main categories: Hello Direct Proprietary products, which amounted to
approximately 54% of net sales in 1999 and National Branded products,
which accounted for the remaining 46% of net sales.
Hello Direct Proprietary Products The Company's proprietary product
offerings include approximately 80 SKUs of commercial-grade headset
products including corded headset tops, amplifiers, cordless headset
systems, and a variety of related accessories. The Company's exclusive
headset brands include Ultralight(regTM), Solo(regTM), Executive(TM),
Cordless(TM)XLT, and Office Rover. Headsets are offered in multiple variants
to address user preferences for features, price, fit, and feel. Headset
products have been a key Hello Direct product category since 1988. Hello
Direct introduced the first commercial-grade wireless telephone headset by
incorporating 900 MHz technology, which provided the wireless headset with
greater range and sound clarity than earlier technology. Since then, the
Company has released a series of innovations to its corded and cordless headset
product offerings. The Company also expanded its proprietary product offering
to include an equipment-equipment interface solution - the LineStein(TM)
Digital Adapter, a revolutionary self-learning analog-to-digital phone line
adapter introduced in 1998. The LineStein Digital Adapter solves the problem
of incompatibility of telephone systems with much of the peripheral equipment
that can be connected to them.
The Company introduced the Solo II telephone headset, the Cordless XLT and
the LineStein Battery Module in 1999. The Solo II telephone headset, an
entirely new over-the-ear style headset features an ergonomically
contoured flexible backbone the user can customize for a comfortable fit.
Over-the-ear headsets are the choice of many telephone intensive
professionals dissatisfied with the headband or pad found on conventional
over-the-head headsets. The Cordless XLT is the next generation over-the-
head cordless headset featuring the Hello Direct-developed LearnIt(TM) smart
chip technology, which makes it simple to set up. The Cordless XLT weighs
in at just six ounces, including either the standard four-hour or an
optional nine-hour battery, and operates at the 900 MHz frequency for the
utmost in sound quality and range. The LineStein Battery Module is an
accessory product for the popular LineStein product which provides battery
power for situations where an AC power source is not available. For a
discussion of the risks related to the Company's dependence on headset
products, see "Factors Affecting Operating Results and Market Price of
Stock-We Depend on Headset Products." For a discussion of the risks
related to the Company's need to develop new products, see "Factors
Affecting Operating Results and Market Price of Stock-We Need to Develop
New Products Successfully."
National Branded Products Hello Direct's nationally branded product
line includes selected telephones, small business telephone systems (under
16 stations), audio and video conferencing equipment, wireless telephones,
telephone accessories, amplification products, and office communications
accessories. Leading brand names include Plantronics, AT&T, Nortel
Networks, Panasonic, Uniden, Vtech, Nextel, and Polycom.
Development of Proprietary Products
A key element of the Company's business strategy is to develop and
introduce 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 a primary source
of new product ideas and enhancements to current products. The Company
developed its wireless headset as a result of customer requests and has
continued to enhance this product, in response to customer feedback.
Similarly, based on customer feedback regarding existing corded headsets,
the Company has developed a proprietary family of corded headsets that
addresses specific customer preferences for features, price, comfort, fit,
and feel. In addition to individual customer contacts, Hello Direct
regularly conducts target customer 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.
Hello Direct concentrates its proprietary product development in two
critical interface areas: the human-equipment interface and the equipment-
equipment interface. Hello Direct's human-equipment interface leadership
is well known and respected. Through advancements in design and
engineering, Hello Direct headsets and amplifiers have continually been
leaders in comfort, ease of use, and sound quality. It has been estimated
that less than 10% of office workers in the United States use telephone
headsets. This percentage is expected to grow for two reasons: first, a
headset frees both hands to operate computer and fax equipment, take
notes, etc.; and second, headsets result in less neck strain than cradling
traditional handsets between neck and shoulder.
Providing solutions for equipment-equipment interface issues is not
as well understood, but just as important for Hello Direct customers. The
integration of telephony products such as headsets, teleconferencing
units, and modems with business telephone systems is a source of
significant confusion and frustration for end users and installers. Unless
properly configured, analog telephony products are incompatible with
digital phone systems such as PBXs. The problem is compounded as other
technologies, including computer, fax, and video, rely on connectivity
with telephone systems. For a discussion of the risks related to new
products and product enhancements, see "Factors Affecting Operating
Results and Market Price of Stock-We Need to Develop New Products
Successfully."
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 $2,599,000, $2,036,000, and
$1,592,000, in 1999, 1998 and 1997, respectively. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations."
LearnIt Telephone accessories such as headsets and external speaker
phones 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 proprietary telephone systems and
accessories. During 1993, the Company began development of LearnIt, which
uses two custom integrated circuits to interface automatically with the
protocols of a particular unit and thereby eliminate the need for manual
adjustments. LearnIt, which was initially incorporated into headset
products, improves product performance by enhancing sound quality and
makes products more user-friendly by simplifying the installation process.
LearnIt technology, incorporated into an adapter, can also be used to
provide access through the telephone handset jack to other analog
communications products such as teleconferencing units, facsimiles, and
modems. The SuperPro headset amplifier and the LineStein digital adapter
incorporate Hello Direct's patented LearnIt chip, which eliminates the
need for customers to reconfigure DIP switches manually each time their
telephone equipment must be interfaced with other telephone systems.
Instead, LearnIt "learns" the protocol of the other equipment and
automatically configures the interface to ensure optimum voice and data
transmission quality.
Sales, Marketing, and Customer Service
Inbound Sales
The Company relies 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 information on how
to place an order with the Company by phone, internet, fax, or mail.
The Company believes that prompt and courteous sales assistance and
customer service are essential in encouraging customers to make repeat
purchases from Hello Direct. The objective of the Company's inbound sales
organization, which is responsible for inbound sales, technical support,
customer service, and all sales-related order processing functions, is to
provide excellent sales assistance and customer service. The Company
currently has approximately 70 people in this organization.
The Hello Direct catalog, the Company's primary sales tool, is a direct
response catalog 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 customers
detailed information on specific products offered in the catalog.
In 1999, the Company's catalogs were 60 pages each. The Company
distributed 29.6 million catalogs during 1999, an increase of 5.5% from
the 28.0 million catalogs distributed in 1998. The Company publishes four
editions of its catalog annually. Each edition is produced in at least
four versions, featuring different covers and updated product offerings.
The Company's customers receive up to 13 catalogs per year.
The Company's full-color catalogs are produced in-house on advanced
desktop publishing equipment. Substantially all of the text, graphics,
and photos used in the catalog are completely digitized. Use of desktop
publishing equipment for page production has provided the Company
significant flexibility, speed, and cost savings over traditional catalog
production methods.
Outbound Telemarketing
The Company maintains a comprehensive database of customers' purchasing
history which is used by the direct marketing group to identify high-
volume and potential high-volume customers and to target special
promotions and product offerings. The corporate accounts sales force
(outbound telemarketing) cultivates customers targeted through this
program and provides them with a specific representative to serve their
individual needs. The Company currently has approximately 45 people in
this organization, which includes both the corporate account sales
associates as well as administrative assistants to serve these customers
and to identify potential target customers.
The Company's outbound telemarketing efforts target corporate accounts
with a focus on the small- to medium-sized call center environments. The
Company believes this is a rapidly growing market segment which typically
purchases higher-margin products in larger order sizes and does
significant repeat business. The Company believes its focused outbound
telemarketing efforts represent a cost-effective and complementary sales
channel to its catalog. Outbound telemarketing sales grew substantially
in 1999 and now contribute 44% of the Company's total revenue.
Internet
The Company offers its full catalog product offering on the internet
at its web site, www.hellodirect.com. The revenue generated from the
internet was approximately 11% of net sales in 1999, and both order volume
and average order value are increasing. The Company has been selling over
the internet since 1994, and its internet site has won numerous awards
from the direct marketing industry. The internet seamlessly complements
the Company's catalog and outbound telemarketing efforts and has been a
productive sales channel. The Company anticipates that the rate of growth
of its internet sales channel will continue to exceed that of its other
sales channels in 2000.
Procurement
The Company purchases most 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 is concentrated with a relatively small number of
manufacturers. However, the Company believes that alternate sources of
supply are available for almost every third party product it carries.
Sales of brand name products represented approximately 46% of net sales in
1999. The failure of an existing significant supplier to provide products
would have a material adverse affect on the Company's operating results
until the Company 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 protection for on-hand inventory should a vendor
subsequently lower product prices. Under most of the Company's purchase
agreements, the Company can return unsold inventory to its suppliers.
All 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 in order to qualify to
manufacture Hello Direct products. The Company's strategy is to continue
using independent contractors to meet its manufacturing requirements. For
a discussion of the risks related to its reliance on manufacturers, see
"Factors Affecting Operating Results and Market Price of Stock-We Rely on
Sole or Limited Source Suppliers and Foreign Manufacturing."
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 and web site 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 and web site.
The Company's quality assurance personnel work with the Company's product
development team to assure all new proprietary products meet the Company's
quality standards.
Management Information and Call Processing Systems
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 sales,
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
network servers and computers, which facilitates data gathering/sharing
and provides an automated office environment. Hello Direct has
standardized its server environment on Compaq Proliant, Microsoft NT, and
Microsoft SQL. These standards create a robust, best-practices
infrastructure to support the Company's business applications and
processes. In 1998 Company purchased new sales, support and customer
interaction software and during 1999 implemented the sales and support
functions of this software.
