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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 27, 1997
Commission file number 0-25796
STORMEDIA INCORPORATED
(Exact name of registrant as specified in its charter)
DELAWARE 77-0373062
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)
385 REED STREET, SANTA CLARA, CALIFORNIA 95050-3118
(Address of principal executive offices)
(Zip Code)
(408) 327-8400
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
As of August 1, 1997, 13,533,943 of the Registrant's Class A Common
Stock, $0.013 par value, and 4,362,001 shares of the Registrant's Class B Common
Stock, $0.013 par value, were issued and outstanding.
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STORMEDIA INCORPORATED AND SUBSIDIARIES
INDEX
<TABLE>
<CAPTION>
PAGE NO.
--------
<S> <C> <C> <C> <C>
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements (Unaudited)
Condensed Consolidated Statements of Operations -- Three and Six Months Ended June 27,
1997 and June 28, 1996......................................................................... 3
Condensed Consolidated Balance Sheets -- As of June 27, 1997 and December 31, 1996..................4
Condensed Consolidated Statements of Cash Flows -- Six Months Ended June 27, 1997 and
June 28, 1996.................................................................................. 5
Notes to Condensed Consolidated Financial Statements............................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations..................7
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.....................................................................................19
Item 2. Changes in Securities.................................................................................19
Item 3. Defaults Upon Senior Securities...................................................................... 19
Item 4. Submission of Matters to a Vote of Securities Holders................................................ 19
Item 5. Other Information.................................................................................... 20
Item 6. Exhibits and Reports on Form 8-K..................................................................... 20
SIGNATURES...........................................................................................................21
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
STORMEDIA INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT FOR PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
------------------ ----------------
JUNE 27, 1997 JUNE 28, 1996 JUNE 27, 1997 JUNE 28, 1996
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net sales $ 32,553 $ 57,652 $ 66,653 $118,808
Cost of sales 41,224 42,761 80,228 86,808
-------- -------- -------- --------
Gross profit (8,671) 14,891 (13,575) 32,000
Operating expenses:
Research and development 3,480 4,419 6,670 8,127
Selling, general, and administrative 2,481 2,129 4,820 4,179
Bad debt expense 5,438 -- 5,438 --
-------- -------- -------- --------
Total operating expenses 11,399 6,548 16,928 12,306
Operating earnings (loss) (20,070) 8,343 (30,503) 19,694
Interest income (expense), net (804) 827 (1,366) 1,312
-------- -------- -------- --------
Earnings (loss) before income tax expense (benefit) (20,874) 9,170 (31,869) 21,006
-------- -------- -------- --------
Income tax expense (benefit) 29 1,375 (1,647) 3,742
Net earnings (loss) $(20,903) $ 7,795 $(30,222) $17,264
======== ======== ======== ========
Earnings (loss) per share:
Primary $ (1.17) $ 0.42 $(1.70) $ 0.94
======== ======== ======== ========
Fully diluted $ (1.17) $ 0.42 $(1.70) $ 0.94
======== ======== ======== ========
Shares used in per share computation:
Primary 17,882 18,426 17,835 18,365
======== ======== ======== ========
Fully diluted 17,882 18,426 17,835 18,368
======== ======== ======== ========
</TABLE>
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STORMEDIA INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
JUNE 27, DECEMBER 31,
1997 1996
--------- --------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents and short-term investments $ 23,402 $ 47,711
Accounts receivable, less allowances of $8,750 at June 27, 1997
and $1,177 at December 31, 1996 18,626 31,047
Income taxes receivable 1,738 --
Inventories 21,737 14,848
Prepaid expenses 7,417 6,794
Deferred income taxes -- 2,819
--------- --------
Total current assets 72,920 103,219
Plant and equipment, net 140,985 137,162
Deferred income taxes -- 17
Deposits and other assets 1,136 1,338
--------- --------
$ 215,041 $ 241,736
========= ========
LIABILITIES AND EQUITY
Current liabilities:
Trade accounts payable $ 26,697 $ 25,234
Current portion of long-term debt 16,692 5,014