The Company uses an Aspect 200-R Automated Call Distributor, which
includes a fully redundant hardware and software platform and desktop
software tools to provide each supervisor with accurate call management
information.
The Company's success depends in part on the accuracy and proper use 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.
Competition
The market for customer-premise telecommunications products is highly
competitive. The Company competes with a variety of traditional dealers,
distributors, 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, marketing, and other resources than the Company. There
can be no assurance that the Company will 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, outbound telemarketing, and
the internet, there can be no assurance that the Company will be able to
compete successfully in the future in these direct marketing channels,
which may attract new market entrants, or in other channels that the
Company may enter or that may be developed for telecommunications products
for such customers. See "Factors Affecting Operating Results and Market
Price of Stock - Our Business is Highly Competitive."
Sales of the Company's proprietary commercial-grade headset products
accounted for approximately 50% of the Company's total net sales for 1999.
Hello Direct faces competition in this product category from a variety of
sources. The Company believes Plantronics, Inc. is the leading
manufacturer of telephone headset products. The Company currently sells a
comprehensive assortment of Plantronics products through its telemarketing
group and offers a full range of Plantronics products in its catalog. 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 high volume headset users, such as large call
centers, and devote little or no resources to marketing to small- and
medium-sized businesses. Hello Direct, through its outbound telemarketing
efforts, markets to these relatively underserved small- and medium-sized
businesses. Certain office and computer products dealers also sell
headset products which are primarily lower quality 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 focusing on a selection of
superior, high quality, value added national brand products that may be
difficult to find elsewhere or are sufficiently early in their product
life cycles 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 and high quality value added products, the Company does not
compete for commodity sales.
In the telephone systems product category, Hello Direct faces
competition primarily from dealers of specialty systems which sell
telephone systems using direct sales forces. 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 telephone 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 contractual provisions to protect its
proprietary rights. As part of its confidentiality procedures, the Company
generally enters into non-disclosure agreements with its employees,
contractors, consultants, distributors, and corporate partners, and limits
access to and distribution of its software, documentation, and other
proprietary information. Despite these precautions, it may be possible for
a third party to copy or otherwise obtain and use the Company's products
or technology independently. In addition, effective protection of
intellectual property rights may be unavailable or limited in certain
foreign countries.
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. See "Factors Affecting Operating Results and Market
Price of Stock - We Face Risks Associated with Intellectual Property
Rights."
Personnel
The Company had 248 full time and part time employees at March 1, 2000.
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, a
401(k) salary deferral plan, and an employee profit-sharing 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
Name of Executive Officer Age Positions with the Company
- ------------------------- ---- -----------------------------------
E. Alexander Glover 56 President, Chief Executive Officer
and Director
Ronald J. Becht, Jr. 44 Vice President of Product Marketing
Ruth A. Grouell 53 Vice President of Organizational
Development
Dennis P. Waldera 51 Vice President of Direct Marketing
Dean Witter III 52 Chief Financial Officer and Secretary
Michael S. Young 49 Vice President, Chief Information Officer
and Chief E-Commerce Officer
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:
E. Alexander Glover was appointed President in June, 1997 and Chief
Executive Officer of the Company in December, 1997 after joining 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"), the largest privately held toy and sporting goods
company in the United States. 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 a B.A. from Harvard and an M.B.A. from Stanford
University.
Ronald J. Becht, Jr. joined the Company in 1993. 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
in various marketing positions with Inmac Corp., a direct marketer of
computer hardware and software products, most recently as Director of
Worldwide Marketing. Mr. Becht holds a B.S. in Business from the
University of San Diego.
Ruth A. Grouell joined the Company in 1998. From 1995 to 1997, she was
Director of Human Resources for Geron Corporation, a biotech company.
From 1993 to 1995, she managed the training and development department for
Syntex Pharmaceuticals. From 1988 to 1991, she led efforts to re-engineer
business processes at Ford Aerospace. Earlier, she was an organizational
development consultant for the U.S. Army in Europe. Ms. Grouell holds a
B.A. in English from the University of Iowa and an M.S. in Counseling from
San Diego State University.
Dennis P. Waldera joined the Company in 1996. From 1983 through early
1996, Mr. Waldera held various positions, lastly Executive Vice President
and 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 a B.B.A. from the University of Wisconsin and an M.B.A.
from Northwestern University.
Dean ("Kip") Witter III was appointed interim Chief Financial Officer
and Secretary of the Company in February, 1999. Mr. Witter is a senior
consultant in The Brenner Group, Inc., an interim management and financial
advisory services firm. He had previously served as acting CFO for
Telcontar, GenOA Corporation, and BusinessBots, Inc., before which he was
a principal in two start ups. From 1976 until 1989 Mr. Witter worked at
Amdahl Corporation, where he rose to the position of Vice President and
Treasurer. Mr. Witter holds a B.A. from Harvard and an M.B.A. from
Stanford University.
Michael S. Young joined the Company in 1998. From 1994 to 1998, he was
Chief Operating Officer for Odwalla, Inc., a leading retailer of fresh
squeezed juices. From 1991 to 1994, he served as Vice President of
Strategic Information Systems at Kransco Group Companies, the largest
privately held toy and sporting goods firm in the U.S. From 1978 to 1991,
he held various information systems positions with Colgate-Palmolive
Company.
Factors Affecting Operating Results and Market Price of Stock
Hello Direct operates in a rapidly changing environment that involves a
number of uncertainties, some of which are beyond our control. In
addition to the uncertainties described elsewhere in this report, these
uncertainties include:
Our Future Operating Results Are Uncertain.
We have grown rapidly and achieved profitability as a result of a
substantial increase in catalog mailings, strong growth in the number of
active customers, and the success of our product offering, particularly of
our proprietary headset products. We may not be able to maintain
profitability on a quarterly or annual basis or continue to increase our
net sales. Our net sales will continue to grow only if we are able to,
among other things, increase sales to existing customers, grow our
customer base, and expand our product offering. Our operating results
could be harmed if we were to experience lower than anticipated catalog
response rates from existing and prospective customers, higher than
anticipated product return rates, or higher than anticipated increases in
paper and postal costs. We may not be able to continue to achieve growth
in net sales, and any such growth may not offset increases in operating
expenses. Our operating results could also be harmed by delays in new
product introductions, poor product selection, and market acceptance of
new products or increased competition. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
Our Quarterly Operating Results Are Likely to Fluctuate.
We have experienced and will experience quarterly variations in net
sales and net income as a result of many factors, including the following:
o the number and timing of catalog mailings
o catalog response rates
o product mix
o the level of selling, general and administrative expenses
o the timing and level of product development expenses
o the timing and success of our and our competitors' new product
introductions
We plan our operating expenditures based on sales forecasts. If our
net sales are below our expectations in any given quarter, our operating
results will suffer. Due to the foregoing factors, in some future quarter
our operating results may be below the expectations of public market
analysts and investors. In such event, the price of our Common Stock
would likely suffer.
We Need to Develop New Products Successfully.
The market for telecommunications products is generally characterized
by rapidly changing technology that can render existing products obsolete
and unmarketable. We believe our current and future success will depend
on our ability to identify, develop, or source and successfully introduce
and market, in a timely manner, enhancements to our existing products and
new products that respond effectively to technological change. To
accomplish this, we intend to consult with our direct customer contacts
and use our product development capabilities. We have experienced delays
in the past in introducing certain of our products and could encounter
similar technical difficulties in the future that could result in delayed
product introductions or expensive recalls. We may not successfully
anticipate technological changes or select and develop new and enhanced
products on a timely basis. In addition, if we are able to develop or
source any products, these products may not gain market acceptance.
We Depend on Headset Products.
We derived more than 50% of our net sales in 1999 from our proprietary
telephone headset products. These products have higher gross margins than
our other products. We anticipate that these headset products will
continue to account for a significant portion of our net sales and profits
in the foreseeable future. If sales of our telephone headset products
were to decline significantly, or the gross margins on such products were
to decrease significantly, as a result of competitive pressures or
technological obsolescence, our operating results would be harmed.
We Rely on Sole or Limited Source Suppliers and Foreign Manufacturing.
A relatively small number of manufacturers produce a substantial
portion of our proprietary products. Only three sources manufacture most
of these products, including all of our headset products. To date, we
have been able to obtain adequate supplies of these products, although on
occasion we have incurred additional delivery costs to air ship products
to obtain inventory in a timely manner. If we are unable in the future to
obtain sufficient quantities of sole or limited source products, or to
develop alternative sources, shortages of such products would occur. This
would harm our net sales and operating results.
Seo Won K-Tec, Inc., with operations in South Korea and the
Philippines, and Tru-Tech Electronics, located in Malaysia, manufacture a
substantial portion of our proprietary products to our specifications.
Each of these manufacturers is also one of our substantial suppliers.
Products made by these manufacturers represented more than 50% of our net
sales in 1999. We have contracts of varying terms with these
manufacturing sources, and we compete with other companies for production
facilities. Although we believe that we have established close
relationships with these foreign manufacturing sources, our future success
will depend in large measure upon our ability to maintain such
relationships.
In addition, we face a number of risks inherent in doing business in
international markets, including, among others:
o unexpected changes in regulatory requirements
o potentially adverse tax consequences
o tariffs and other trade barriers
o fluctuations in currency exchange rates
o political unrest
o disruptions or delays in shipments
o changes in economic conditions in countries in which our
manufacturing sources are located
We cannot predict the effect that such factors will have on our
business arrangements with foreign manufacturing sources. If any of these
factors were to render the conduct of business in a particular country
undesirable or impractical, or if our current foreign manufacturing
sources were to cease doing business with us for any reason, our business
and operating results could suffer.
Our Business is Highly Competitive.
The market for customer-premise telecommunications products is highly
competitive. We compete with a variety of traditional dealers and
retailers, including catalog companies, electronics specialty stores,
office products and computer superstores. A variety of external and
internal factors could harm our ability to compete, including:
o the functions, performance, price and reliability of the products
offered by us and our competitors
o the timing and success of our and our competitors' new product
development efforts
o the effectiveness of our and our competitors' marketing efforts
Certain of our competitors have greater financial, technical, sales,
marketing, and other resources than we have. We may not be able to
compete effectively against existing competitors or against new
competitors that may enter the market. In addition, while we currently do
not know of any competitor specializing in distributing a broad line of
telecommunications products directly to business end users via catalog,
outbound telemarketing and the internet, we may not be able to compete
successfully in the future in these direct marketing channels, which may
attract new market entrants, or in other channels that we may enter or
that may be developed for the sale of telecommunications products. See
"Business - Competition."
Potential Acquisitions Involve Risks.
We have acquired complementary technologies or businesses in the past
and may or may not do so in the future. Future acquisitions may involve
potentially dilutive issuances of stock, the incurrence of additional
debt, and contingent liabilities or large one time write-offs and
amortization expenses related to goodwill and other intangible assets.
Any of these factors could harm our results of operations or stock price.
Acquisitions involve numerous risks, including:
o difficulties in assimilating the operations, products, technology,
information systems, and personnel of the acquired company
o diverting management's attention from other business concerns
o impairing relationships with our customers
o being unable to maintain uniform standards, controls, procedures
and policies
o entering markets in which we have no direct prior experience
o losing key employees of the acquired company
Our Internet Sales Rely on the Continued Growth in Electronic
Commerce and Internet Infrastructure
Development.
Sales of telecommunications products using the internet currently
represent only 11% of our overall telecommunications product sales.
However, our future growth may depend on the growing use and acceptance of
the internet as an effective medium of commerce by end users. Rapid
growth in the use of and interest in the internet and other online
services is a recent development. No one can be certain that acceptance
and use of the internet and other online services will continue to develop
or that a sufficiently broad base of consumers will adopt, and continue to
use, the internet and other online services as a medium of commerce. We
will be able to achieve increased sales over the internet only if
purchasers of telecommunications products who have historically used
traditional means of commerce to purchase these products view the internet
as a preferred alternative. If our internet efforts are to be successful,
these purchasers must accept and use the internet as a means of purchasing
telecommunications products, and we cannot predict the rate at which
purchasers will do so.
The internet may fail as a commercial marketplace for a number of
reasons, including potentially inadequate development of the necessary
network infrastructure, or delayed development of enabling technologies
and performance improvements. If the number of internet users or their
use of internet resources continues to grow, it may overwhelm the existing
internet infrastructure. Delays in the development or adoption of new
standards and protocols required to handle increased levels of internet
activity or increased governmental regulation could also have a similar
effect. In addition, growth in internet usage that is not matched by
comparable growth in the infrastructure supporting internet usage could
result in slower response times or adversely affect usage of the internet.
Costs of Catalog Mailing, Paper, and Printing May Increase.
Increases in postal rates and paper and printing costs increase the
cost of our catalog mailings. An increase in postal rates or higher than
anticipated paper and printing costs could harm our financial position and
results of operations to the extent that we are unable to pass such
increase directly on to customers by raising prices or offset such
increase by implementing more efficient printing, mailing and delivery
systems. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations."
We Face Risks Associated with Managing a Growing Business.
We have experienced growth in our operations that has placed demands on
our administrative, operational, and financial resources. The growth of
our customer base and changes in our product offerings have placed, and we
expect will continue to place, a significant strain on our management and
operations, including on our product development, sales, customer service,
and finance and administration staffs. Our future performance will depend
in part on our ability to successfully implement enhancements to our
management information systems and to adapt those systems, as necessary,
to respond to changes in our business. If we are unable to successfully
integrate and train new hires, or if we are unable to respond to and
manage changing business conditions, our business could suffer.
We Rely on a Single Operating Facility.
We house our telemarketing, customer service, and distribution
functions in a single facility in San Jose, California. We have taken
precautions to protect ourselves from events that could interrupt order
fulfillment and customer service, such as storing computer backup data
offsite and implementing backup power sources. Notwithstanding these
precautions, a fire, flood, earthquake, or other disaster affecting our
facility may disable these functions. Any significant damage to this
facility would harm our business.
We Rely on Key Personnel.
Our future success depends to a significant extent on the efforts of
our key management personnel. The loss of the services of any of these
individuals could harm our business. Competition for employees with
technical, management, sales, customer service, and other skills is
intense. Our failure to retain and attract additional qualified employees
could harm our business.
We Face Risks Relating to State Sales Tax Collection.
We presently collect retail occupation tax, commonly referred to as
sales tax, or other similar tax, only on sales of products to residents of
the State of California. Several states have sought to impose on direct
marketers the burden of collecting state sales taxes on the sale of
products shipped to residents of those states. The United States Supreme
Court has held that it is unconstitutional for a state to impose tax
collection obligations on an out-of-state mail order company whose only
contacts with the taxing state are the distribution of catalogs and other
advertisement materials through the mail and whose subsequent delivery of
purchased goods is by United States mail or interstate common carriers.
In the event of a change in present law, which we have no reason to
expect, the imposition of a tax collection obligation on us by states into
which we ship products may result in additional administrative expenses to
us and price increases to the customer, which could harm our business.
We Face Government Regulations Relating to Mailing Lists.
We are seeking to expand our in-house list of customers and potential
customers by continually renting appropriate mailing lists and sending our
catalogs to prospects obtained from these lists. In the event that the
federal or state governments enact privacy legislation resulting in the
increased regulation of mailing lists, we may be unable to enhance and
expand our customer list. In such event, we could also experience
increased costs in complying with potentially burdensome regulations
concerning the solicitation of consents to keep or add customer names to
our mailing lists.
We Face Risks Associated with Intellectual Property Rights.
We rely on a combination of patent, copyright, trademark, and trade
secret laws and contractual provisions to protect our proprietary rights
in our products. As part of our confidentiality procedures, we generally
enter into non-disclosure agreements with our employees, contractors,
consultants, distributors, and corporate partners, and limit access to and
distribution of our software, documentation, and other proprietary
information. Despite these precautions, a third party may possibly copy
or otherwise obtain and use our products or technology independently. In
addition, effective protection of intellectual property rights may be
unavailable or limited in certain foreign countries.
No material claims are currently pending regarding the infringement of
the proprietary rights of third parties by our products, trademarks, or
other proprietary rights. However, we may receive, in the future,
communications from third parties asserting that our products infringe, or
may infringe, the proprietary rights of third parties. In the event of
litigation to determine the validity of any third-party claims, such
litigation, whether or not determined in our favor, could result in
significant expense to us and divert the efforts of our technical and
management personnel from productive tasks. In the event of an adverse
ruling in such litigation, we 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.
We may not be able to obtain a license for the disputed third-party
technology on reasonable commercial terms or at all. If someone asserts a
successful claim against us and we are unable to develop or license a
substitute technology, our business would suffer.
We May Face Product Liability Claims.
Our sale of proprietary and other products entails the risk of product
liability claims, although we have not experienced any material claims to
date. While we believe that our product liability insurance coverage is
currently adequate, this coverage is limited. We may be unable to
maintain this insurance in the future at a reasonable cost or in amounts
sufficient to protect us against losses due to liability. A successful
product liability claim brought against us in excess of present insurance
coverage could harm our business.
Our Stock Price Is Volatile.
The market price of our Common Stock has been volatile and may be
significantly affected by a number of factors, including:
o actual or anticipated fluctuations in our operating results
o announcements of technological innovations or new products by us or
our competitors
o developments with respect to intellectual property and proprietary
rights
o conditions and trends in the telecommunications and telephone
headset industries
o changes in earnings estimates or recommendations by securities
analysts
o general market conditions
In addition, the stock market has from time to time experienced
significant price and volume fluctuations that have affected the market
prices for the common stocks of emerging growth companies and have often
been unrelated to the operating performance of particular companies.
These broad market fluctuations may also harm the market price of our
Common Stock.
Item 2. Properties
The Company occupies a 76,800 square foot facility in San Jose,
California under a 15-year lease, expiring December 31, 2011.
Substantially all operations including sales, technical support,
marketing, engineering, distribution, warehousing, and administration are
located in this facility. The Company leases an 1,800 square foot
facility in San Francisco, California under a 3-year lease expiring in
March 31, 2002. The Company maintains its e-commerce management group in
the San Francisco facility. The Company anticipates that these facilities
will meet growth needs for the foreseeable future. See "Factors Affecting
Operating Results and Market Price of Stock - We Rely on a Single
Operating Facility."
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.
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
--------- ---------
1998:
First quarter ended March 31, 1998...................... $9.25 $6.06
Second quarter ended June 30, 1998...................... 12.06 5.63
Third quarter ended September 30, 1998.................. 9.25 4.56
Fourth quarter ended December 31, 1998.................. 10.06 4.25
1999:
First quarter ended March 31, 1999...................... $15.31 $7.75
Second quarter ended June 30, 1999...................... 11.69 7.88
Third quarter ended September 30, 1999.................. 10.31 7.56
Fourth quarter ended December 31, 1999.................. 15.50 7.88
At March 17, 2000, the Company had 72 holders of record of its Common
Stock. The Company estimates the number of beneficial owners of the
Company's Common Stock at March 17, 2000, to be 3,500.