Accrued salaries and benefits 5,299 4,151
Income taxes payable -- 2,556
Other accrued expenses 3,832 1,952
--------- --------
Total current liabilities 52,520 38,907
Deferred income taxes -- 245
Long-term debt, less current portion 33,447 45,024
Equity:
Common stock, par value $.013 per share 237 233
Additional paid-in capital 126,418 124,686
Retained earnings 2,419 32,641
--------- --------
Total equity 129,074 157,560
--------- --------
$ 215,041 $ 241,736
========= ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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STORMEDIA INCORPORATED AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
-------------------------------------
JUNE 27, 1997 JUNE 28, 1996
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(UNAUDITED) (UNAUDITED)
<S> <C> <C>
OPERATING ACTIVITIES
Net earnings (loss) $(30,222) $ 17,264
Adjustments to reconcile earnings (loss) to net cash provided by
(used in) operating activities:
Depreciation and amortization 14,666 6,961
Bad debt expense 5,438 --
Deferred income taxes 2,591 --
Net loss on disposition of plant and equipment 263 --
Changes in operating assets and liabilities:
Accounts receivable 6,983 (6,485)
Inventories (6,519) (5,673)
Prepaid expenses (516) (2,050)
Other assets 202 (302)
Trade accounts payable 1,463 15,149
Accrued liabilities 3,028 610
Net income taxes payable/(receivable) (4,294) 3,492
-------- --------
Net cash (used in) provided by operating activities (6,917) 28,966
-------- --------
INVESTING ACTIVITIES
Acquisition of plant and equipment (19,221) (53,110)
Net purchases of and proceeds from sale of short-term investments 7,065 18,326
-------- --------
Net cash used in investing activities (12,156) (34,784)
-------- --------
FINANCING ACTIVITIES
Short-term borrowings -- 10,000
Issuance (payment) of long-term obligations 101 (111)
Proceeds from issuance of Common stock, net of issuance costs 1,728 1,603
Settlement of Put Options -- (1,994)
Repurchase of Class A Common Stock -- (7,212)
-------- --------
Net cash provided by financing activities 1,829 2,286
-------- --------
(Decrease) in cash and cash equivalents $(17,244) (3,532)
Cash and cash equivalents at beginning of period 23,788 37,407
-------- --------
Cash and cash equivalents at end of period $ 6,544 $ 33,875
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest $ 1,502 $ --
======== ========
Cash paid for income taxes $ 40 $ --
======== ========
Non-cash financing and investing activities:
Tax benefit arising from early dispositions of stock issued
upon exercise of stock options $ -- $ 901
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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STORMEDIA INCORPORATED AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(INFORMATION FOR THREE AND SIX MONTHS ENDED JUNE 27, 1997 AND
JUNE 28, 1996 IS UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of management, the condensed
consolidated financial statements include all adjustments which are necessary
for a fair presentation. Operating results for the three and six months ended
June 27, 1997 are not necessarily indicative of the results that may be expected
for the year ending December 31, 1997 or any other interim period. The
accompanying unaudited condensed consolidated financial statements should be
read in conjunction with the Company's audited financial statements included in
its Annual Report on Form 10-K for the year ended December 31, 1996 which was
filed with the Securities and Exchange Commission on March 25, 1997.
NOTE 2 - BALANCE SHEET COMPONENTS
<TABLE>
<CAPTION>
JUNE 27, 1997 DECEMBER 31, 1996
------------- -----------------
(UNAUDITED)
<S> <C> <C>
Inventories:
Raw materials $ 8,350 $ 6,586
Work-in-process 7,024 5,638
Finished goods 6,363 2,624
--------- ---------
Total inventories $ 21,737 $ 14,848
========= =========
Plant and equipment:
Land $ 220 $ 220
Building and leasehold improvements 33,366 32,009
Machinery and equipment 103,450 95,982
Construction-in-progress 40,803 32,161
--------- ---------
$ 177,839 $ 160,372
Less allowance for depreciation and
amortization (36,854) (23,210)
--------- ---------
Plant and equipment, net $ 140,985 $ 137,162
========= =========
</TABLE>
NOTE 3 - LONG-TERM DEBT
For the three months ended March 28, 1997, the Banks granted the Company
waivers of certain financial covenants and subsequently amended certain
financial covenants of the Term Loan Facility. For the three months ended June
27, 1997, the Banks granted the Company a thirty day waiver of certain financial
covenants. The Company is currently in discussions with the Banks to revise
certain financial covenants under an amendment to the Term Loan Facility.