The market price of the Company's Common Stock has been volatile.
For a discussion of the factors affecting the Company's stock price, see
"Factors Affecting Operating Results and Market Price of Stock-Our Stock
Price is Volatile."
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.
Item 6. Selected Financial Data (in thousands except per share data):
<TABLE>
<CAPTION>
Year Ended December 31,
---------- ----------------------------------------------
1999 1998 1997 1996 1995
---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
Statement of Operations Data:
Net sales ................................... 81,052 $68,731 $63,846 $51,590 $36,823
Cost of goods sold .......................... 38,190 31,772 30,759 25,181 16,916
---------- ---------- ---------- ---------- ----------
Gross profit .......................... 42,862 36,959 33,087 26,409 19,907
Selling, general and administrative
expenses ................................. 34,904 31,294 29,234 24,277 17,050
Product development expenses ................ 2,599 2,036 1,592 1,598 1,326
CellBase expenses ........................... -- -- -- -- 2,096
---------- ---------- ---------- ---------- ----------
Operating income (loss) ............... 5,359 3,629 2,261 534 (565)
Interest income (expense), net .............. 637 799 667 720 579
Other income (expense), net ................. 167 17 32 (20) (37)
---------- ---------- ---------- ---------- ----------
Income (loss) before income taxes ..... 6,163 4,445 2,960 1,234 (23)
Provision (credit) for income taxes ......... 2,281 1,776 1,184 493 (2,112)
---------- ---------- ---------- ---------- ----------
Income before extraordinary item ...... 3,882 2,669 1,776 741 2,089
Extraordinary item .......................... -- -- -- -- 137
---------- ---------- ---------- ---------- ----------
Net income (1) ........................ $3,882 $2,669 $1,776 $741 $1,952
========== ========== ========== ========== ==========
Basic per share amounts:
Income before extraordinary item ........... $0.75 $0.52 $0.35 $0.15 $0.48
========== ========== ========== ========== ==========
Net income ................................. $0.75 $0.52 $0.35 $0.15 $0.44
========== ========== ========== ========== ==========
Weighted average common shares and
equivalents ............................. 5,167 5,108 5,036 4,982 4,387
========== ========== ========== ========== ==========
Diluted per share amounts:
Income before extraordinary item ........... $0.73 $0.51 $0.35 $0.15 $0.46
========== ========== ========== ========== ==========
Net income ................................. $0.73 $0.51 $0.35 $0.15 $0.43
========== ========== ========== ========== ==========
Weighted average common shares and
equivalents(2) .......................... 5,352 5,199 5,117 5,043 4,525
========== ========== ========== ========== ==========
Balance Sheet Data:
Working capital ............................. $18,116 $19,233 $17,271 $16,282 $14,397
Total assets ................................ $42,576 $35,021 $31,832 $28,966 $25,716
Long-term debt and capital lease obligations $ -- $ -- $ -- $ -- $20
Stockholders' equity ........................ $33,211 $29,354 $26,657 $24,643 $23,727
</TABLE>
______
(1) Results in 1995 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), and basic net income (loss)
per share would have been $(0.03).
<PAGE>
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
This Management's Discussion and Analysis section 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. Factors that might cause such a difference include, but are
not limited to, those discussed below and in "Business." The forward-
looking statements contained herein are made as of the date hereof, and
the Company assumes no obligation to update such forward-looking
statements or to update reasons actual results could differ materially
from those anticipated in such forward-looking statements.
Consolidated Results of Operations
The following table sets forth consolidated statement of operations
data as a percentage of net sales for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Net sales ................................ 100.0% 100.0% 100.0%
Cost of goods sold ....................... 47.1% 46.2% 48.2%
------------ ------------ ------------
Gross profit ........................ 52.9% 53.8% 51.8%
Selling, general and administrative
expenses ............................. 43.1% 45.5% 45.8%
Product development expenses ............. 3.2% 3.0% 2.5%
------------ ------------ ------------
Operating income .................... 6.6% 5.3% 3.5%
Other income, net ........................ 1.0% 1.2% 1.1%
------------ ------------ ------------
Income before income taxes .......... 7.6% 6.5% 4.6%
Provision for income taxes ............... 2.8% 2.6% 1.8%
------------ ------------ ------------
Net income .......................... 4.8% 3.9% 2.8%
============ ============ ============
</TABLE>
1999 Compared to 1998
Net Sales Net sales reflect total sales less a provision for
returns. Net sales increased $12,321,000, or 17.9%, to $81,052,000 in 1999
from $68,731,000 in 1998. This increase was primarily attributable to an
increase in sales generated by the Company's corporate (outbound)
telemarketing group and an increase in the average order size, to $292
from $261.
Gross Profit Cost of goods sold includes merchandise cost, freight
and duties, warranty expense, and packaging and shipping supplies. Gross
profit increased $5,903,000, or 16.0%, to $42,862,000 in 1999 from
$36,959,000 in 1998. As a percentage of net sales, gross profit decreased
to 52.9% in 1999 from 53.8% in 1998. This decrease in gross margin was
primarily attributable to significant sales discounting in the fourth
quarter of 1999 intended to drive sales to the internet and one-time
special introductory pricing to a strategically important corporate
account customer.
Selling, General and Administrative Expenses Selling, general and
administrative expenses increased $3,610,000, or 11.5%, to $34,904,000 in
1999 from $31,294,000 in 1998. As a percentage of net sales, these
expenses decreased to 43.1% in 1999 from 45.5% in 1998, primarily due to a
reduction in aggregate catalog costs, a reduction in telephone expenses,
and process improvements. The Company expects selling, general and
administrative expenses to increase in absolute dollars in 2000.
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
increased to $2,599,000 in 1999 from $2,036,000 in 1998, and increased as
a percentage of net sales to 3.2% in
1999 from 3.0% in 1998. The Company expects product development expenses
to increase in both dollars and as a percentage of net sales in 2000.
Other Income, net Interest income included in Other Income, net,
decreased to $637,000 in 1999 from $799,000 in 1998. The Company
anticipates a decline in interest income in 2000 associated with lower
cash balances resulting from continued investment in capital equipment.
Provision for Income Taxes The provision for income taxes of
$2,281,000 in 1999 and $1,776,000 in 1998, represents a combined federal
and state effective tax rate of 37% and 40%, respectively.
Net Income Net income increased to $3,882,000 in 1999 from $2,669,000
in 1998 for the reasons stipulated above.
1998 Compared to 1997
Net Sales Net sales reflect total sales less a provision for
returns. Net sales increased $4,885,000, or 7.7%, to $68,731,000 in 1998
from $63,846,000 in 1997. This increase was primarily attributable to an
increase in sales generated by the Company's corporate (outbound)
telemarketing group and an increase in the average order size, to $261
from $251 despite a 1.8% reduction in the number of catalogs distributed,
to 28.0 million from 28.5 million.
Gross Profit Cost of goods sold includes merchandise cost, freight
and duties, warranty expense, and packaging and shipping supplies. Gross
profit increased $3,872,000, or 11.7%, to $36,959,000 in 1998 from
$33,087,000 in 1997. As a percentage of net sales, gross profit increased
to 53.8% in 1998 from 51.8% in 1997. This increase in gross margin was
primarily the result of a shift in product mix toward higher margin
products including a larger percentage of proprietary products which carry
higher gross margins. 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 and
development of its proprietary products, the Company is able to realize
the profit attributable to these activities.
Selling, General and Administrative Expenses Selling, general and
administrative expenses increased $2,060,000, or 7.0%, to $31,294,000 in
1998 from $29,234,000 in 1997. As a percentage of net sales, these
expenses decreased to 45.5% in 1998 from 45.8% in 1997, primarily due to a
reduction in catalog costs, a reduction in telephone expenses, and process
improvements.
Product Development Expenses A key element of the Company's strategy
has been the development of proprietary products. The Company expenses all
its product development costs as incurred. Product development expenses
increased to $2,036,000 in 1998 from $1,592,000 in 1997, and increased as
a percentage of net sales to 3.0% in 1998 from 2.5% in 1997.
Other Income, net Interest income included in Other Income, net,
increased to $799,000 in 1998 from $680,000 in 1997.
Provision for Income Taxes The provision for income taxes of
$1,776,000 in 1998 and $1,184,000 in 1997, represented a combined federal
and state effective tax rate of 40%.
Net Income Net income increased to $2,669,000 in 1998 from $1,776,000
in 1997 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 number and
timing of catalog mailings; catalog response rates; product mix; the level
of selling, general and administrative expenses; the timing 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. The Company expects that its business will
continue to exhibit some measure of volatility between quarters in future
periods.
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 its revolving bank line of credit.
Cash provided by operating activities in 1999 was $5,576,000. This was
the result of $6,699,000 provided by operations including net income,
depreciation and amortization and other non-cash charges, offset by
$1,123,000 of changes in operating assets and liabilities. Cash used by
investing activities for 1999 was $3,504,000, primarily related to
equipment purchases of $6,191,000 and the acquisition of PhoneZone.com of
$1,500,000, partially offset by a decrease in investments of $3,860,000
and payments received on notes receivable of $327,000. Cash used by
financing activities was $525,000, arising primarily from the purchase of
treasury stock of $1,088,000 partially offset by the sale of Common Stock
of $563,000.
Capital expenditures of $6,191,000 in 1999 represented an increase of
$3,103,000 over the $3,088,000 expended in 1998. The capital expenditures
in 1999 included investments in computer hardware infrastructure, sales,
customer support and customer interaction software and costs associated
with modifying and customizing the software, and tooling for proprietary
products. In 2000, the Company expects to continue to purchase additional
capital equipment for enhancements to its management information systems
and tooling for proprietary products, and such purchases are expected to
be less than 1999 levels.
During 1999, the Company used $1,088,000 for the purchase of 136,000
shares of treasury stock at an average purchase price of $8.00 a share
pursuant to a stock repurchase program approved by the Company's Board of
Directors on October 7, 1998. The Board of Directors authorized the
repurchase of up to 1,000,000 shares of Common Stock in the open market
from time to time subject to market conditions and other restrictions.
Through December 31, 1999, the Company has purchased 174,000 shares
pursuant to the stock repurchase program. The number of shares of Common
Stock eventually acquired by the Company will depend on subsequent
developments and corporate needs, and the repurchase program may be
interrupted or discontinued at any time. Any shares repurchased would be
available for re-issuance under the Company's employee stock plans, or for
other purposes as approved by the Board of Directors.
The Company believes that funds generated from operations 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 of $7,000,000 with a major bank at the bank's
prime lending rate. At present, the Company has not directly borrowed
under this line, and as of December 31, 1999, the Company was not
contingently liable for any issued and open letters of credit.
Impact of the Year 2000 Issue
The Year 2000 Issue was expected to result from computer programs
written using a two-digit date field, rather than four, to define the
applicable year. Certain computer programs utilizing a two-digit date
field would recognize a date using "00" as the year 1900 rather than the
year 2000. This could have potentially resulted in a system failure or
miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, send invoices, or
engage in other similar normal business activities.
The Company believes that as a result of its comprehensive review and
assessment of its internal information systems, the Company has not
experienced any Year 2000 failures of its key computer systems and
applications. Further, the Company's key product and service suppliers
have been able to continue to meet their obligations to the Company.
Accordingly, the Year 2000 Issue has not, as of March 17, 2000, had a
material adverse effect on the operations or financial results of the
Company. As of December 31, 1999, the Company estimates that it had
incurred approximately $100,000 in its Year 2000 efforts, including
without limitation, internal staff costs, outside consulting fees, and
computer software modifications and patches. All such costs have been
charged to expense as incurred.
The Company does not expect that any future expenditures to address the
Year 2000 Issue will be material. However, although unlikely, the
possibility still exists that interruptions to Company and/or key customer
and supplier operations or business activities could occur as a result of
lingering Year 2000 Issues. Such interruptions, if they were to occur,
could have a material adverse effect on the operations or financial
results of the Company.
Item 8. Consolidated Financial Statements and Supplementary Data
Index to Consolidated Financial Statements
Page
Independent Auditors' Report ......................................... 21
Consolidated Balance Sheets at December 31, 1999 and 1998 ............ 22
Consolidated Statements of Operations for the years ended
December 31, 1999, 1998 and 1997 ................................... 23
Consolidated Statements of Stockholders' Equity for the years ended
December 31, 1999, 1998 and 1997 ................................... 24
Consolidated Statements of Cash Flows for the years ended
December 31, 1999, 1998 and 1997 ................................... 25
Notes to Consolidated Financial Statements ........................... 26
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Hello Direct, Inc.:
We have audited the accompanying consolidated balance sheets of
Hello Direct, Inc. and subsidiary as of December 31, 1999 and 1998, and the
related consolidated statements of operations, stockholders' equity, and
cash flows for each of the years in the three-year period ended December
31, 1999. These consolidated financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion
on these consolidated 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 consolidated financial
statements are free of material misstatement. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management,
as well as evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Hello
Direct, Inc. and subsidiary as of December 31, 1999 and 1998, and the
results of their operations and their cash flows for each of the years in
the three-year period ended December 31, 1999, in conformity with
generally accepted accounting principles.
KPMG LLP
Mountain View, California
January 21, 2000
<PAGE>
HELLO DIRECT, INC. AND SUBSIDIARY
Consolidated Balance Sheets
December 31, 1999 and 1998
<TABLE>
<CAPTION>
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ........................ $7,292,000 $5,745,000
Short-term investments ........................... -- 3,860,000
Trade accounts receivable, less allowance for
returns and doubtful accounts of $591,000 and
$637,000 in 1999 and 1998, respectively ....... 9,186,000 5,491,000
Inventories ...................................... 7,753,000 6,119,000
Deferred tax assets .............................. 874,000 847,000
Other current assets ............................. 1,904,000 2,474,000
------------ ------------
Total current assets ........................ 27,009,000 24,536,000
Notes receivable .................................... 3,912,000 4,239,000
Property and equipment, net ......................... 10,055,000 6,246,000
Goodwill, net................ ....................... 1,600,000 --
------------ ------------
Total assets ................................ $42,576,000 $35,021,000
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ................................. $6,340,000 $3,567,000
Accrued expenses ................................. 2,553,000 1,736,000
------------ ------------
Total current liabilities ................... 8,893,000 5,303,000
Non-current liabilities ............................. 472,000 364,000
------------ ------------
Total liabilities ........................... 9,365,000 5,667,000
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; 5,402,000 issued and 5,229,000
outstanding in 1999; 5,190,000 issued and
5,103,000 outstanding in 1998 ................. 5,000 5,000
Additional paid-in capital ....................... 29,668,000 28,319,000
Notes receivable from stock sales ................ (742,000) --
Retained earnings ................................ 5,603,000 1,721,000
Less treasury stock, at cost - 173,000 and 87,000
shares in 1999 and 1998, respectively .......... (1,323,000) (691,000)
------------ ------------
Total stockholders' equity .................. 33,211,000 29,354,000
------------ ------------
Commitments and contingencies
Total liabilities and stockholders' equity .. $42,576,000 $35,021,000
============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HELLO DIRECT, INC. AND SUBSIDIARY
Consolidated Statements of Operations
Years Ended December 31, 1999, 1998 and 1997
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Net sales ................................ $81,052,000 $68,731,000 $63,846,000
Cost of goods sold ....................... 38,190,000 31,772,000 30,759,000
------------ ------------ ------------
Gross profit ........................ 42,862,000 36,959,000 33,087,000
Selling, general and administrative
expenses ............................. 34,904,000 31,294,000 29,234,000
Product development expenses ............. 2,599,000 2,036,000 1,592,000
------------ ------------ ------------
Operating income .................... 5,359,000 3,629,000 2,261,000
Other income (expense):
Interest income ...................... 637,000 799,000 680,000
Interest expense ..................... -- -- (13,000)
Other, net ........................... 167,000 17,000 32,000
------------ ------------ ------------
Income before income taxes .......... 6,163,000 4,445,000 2,960,000
Provision for income taxes ............... 2,281,000 1,776,000 1,184,000
------------ ------------ ------------
Net income .......................... $3,882,000 $2,669,000 $1,776,000
============ ============ ============
Basic per share amounts:
Net income ........................... $0.75 $0.52 $0.35
============ ============ ============
Weighted average common shares
outstanding ....................... 5,167,000 5,108,000 5,036,000
============ ============ ============
Diluted per share amounts:
Net income ........................... $0.73 $0.51 $0.35
============ ============ ============
Weighted average common shares
outstanding ....................... 5,352,000 5,199,000 5,117,000
============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HELLO DIRECT, INC. AND SUBSIDIARY
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 1999, 1998 and 1997
<TABLE>
<CAPTION>
Notes
Receiv-
able
Common Stock Additional from Retained Total
--------------------- Paid-in Stock Earnings Treasury Stockholders'
Shares Amount Capital Sales (Deficit) Stock Equity
---------- ---------- ------------ ---------- ------------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balances as of December
31, 1996 ............... 5,007,000 $5,000 $27,807,000 $ -- ($2,724,000) ($445,000) $24,643,000
Common stock issued
pursuant to employee
stock purchase
and option plans ...... 57,000 -- 238,000 -- -- -- 238,000
Net income ............... -- -- -- -- 1,776,000 -- 1,776,000
---------- ---------- ------------ ---------- ------------- ------------ ------------
Balances as of December
31, 1997 ............... 5,064,000 5,000 28,045,000 -- (948,000) (445,000) 26,657,000
Common stock issued
pursuant to employee
stock purchase
and option plans ...... 75,000 -- 259,000 -- -- -- 259,000
Common stock issued
in exchange for
services ............... 2,000 -- 15,000 -- -- -- 15,000
Purchase of treasury
stock .................. (38,000) -- -- -- -- (246,000) (246,000)
Net income ............... -- -- -- -- 2,669,000 -- 2,669,000
---------- ---------- ------------ ---------- ------------- ------------ ------------
Balances as of December
31, 1998 ............... 5,103,000 $5,000 $28,319,000 -- $1,721,000 ($691,000) $29,354,000
Common stock issued
pursuant to employee
stock purchase
and option plans ...... 212,000 -- 1,305,000 (742,000) -- -- 563,000
Purchase of treasury
stock .................. (136,000) -- -- -- -- (1,088,000) (1,088,000)
Issuance of treasury
shares ................. 50,000 -- 44,000 -- -- 456,000 500,000
Net income ............... -- -- -- -- 3,882,000 -- 3,882,000
---------- ---------- ------------ ---------- ------------- ------------ ------------
Balances as of December
31, 1999 ............... 5,229,000 $5,000 $29,668,000 ($742,000) $5,603,000 ($1,323,000) $33,211,000
========== ========== ============ ========== ============= ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HELLO DIRECT, INC. AND SUBSIDIARY
Consolidated Statements of Cash Flows
Years Ended December 31, 1999, 1998 and 1997