NOTE 4 - BAD DEBT EXPENSE
The Company charged $5.4 million to bad debt expense during the three
months ended June 27, 1997. Such charges were for reserves related to
receivables on sales of certain products for which the Company may not receive
payment.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The discussion in Management's Discussion and Analysis of Financial
Condition and Results of Operations contains trend analysis and other
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934,
as amended. Actual results could differ materially from those set forth in such
forward-looking statements as a result of the factors set forth under "Factors
Affecting Operating Results" and other risks detailed from time to time in the
Company's reports filed with the Securities and Exchange Commission.
OVERVIEW
During 1996, the Company sold its disks primarily to Seagate Technology,
Inc. ("Seagate") and Maxtor Corporation ("Maxtor"), representing 71% and 25% of
net sales, respectively. In November 1995, the Company entered into a multi-year
Supply Agreement with Maxtor (the "Maxtor Supply Agreement") pursuant to which
Maxtor agreed to purchase specified volumes over a four-year period. In June
1996, Maxtor repudiated the Maxtor Supply Agreement and caused the Company to
experience excess capacity while it sought to qualify in additional products
with new and existing customers. While Seagate and other customers have taken a
portion of this capacity, during the first half of 1997, the Company continued
to experience excess manufacturing capacity as it sought to qualify its products
in new and existing customers' product programs. During the six months ended
June 27, 1997, sales to Seagate represented 66% of net sales.
Recently, the Company has qualified its products in the product programs
of both new and existing customers. In December 1996, the Company entered into a
multi-year agreement with Micropolis(s) Pte Ltd., a manufacturer of digital
audio/video disk drives (the "Micropolis Agreement"). Under the terms of the
Micropolis Agreement, the Company has set up and begun to operate a 15,000
square foot thin film manufacturing facility (the "Micropolis Facility") within
Micropolis' 400,000 square foot disk drive manufacturing plant in Singapore.
Micropolis has agreed to purchase all of the disks manufactured at the
Micropolis Facility through December 31, 1999. The Company believes that the
Micropolis Agreement will result in savings for both companies in areas such as
packaging, transportation and response time. The Company expects that the
Micropolis Facility will begin furnishing Micropolis with a portion of its thin
film requirements in the third quarter of 1997. In addition, the Company has
agreed to supply Micropolis with specified volumes of products from its other
facilities until the Micropolis Facility is completed. During the six months
ended June 27, 1997, sales to Micropolis represented 19% of net sales. While the
Company expanded its customer base during the first half of 1997, some product
qualifications that were expected to be completed were not and, as a result,
unit volumes were less than projected by the Company, negatively impacting net
sales. The Company is in various stages of product qualifications with other
potential customers and expects to commence shipping under certain of these
programs in the second half of 1997. However, the qualification of new products
is a costly and time consuming process and there can be no assurance that the
Company will successfully continue to find new customers or successfully qualify
its products in their product programs on a timely basis.
The Company's gross margins have fluctuated and will continue to
fluctuate quarterly and annually based upon a variety of factors such as the
level of utilization of the Company's production capacity, changes in product
mix, average selling prices, demand or manufacturing yields, increases in
production and engineering costs associated with initial production of new
programs, changes in the cost of or limitations on availability of materials and
labor shortages.
The Company expects that a substantial portion of the Company's
shipments in the remainder of 1997 will be of new products, including high
performance magneto resistive (MR) disks. Generally, new products have higher
average selling prices than more mature products but initially have lower
manufacturing yields and generally are initially produced in lower quantities
than more mature products. The Company expects its gross margins to continue to
be negatively impacted by the introduction of these and other new products in
the remainder of 1997.