<TABLE>
<CAPTION>
1999 1998 1997
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income .......................... $3,882,000 $2,669,000 $1,776,000
Adjustments to reconcile net income
to net cash provided by
operating activities:
Depreciation and amortization .... 2,782,000 1,596,000 1,323,000
Deferred income taxes ............ (99,000) 161,000 854,000
Deferred rent .................... 180,000 180,000 --
Disposal of fixed assets ......... -- 65,000 87,000
Allowance for returns and
doubtful accounts............. (46,000) (86,000) 215,000
Issuance of common stock
for services ................. -- 15,000 --
Changes in items affecting
operations:
Trade accounts receivable .... (3,649,000) 369,000 (834,000)
Inventories .................. (1,634,000) (982,000) 150,000
Other current assets ......... 570,000 (703,000) (432,000)
Accounts payable and
accrued expenses .......... 3,590,000 150,000 872,000
------------ ------------ ------------
Net cash provided by
operating activities ... 5,576,000 3,434,000 4,011,000
------------ ------------ ------------
Cash flows from investing activities:
Purchases of property and equipment.. (6,191,000) (3,088,000) (2,437,000)
Decrease (increase) in investments .. 3,860,000 (30,000) 2,177,000
Funding of notes receivable.......... -- -- (1,503,000)
Payments received on notes
receivable......................... 327,000 281,000 177,000
Acquisition of company .............. (1,500,000) -- --
------------ ------------ ------------
Net cash used in investing
activities ................. (3,504,000) (2,837,000) (1,586,000)
------------ ------------ ------------
Cash flows from financing activities:
Payments on capital lease obligations -- -- (20,000)
Purchase of treasury stock .......... (1,088,000) (246,000) --
Sale of common stock, net ........... 563,000 259,000 238,000
------------ ------------ ------------
Net cash (used in) provided
by financing activities ... (525,000) 13,000 218,000
------------ ------------ ------------
Net increase in cash and
cash equivalents .................... 1,547,000 610,000 2,643,000
Cash and cash equivalents at beginning
of year ............................. 5,745,000 5,135,000 2,492,000
------------ ------------ ------------
Cash and cash equivalents at end of
year ................................ $7,292,000 $5,745,000 $5,135,000
============ ============ ============
Supplemental disclosure of cash paid
during year:
Interest ............................ $ -- $ -- $13,000
============ ============ ============
Income taxes ........................ $2,059,000 $1,443,000 $336,000
============ ============ ============
Noncash financing activities:
Issuance of common stock in exchange
for services ...................... $ -- $15,000 $ --
============ ============ ============
Issuance of treasury stock for
acquisition of company ............ $500,000 $ -- $ --
============ ============ ============
Acceptance of notes receivable
from stock sales .................. $742,000 $ -- $ --
============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE>
HELLO DIRECT, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999, 1998, and 1997
(1) Summary of the Company and Significant Accounting Policies
The Company. Hello Direct, Inc. (the "Company") is a leading developer
and direct marketer of desktop telephony products and equipment interface
solutions to business end users. The Company designs and sells its own
products and also offers a wide variety of products and accessories from
other manufacturers. The Company markets its products through various
sales channels which include full-color catalogs, the internet and
outbound telemarketing efforts aimed at current and prospective customers.
The Company's wholly owned subsidiary, PhoneZone.com, Inc. ("PhoneZone"),
was acquired on January 20, 1999 and is an influential source of
comparative research, analysis, and purchase information on telecom and
networking solutions for small- and medium-size companies.
Basis of Accounting. The accompanying consolidated financial
statements include the accounts of the Company and its wholly-owned
subsidiary, PhoneZone. All intercompany transactions have been
eliminated.
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, certificates of deposit, commercial paper, and money market
funds and amounted to $4,409,000 and $2,878,000 as of December 31, 1999
and 1998, respectively.
Short-Term 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.
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.
Depreciation is calculated on the straight-line method over the estimated
useful lives of the assets. Amortization of 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 lease. The
estimated useful lives are presented below:
Comptuer equipment and software 5
Furniture and fixtures 3 - 7
Production tooling and equipment 5
Impairment of Long-Lived Assets. The Company periodically reviews
its long-lived assets for impairment. If events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable, the
Company will reduce the carrying amount of the asset by the amount
determined not to be recoverable. Recoverability of property and
equipment is measured by comparing to its carrying amount to future net
cash flows the property and equipment are expected to generate. If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the property and
equipment exceeds its fair market value. Recoverability of goodwill is
assessed by determining whether the unamortized goodwill balance can be
recovered through undiscounted future net cash flows of the acquired
operation. The amount of goodwill impairment, if any, is measured based
on projected discounted future net cash flows using a discount rate
reflecting the Company's average cost of funds. To date, no adjustments
to the carrying value of the Company's long-lived assets have been
required.
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.
Revenue Recognition. The Company recognizes revenue at the time
of the product shipment. Appropriate provisions are provided for customer
returns, warranty, and exchanges.
Goodwill. Goodwill is amortized using the straight-line method
over the expected life of the asset.
Net Income Per Share. There were no adjustments to net income for
purposes of the calculation of diluted net income per share. The table
below reconciles basic weighted average shares outstanding to diluted
weighted average shares outstanding:
1999 1998 1997
------------ ------------ ------------
Basic weighted shares outstanding 5,167,000 5,108,000 5,036,000
Common stock options utilizing treasury
stock method when dilutive 185,000 91,000 81,000
------------ ------------ ------------
Diluted weighted shares outstanding 5,352,000 5,199,000 5,117,000
============ ============ ============
Use of Estimates. The preparation of financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Stock Option and Stock Purchase Plan Accounting. Compensation
expense associated with stock option grants and stock purchase plan
purchases made subsequent to 1994 is disclosed in the footnotes to the
financial statements. The effect on net income and net income per share
is reflected in pro forma - net income, pro forma - basic net income per
share, and pro forma - diluted net income per share amounts.
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
creditworthiness of its customers as well as general economic conditions.
Consequently, an adverse change in those factors could affect the
Company's estimate of its bad debts.
(2) Acquisition of PhoneZone.com, Inc.
On January 20, 1999, the Company acquired 100% of the outstanding stock
of PhoneZone, a privately held company for $1,500,000 in cash, 50,000
shares of common stock valued at $500,000 and the assumption of $50,000 of
outstanding debt. The acquisition was accounted for using the purchase
method of accounting, and the purchase price was allocated to assets
acquired based on their estimated fair values. This treatment resulted in
$2,000,000 of cost in excess of net assets, to be amortized on a straight-
line basis over a five-year period.
Proforma results of operations, as if PhoneZone had been acquired as of
January 1, 1999 and 1998, are not presented as PhoneZone had no
significant operations prior to the acquisition and the assets and
liabilities acquired were not material to the financial statements of the
Company.
(3) Other Current Assets
A summary of other current assets as of December 31, 1999 and 1998
follows:
1999 1998
------------ ------------
Deferred catalog costs........ $1,258,000 $1,972,000
Other ........................ 646,000 502,000
------------ ------------
$1,904,000 $2,474,000
============ ============
(4) Note Receivable
In 1996 the Company entered into a loan agreement with a developer
for the construction of the Company's corporate facility. Through 1997, the
Company had loaned $5,000,000 under this loan agreement. The borrowings
under this loan agreement are secured by the building and land, bear
interest at 7.5% with principal and interest due in monthly installments
of $53,000 over 12 years. The fair value of the loan as of December 31,
1999 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 a similar 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 $5,818,000 as of December 31,
1999, which approximates the fair value of the lease using rates currently
available to the Company for a lease with similar terms (note 8).
(5) Property and Equipment
A summary of property and equipment as of December 31, 1999 and 1998
follows:
1999 1998
------------ ------------
Computer equipment and software ................ $9,666,000 $4,885,000
Furniture and fixtures ......................... 3,354,000 3,144,000
Production tooling and equipment ............... 2,054,000 2,321,000
------------ ------------
15,074,000 10,350,000
Less accumulated depreciation and amortization . 5,019,000 4,104,000
------------ ------------
$10,055,000 $6,246,000
============ ============
(6) Accrued Expenses
A summary of accrued expenses as of December 31, 1999 and 1998 follows:
1999 1998
------------ ------------
Accrued compensation and related liabilities ... $1,769,000 $1,213,000
Other .......................................... 784,000 523,000
------------ ------------
$2,553,000 $1,736,000
============ ============
(7) Bank Line of Credit
As of December 31, 1999, the Company had a financing agreement with a
bank to provide a $7,000,000 unsecured revolving line of credit for both
working capital and letters of credit. As of December 31, 1999,
$7,000,000 was available under the agreement. Any borrowings bear interest
at the bank's prime rate (8.5% as of December 31, 1999). The line of
credit will expire on May 15, 2000, at which time the Company intends to
renew. The agreement contains various financial covenants, including
profitability and financial ratios such as, quick ratio and debt-to-net-
worth. As of December 31, 1999, there were no direct borrowings under the
credit facility, and the Company was not liable for issued and open
letters of credit.
(8) Lease Commitments
As of December 31, 1999, the Company was obligated under two
non-cancelable operating lease agreements expiring March, 2002 and
December, 2011, for office and warehouse space. A summary of future
minimum lease payments follows:
Year Ending December 31, Amount
------------------------ ------------
2000 $748,000
2001 810,000
2002 769,000
2003 816,000
2004 ...................................... 816,000
Thereafter ................................ 6,540,000
------------
Total future minimum lease payments ....... $10,499,000
============
Rent expense aggregated approximately $927,000, $825,000 and $651,000 for
1999, 1998 and 1997, respectively.