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RESULTS OF OPERATIONS
The following table sets forth certain financial data as a percentage of
net sales for the periods indicated:
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
----------------------- ------------------------
JUNE 27, JUNE 28, JUNE 27, JUNE 28,
1997 1996 1997 1996
------- ------ ------- ------
<S> <C> <C> <C> <C>
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of sales 126.6% 74.2% 120.4% 73.1%
------- ------ ------- ------
Gross profit (26.6%) 25.8% (20.4%) 26.9%
Operating expenses:
Research and development 10.7% 7.7% 10.0% 6.8%
Selling, general, and administrative 7.6% 3.7% 7.2% 3.5%
Bad debt expense 16.7% -- 8.2% --
------- ------ ------- ------
Total operating expenses 35.0% 11.4% 25.4% 10.3%
------- ------ ------- ------
Operating earnings (loss) (61.7%) 14.5% (45.8%) 16.6%
Interest income (expense) net (2.5%) 1.4% (2.0%) 1.1%
------- ------ ------- ------
Earnings (loss) before income tax
expense (benefit) (64.1%) 15.9% (47.8%) 17.7%
Income tax expense (benefit) 0.1% 2.4% (2.5%) 3.1%
------- ------ ------- ------
Net earnings (loss) (64.2%) 13.5% (45.3%) 14.5%
======= ====== ======= ======
</TABLE>
1997 COMPARED TO 1996
Net Sales
Net sales decreased 43.5% to $32.6 million for the three months ended
June 27, 1997 from $57.7 million for the three months ended June 28, 1996. For
the six months ended June 27, 1997, nets sales decreased 43.9% to $66.7 million
from $118.8 million for the six months ended June 28, 1996. The decrease in net
sales was primarily due to a decrease in unit volume and secondarily due to a
slight decrease in average selling prices. In addition, the Company increased
its reserves for receivables based on higher returns experienced during the
three months ended June 27, 1997. The Company's principal customers during the
six months ended June 27, 1997 were Seagate Technology, Inc. ("Seagate") and
Micropolis (S) Pte Ltd. ("Micropolis"). The Company's customers during the six
months ended June 28, 1996 were Seagate and Maxtor Corporation ("Maxtor").
Net sales for the six months ended June 27, 1997 as compared to the six
months ended June 28, 1996 were negatively impacted by the failure of Maxtor and
Hyundai to purchase the volumes committed under the Maxtor Supply Agreement. In
June 1996, Maxtor notified the Company that it did not intend to purchase the
full committed volumes required by the Maxtor Supply Agreement. Maxtor
subsequently repudiated the Maxtor Supply Agreement. However, in the third
quarter of 1996 the Company continued to ship products to Maxtor (although in
lesser volumes and at lower average
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<PAGE> 9
selling prices than in the second quarter of 1996 and the comparable prior year
quarter). In September 1996, the Company filed a lawsuit in the United States
District Court of Northern California, San Jose Division, against Hyundai
Electronics Industries Co., Ltd., seeking damages caused by Hyundai's alleged
breach of the volume purchase contract among the Company, Hyundai, and its
wholly-owned subsidiary, Maxtor Corporation. The Company is seeking additional
customers to utilize the manufacturing capacity as it seeks to qualify its
products in additional new and existing customers' product programs.
Although the Company expanded its customer base during the first half
of 1997, some product qualifications that were expected to be completed were
not, resulting in lower than anticipated net sales. These qualification problems
are being addressed and the Company hopes to increase net sales during the
second half of 1997.
Gross Profit
The Company's gross profit decreased 158.2% to $(8.7) million for three
months ended June 27, 1997 from $14.9 million for the three months ended June
28, 1996. For the six months ended June 27, 1997, gross profit decreased 142.4%
to $(13.6) million from $32.0 million for the six months ended June 28, 1996.
Gross profit as a percentage of net sales for the three and six months ended
June 27, 1997 were (26.6%) and (20.4%) as compared to 25.8% and 26.9% for the
three and six months ended June 28, 1996. The principal factors contributing to
the decrease in gross profit were continuing decreased unit volumes as a result
of the failure of Maxtor to purchase the volumes committed to under the Maxtor
Supply Agreement and the resulting under-utilization of production capacity. As
a result of Maxtor's failure to purchase committed volumes, the Company's Tuas
facility in Singapore was significantly underutilized. Additionally, during the
first half of 1997, the Company significantly increased reserves for finished
goods inventory for certain products which were manufactured for specific
customer programs and may not be salable for those programs. The Company expects
gross margins in 1997 will remain at levels below those experienced in 1995 and
the first half of 1996 due primarily to the continuing excess manufacturing
capacity resulting from Hyundai's repudiation. The Company continues to seek to
expand its customer base to utilize this capacity. The Company expects that a
substantial portion of its shipments in the remainder of 1997 will be of new
products for new and existing customers. New products often initially have lower
manufacturing yields, initially are produced in lower quantities than more
mature products and, as a result, initially have lower gross margins.
Manufacturing yields and gross margins generally improve as the product matures
and production volumes increase.
Research and development
Research and development expenses decreased 21.2% to $3.5 million for
the three months ended June 27, 1997 from $4.4 million for the three months
ended June 28, 1996, increasing as a percentage of net sales to 10.7% for the
three months ended June 27, 1997 from 7.7% for the comparable prior year three
month period. For the six months ended June 27, 1997, research and development
expenses decreased 17.9% to $6.7 million from $8.1 million for the six months
ended June 28, 1996, increasing as a percentage of net sales to 10.0% for the
six months ended June 27, 1997 from 6.8% for the comparable prior year six month
period. The decrease in research and development expense was due primarily to
the reduction in the volume of samples produced.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased 16.5% to $2.5
million for the three months ended June 27, 1997 from $2.1 million for the three
months ended June 28, 1996, increasing as a percentage of net sales to 7.6% for
the three months ended June 27, 1997 from 3.7% for the comparable prior year
three month period. For the six months ended June 27, 1997, selling, general &
administrative expenses increased 15.3% to $4.8 million from $4.2 million for
the six months ended June 28, 1996, increasing as a percentage of net sales to
7.2% for the six months ended June 27, 1997 from 3.5% for the comparable prior
year six month period. The increase in selling, general and administrative
expenses are due primarily to increased staffing in Singapore and increased
professional fees.
Bad Debt Expense
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The Company charged $5.4 million to bad debt expense during the three
months ended June 27, 1997, representing 16.7% of net sales. Such charges were
for reserves related to receivables on sales of certain products for which the
Company may not receive payment.
Interest, Net
Interest, net for the three months ended June 27, 1997 was $0.8 million
net expense compared to $0.8 million net income for the three months ended June
28, 1996. Interest, net for the six months ended June 28, 1997 was $1.4 million
net expense compared to $1.3 million net income for the comparable prior year
six month period. The change was primarily attributable to lower net cash levels
during the three months and six months ended June 27, 1997 as compared to the
comparable prior year three and six months periods.
Income Tax Expense
The Company's effective tax rate (which includes federal and state
income tax expense) for the three and six months ended June 28, 1996 were 15%
and 17.8%, respectively. The Company has been granted a seven year tax holiday
in Singapore which expires in 2005. The benefit of the Company's income tax
holiday in Singapore is the primary factor contributing to the lower tax rate.
The Company's tax benefit recorded for the six months ended June 27, 1997
approximates expected recoverability on previously paid taxes.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents and short-term investments of $23.4 million
as of June 27, 1997 decreased $24.3 million from December 31, 1996, primarily
due to the acquisition of plant and equipment offset by changes in working
capital.
During the six months ended June 27,1997, the Company used $6.9 million
in operating activities. Uses included $30.2 million of net loss, $6.5 million
increase in inventory, offset by $14.7 million of depreciation and amortization
and a $7.0 million decrease in accounts receivable.