(9) Benefit Plans
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 $10,000 in 1999. The Company may make
discretionary contributions and matching contributions. In 1999, 1998,
and 1997, the Company made matching contributions of $25,000, $22,000, and
$11,000, respectively.
(10) Stock Option and Employee Stock Purchase Plans
The Company applies Accounting Principles Board 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 Statement of Financial Accounting Standard
(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:
1999 1998 1997
------------ ------------ ------------
Pro forma - net income ................ $2,908,000 $2,084,000 $1,483,000
Pro forma - basic net income
per share .......................... $0.56 $0.41 $0.29
Pro forma - diluted net income
per share .......................... $0.54 $0.40 $0.29
Pro forma net income reflects only options granted after December 31,
1994. Accordingly, 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 captured
over a stock option's vesting period, and compensation cost for options
granted prior to January 1, 1995 is not considered.
1992 Stock Option Plan
As of December 31, 1999, 8,329 options for the issuance of Common Stock
were outstanding pursuant to the 1992 Stock Option Plan (the "Plan"). No
new stock option grants can be issued under the Plan. Stock options
outstanding pursuant to the Plan are fully vested and expire ten years
from their respective grant dates.
1995 Employee Stock Purchase Plan
The Company's 1995 Employee Stock Purchase Plan (the "Purchase Plan")
was established in 1995. As of December 31, 1999, a total of 116,579
shares of Common Stock are reserved for issuance and 188,421 shares have
been issued 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 established in
1995. As of December 31, 1999, a total of 150,000 shares of Common Stock
have been reserved for issuance; 63,000 options remain outstanding, and
3,000 shares have been issued pursuant to the exercise of stock options
under the Director Plan. The Director Plan provides for the grant of non-
statutory stock options to non-employee directors of the Company ("Outside
Directors") pursuant to a non-discretionary 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 Directors have a 10-year term, but expire upon
termination of tenure as a director.
1995 Stock Plan
The Company's 1995 Stock Plan (the "Stock Plan") was established in
1995. As of December 31, 1999, a total of 1,350,000 shares of Common Stock
have been reserved for issuance; 812,242 stock options remain outstanding
(including 75,000 of the PhoneZone restricted options discussed below),
and 141,212 shares have been issued pursuant to the exercise of stock
options 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 non-statutory stock options and the grant of
restricted stock to employees and consultants. Non-employee directors are
not eligible to participate in the Stock Plan.
Of the 1,350,000 shares of Common Stock reserved for issuance, 225,000
shares were restricted to former employees of PhoneZone.com. As of
December 31, 1999, 75,000 options had been granted to former PhoneZone
employees, and 150,000 shares remained available for future grants
restricted to former PhoneZone employees.
The exercise price per share of all incentive stock options granted
under the Stock Plan must be at least equal to fair market value per share
of Common Stock on the date of grant. The exercise price per share of all
non-statutory 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.
The following table summarizes all option activity under the Company's
stock option plans during the three year period ended December 31, 1999:
<TABLE>
<CAPTION>
Weighted-
Weighted- average
average Exercise
Weighted- Grant Options Price
average Date Exercisable of Options
Options Exercise Fair at Exercisable
Outstanding Price Value* Year End at Year End
----------- --------- ---------- ------------ ------------
<S> <C> <C> <C> <C> <C>
December 31, 1996 ..... 554,617 $6.996 186,463 $6.816
============ ============
Granted 197,500 5.293 $2.222
==========
Exercised (15,253) 2.857
Canceled or expired (163,333) 6.744
-----------
December 31, 1997 ..... 573,531 6.591 298,631 $7.028
============ ============
Granted 320,702 6.571 $2.682
==========
Exercised (31,695) 1.532
Canceled or expired (83,521) 7.732
-----------
December 31, 1998 ..... 779,017 6.667 347,882 $7.090
============ ============
Granted 350,000 10.924 $4.953
==========
Exercised (151,631) 6.411
Canceled or expired (93,815) 8.077
-----------
December 31, 1999 ..... 883,571 $8.247 399,077 $7.114
=========== ============ ============
</TABLE>
* Fair Value Assumptions:
Black-Scholes option-pricing model
--------------------------------------------
Weighted-
Average
Risk Average
Free Expected Dividend
Rate Life Volatility Yield
--------- --------- ----------- ---------
1997 5.50% 2.97 60% 0%
1998 5.42% 2.82 59% 0%
1999 4.76% 2.93 66% 0%
The following table summarizes information about the Company's stock
options outstanding at December 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------ ------------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Range of Number Contractual Exercise Number Exercise
Exercise Prices Outstanding Life Price Exercisable Price
- ----------------- ------------ ----------- ----------- ------------ -----------
<S> <C> <C> <C> <C> <C>
$0.02 - 0.71 2,829 3.01 $0.296 2,829 $0.296
4.13 - 5.50 153,597 7.51 5.016 93,422 4.984
6.25 - 7.50 234,003 7.76 6.512 126,979 6.622
7.63 - 9.00 248,642 7.43 8.577 147,347 8.328
9.25 - 14.88 244,500 8.78 11.694 28,500 10.688
------------ ------------
$0.02 - 14.88 883,571 7.89 $8.247 399,077 $7.114
============ ============
</TABLE>
(11) Warrants
On September 22, 1999, the Company issued warrants to purchase
15,000 shares of the Company's Common Stock to The Brenner Group LLC in
consideration for the Brenner Group LLC extending the term of its contract
with the Company through June 30, 2000. These warrants carry an exercise
price of $8.688 per share and were vested upon issuance.
(12) Income Taxes
The components of income tax expense for the years ended December 31,
1999, 1998, and 1997 follows:
1999 1998 1997
------------ ------------ ------------
Current:
Federal ..................... $1,961,000 $1,312,000 $77,000
State ....................... 419,000 303,000 253,000
------------ ------------ ------------
2,380,000 1,615,000 330,000
Deferred:
Federal ..................... (104,000) 18,000 841,000
State ....................... 5,000 143,000 13,000
------------ ------------ ------------
(99,000) 161,000 854,000
------------ ------------ ------------
$2,281,000 $1,776,000 $1,184,000
============ ============ ============
A reconciliation between the provision for income taxes and the amount
computed by applying the statutory federal income tax rate to income
before income taxes for the years ended December 31, 1999, 1998, and 1997
follows:
Year Ended
--------------------------------------
1999 1998 1997
------------ ------------ ------------
Statutory rate of 34% applied
to pre-tax income ............... $2,096,000 $1,511,000 $1,006,000
State tax (net of federal benefit) . 280,000 294,000 176,000
Tax credits ........................ (109,000) (22,000) (9,000)
Goodwill ........................... 160,000 -- --
Net operating loss benefit ......... (43,000) -- --
Other .............................. (103,000) (7,000) 11,000
------------ ------------ ------------
$2,281,000 $1,776,000 $1,184,000
============ ============ ============
The tax effects of temporary differences that give rise to significant
portions of deferred tax assets and deferred tax liabilities as of
December 31, 1999 and 1998 follows:
1999 1998
Deferred tax assets: ------------ ------------
Accounts receivable, principally
due to allowances..................... $253,000 $273,000
Employee benefit accruals............... 202,000 121,000
Deferred rent........................... 154,000 77,000
Inventories principally due to
costs inventoried for tax purposes.... 130,000 263,000
State income taxes...................... 124,000 81,000
Other................................... 11,000 32,000
------------ ------------
Deferred tax assets..................... 874,000 847,000
Deferred tax liabilities:
Fixed assets............................ (90,000) (162,000)
------------ ------------
Net deferred tax assets................... $784,000 $685,000
============ ============
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 1999 or
1998.
<PAGE>
(13) Quarterly Results (unaudited)
The following table sets forth consolidated statement of operations
data for each of the four quarters of the years ended December 31, 1999
and December 31, 1998. 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, September 30, December 31,
1999 1999 1999 1999
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net sales ..................... $19,450,000 $19,282,000 $20,229,000 $22,091,000
Cost of goods sold ............ 8,933,000 8,734,000 9,015,000 11,508,000
------------ ------------ ------------ ------------
Gross profit ............... 10,517,000 10,548,000 11,214,000 10,583,000
Selling, general and
administrative expenses .... 8,649,000 8,696,000 9,097,000 8,462,000
Product development expenses .. 607,000 657,000 603,000 732,000
------------ ------------ ------------ ------------
Operating income ........... 1,261,000 1,195,000 1,514,000 1,389,000
Other income - net ............ 224,000 186,000 153,000 241,000
------------ ------------ ------------ ------------
Income before income taxes . 1,485,000 1,381,000 1,667,000 1,630,000
Income taxes .................. 594,000 553,000 622,000 512,000
------------ ------------ ------------ ------------
Net income ................. $891,000 $828,000 $1,045,000 $1,118,000
============ ============ ============ ============
Basic and diluted net income
per share .................. $0.17 $0.16 $0.20 $0.21
============ ============ ============ ============
Three Months Ended
------------------------------------------------------
March 31, June 30, September 30, December 31,
1998 1998 1998 1998
------------ ------------ ------------ ------------
Net sales ..................... $17,910,000 $16,620,000 $17,016,000 $17,185,000
Cost of goods sold ............ 8,319,000 7,670,000 7,791,000 7,992,000
------------ ------------ ------------ ------------
Gross profit ............... 9,591,000 8,950,000 9,225,000 9,193,000
Selling, general and
administrative expenses .... 8,210,000 7,866,000 7,771,000 7,447,000
Product development expenses .. 579,000 323,000 547,000 587,000
------------ ------------ ------------ ------------
Operating income ........... 802,000 761,000 907,000 1,159,000
Other income - net ............ 203,000 204,000 198,000 211,000
------------ ------------ ------------ ------------
Income before income taxes . 1,005,000 965,000 1,105,000 1,370,000
Income taxes .................. 402,000 386,000 441,000 547,000
------------ ------------ ------------ ------------
Net income ................. $603,000 $579,000 $664,000 $823,000
============ ============ ============ ============
Basic and diluted net income
per share .................. $0.12 $0.11 $0.13 $0.16
============ ============ ============ ============
</TABLE>
<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
The sections entitled "Election of Directors - Nominees" and
"Additional Information Relating to Directors and Officers of the Company
- - Section 16(a) Beneficial Ownership Reporting Compliance" of the
Company's proxy statement for the Company's Annual Meeting of Stockholders
tentatively scheduled to be held April 27, 2000 (the "Proxy Statement")
are hereby incorporated by reference. See also, the section entitled
"Executive Officers of the Company" in Item 1 above of this Annual Report
on Form 10-K.
Item 11. Executive Compensation
The section entitled "Additional Information Relating to Directors and
Officers of the Company" of the Proxy Statement is incorporated herein by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The section entitled "Security Ownership of Certain Beneficial Owners
and Management" of the Proxy Statement is incorporated herein by
reference.
Item 13. Certain Relationships and Related Transactions
The section entitled "Additional Information Relating to Directors and
Officers of the Company - Certain Relationships and Related Transactions"
of the Proxy Statement is incorporated herein by reference.
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, 1999, Independent Auditors' Report on Financial Statement
Schedule.
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:
Schedule II - Valuation and Qualifying Accounts. A schedule of the
allowance for doubtful accounts and allowance for returns account is presented
below:
Balance at Charged to Balance
beginning costs and at end
of year expenses Deductions of year
----------- ------------ ------------ -----------
Allowance for doubtful
accounts:
December 31, 1999 .. $287,000 $614,000 $710,000 $191,000
=========== ============ ============ ===========
December 31, 1998 .. $373,000 $747,000 $833,000 $287,000
=========== ============ ============ ===========
December 31, 1997 .. $248,000 $536,000 $411,000 $373,000
=========== ============ ============ ===========
Allowance for returns:
December 31, 1999 .. $350,000 $9,016,000 $8,966,000 $400,000
=========== ============ ============ ===========
December 31, 1998 .. $350,000 $8,255,000 $8,255,000 $350,000
=========== ============ ============ ===========
December 31, 1997 .. $260,000 $8,474,000 $8,384,000 $350,000
=========== ============ ============ ===========
(b) Reports on Form 8-K.
None.
(c) Exhibits:
3.1 Amended and Restated Certificate of Incorporation of
Registrant. (1)
3.2 Amended and Restated Bylaws of the Registrant. (2)
4.1 Specimen Common Stock Certificate. (1)
10.1 Form of Indemnification Agreement with directors and officers.
(1)
10.2 1992 Stock Option Plan and forms of agreement thereunder. (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)
10.6 Amended and Restated Stockholders' Agreement, as amended, dated
May 4, 1994. (1)
10.7 Manufacturing Agreement with Seo-Won K-Tec, Inc. dated
January 1, 1998. (3)
10.8 Employment Agreement with Dennis P. Waldera, dated February 5,
1996. (2)
10.9 Employment Agreement with E. Alexander Glover dated March 24,
1995. (1)
10.10 Lease Agreement by and between MPJ-A and Registrant, dated
May 10, 1996. (4)
10.11 Promissory Note by and between MPJ-A and Registrant, dated
May 10, 1996. (4)
10.12 Construction Loan Agreement by and between MPJ-A and
Registrant, dated June 7, 1996. (4)
10.13 Contract between Hello Direct, Inc. and R. R. Donnelley & Sons
Company for printing services through spring 2000, dated
November 19, 1996. (5)
10.14 Agreement between Hello Direct, Inc. and Transtech Electronics
(S) Pte. Ltd., dated May 16, 1997. (7)
10.15 First Amendment to Employment Agreement with E. Alexander
Glover, dated July 1, 1997. (2)
10.16 Form of Employee Severance Agreement entered into and between
the Company and each of its executive officers. (6)
10.17 Form of Stock Option Agreement under the 1995 Stock Plan. (6)
23.1 Report on Financial Statement Schedule and Consent of
Independent Auditors
24.1 Power of Attorney
27.1 Financial Data Schedule
___________
(1) Incorporated by reference to the exhibit filed with the Company's Form
S-1 filed with the Securities and Exchange Commission on April 6, 1995.
(2) Incorporated by reference to the exhibit filed with the Company's Form
10-K filed with the Securities and Exchange Commission on March 27,
1998.
(3) Incorporated by reference to the exhibit filed with the Company's Form
10-Q filed with the Securities and Exchange Commission on May 8, 1998.
(4) Incorporated by reference to the exhibit filed with the Company's Form
S-1 filed with the Securities and Exchange Commission on August 15, 1996.
(5) Incorporated by reference to the exhibit filed with the Company's Form
10-Q filed with the Securities and Exchange Commission on May 14, 1997
(6) Incorporated by reference to the exhibit filed with the Company's Form
10-Q filed with the Securities and Exchange Commission on July 24, 1998.
(7) Incorporated by reference to the exhibit filed with the Company's Form
10-Q filed with the Securities and Exchange Commission on August 14, 1997.
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 30, 2000
Hello Direct, Inc.
By: /S/ Dean Witter III
-------------------------
Dean Witter III
Chief Financial Officer
and Secretary
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose
signature appears below constitutes and appoints E. Alexander Glover and
Dean Witter III, 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.
Signature Title Date
- -------------------------- ----------------------------------- -------------
/s/ E. Alexander Glover President, Chief Executive Officer March 30, 2000
- ------------------------- and Director (Principal Executive
(E. Alexander Glover) Officer)
/s/ Dean Witter III Chief Financial Officer March 30, 2000
- ------------------------- and Secretary
(Dean Witter III) (Principal Financial and Accounting
Officer)
/s/ John B. Mumford Chairman of the Board and Director March 30, 2000
- -------------------------
(John B. Mumford)
/s/ Gerald L. Beckwith Director March 30, 2000
- -------------------------
(Gerald L. Beckwith)
/s/ John W. Combs Director March 30, 2000
- -------------------------
(John W. Combs)
/s/ William P. Sousa Director March 30, 2000
- -------------------------
(William P. Sousa)
/s/ Charles E. Volwiler Director March 30, 2000
- -------------------------
(Charles E. Volwiler)
/s/ Steven J. Gomo Director March 30, 2000
- -------------------------
(Steven J. Gomo)
<PAGE>
Exhibit 23.1
Independent Auditors' Report
The Board of Directors and Stockholders
Hello Direct, Inc.
Under date of January 21, 2000, we reported on the consolidated balance
sheets of Hello Direct, Inc. and subsidiary as of December 31, 1999 and
1998, and the related consolidated statements of operations, stockholders'
equity and cash flows for each of the years in the three-year period ended
December 31, 1999, as contained in the annual report on Form 10-K. In
connection with our audits of the aforementioned consolidated financial
statements, we also audited the related financial statement schedule as
listed in the accompanying index. 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, such financial statement schedule, when
considered in relation to the basic consolidated 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. and subsidiary of our report dated January
21, 2000, relating to the consolidated balance sheets of Hello Direct,
Inc. as of December 31, 1999, and 1998, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each of
the years in the three year period ended December 31, 1999, and the
related financial statement schedule, which report appears in this
December 31, 1999, annual report on Form 10-K of Hello Direct, Inc. and
subsidiary.
/s/ KPMG LLP
Mountain View, California
January 21, 2000
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND> This schedule contains summary financial information extracted
from the Balance Sheet and Statement of Operations included in the
Company's Form 10-K for the year ended December 31, 1999 and is
qualified in its entirety by reference to such Financial Statements.
</LEGEND>
<MULTIPLIER>1
<S> <C>
<FISCAL-YEAR-END> Dec-31-1999
<PERIOD-START> Jan-01-1999
<PERIOD-END> Dec-31-1999
<PERIOD-TYPE> 12-MOS
<CASH> 7,292,000
<SECURITIES> 0
<RECEIVABLES> 9,777,000
<ALLOWANCES> 591,000
<INVENTORY> 7,753,000
<CURRENT-ASSETS> 27,009,000
<PP&E> 15,074,000
<DEPRECIATION> 5,019,000
<TOTAL-ASSETS> 42,576,000
<CURRENT-LIABILITIES> 8,893,000
<BONDS> 0
0
0
<COMMON> 5,000
<OTHER-SE> 33,206,000
<TOTAL-LIABILITY-AND-EQUITY> 42,576,000
<SALES> 81,052,000
<TOTAL-REVENUES> 81,052,000
<CGS> 38,190,000
<TOTAL-COSTS> 38,190,000
<OTHER-EXPENSES> 37,503,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 6,163,000
<INCOME-TAX> 2,281,000
<INCOME-CONTINUING> 3,882,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3,882,000
<EPS-BASIC> $0.75
<EPS-DILUTED> $0.73
</TABLE>