The Company used $12.2 million in investing activities for the six
months ended June 27, 1997. Investing activities consisted primarily of
investments of $19.2 million for capital expenditures for facilities expansion
for its Singapore operations, including its substrate facility, offset by $7.1
million sale of short-term investments. While the Company has invested $19.2
million in acquisition of plant and equipment for the six months ended June 27,
1997, capital expenditures are being reduced to better align the resources and
expenses with sales expectations. Capital expenditures are expected to
approximate no more than $35 million during 1997, primarily for maintenance
capital in Singapore and Santa Clara, California. The Company had $8.2 million
of noncancellable purchase commitments for replacement of existing plant and
equipment outstanding at June 27, 1997.
The Company's principal sources of liquidity at June 27, 1997 consisted
of $23.4 million of cash and cash equivalents and short-term investments. The
Bank Group led by CIBC Wood Gundy, an affiliate of Canadian Imperial Bank of
Commerce and Banque National de Paris (the "Banks") funded the $50.0 million
Term Loan Facility in August 1996. The Term Loan Facility has a three year term,
bears an interest rate of LIBOR plus 3% and is secured by the Company's assets
located in Singapore and is guaranteed by the parent. In July 1997, the Company
terminated its $25.0 million Revolving Credit Facility with the Banks. For the
three months ended March 28, 1997, the Banks granted the Company waivers of
certain financial covenants and subsequently amended certain financial covenants
of the Term Loan Facility. For the three months ended June 27, 1997, the Banks
granted the Company a thirty day waiver of certain financial covenants. The
Company is currently in discussions with the Banks to revise certain financial
covenants under an amendment to the Term Loan Facility. There can be no
assurance that the Banks will continue to provide such waivers. Should the
Company be in noncompliance with such financial covenants in the future, the
inability to receive such waivers could put the Company in default under the
Term Loan Facility. A default under this facility could have a material adverse
effect on the Company's business, results of operations and financial condition.
In light of the Company's recent actions to reduce costs, expenses and
capital expenditures, the Company believes that the existing cash balances and
cash flow from operations will be sufficient to meet the Company's operating and
capital expenditure requirements for the next twelve months. If the Company
requires additional capital, it may require additional debt or equity financing.
There can be no assurance that such financing will be available to the Company
or, if available, will be available on terms which are favorable to the Company
or its stockholders. If the Company is unable to obtain sufficient capital, it
could be required
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<PAGE> 11
to curtail its capital equipment, reduce its work force, close plants, working
capital and research and development expenditures which could adversely affect
the Company's future years' operations and competitive position.
FACTORS AFFECTING OPERATING RESULTS
Dependence on a Limited Number of Customers. During 1996, the Company
sold its disks primarily to Seagate Technology, Inc. ("Seagate") and Maxtor
Corporation ("Maxtor"). Aggregate sales to Seagate and Maxtor in 1995 and 1996
represented 99% and 98% respectively, of net sales. During the first half of
1997, sales to Seagate and Micropolis represented 66% and 19%, respectively, of
net sales. While the Company continues to seek additional customers to utilize
the manufacturing capacity in which it has been manufacturing products for
Maxtor, there are a relatively small number of independent high performance disk
drive manufacturers. Accordingly, the Company's dependence on a few customers
will continue in the future. The significant reduction in purchases by Maxtor
and its repudiation of the Maxtor Supply Agreement has and will materially
adversely affect the Company's operating results at least through the end of
1997. The Company's existing and several of its potential customers are
expanding their ability to produce thin film disks internally and, as a result,
could reduce the level of purchases or cease purchasing from the Company, could
sell thin film disks in competition with the Company or might not sustain or
increase their level of orders. The loss of any of the Company's current
customers or of any significant future customer, the inability to design into
new customers' products, or a significant reduction in the level of orders for
any reason would materially adversely affect the Company's business, operating
results and financial condition. Additionally, due to the lengthy product
qualification process, changes in customers or product mix could have a material
adverse effect on the Company's business, results of operations and financial
condition during any such transition. Consequently, the loss of Seagate or one
or more of the Company's current or potential customers through consolidations,
adverse financial or market circumstances or otherwise, would have a material
adverse effect on the Company's business, results of operations and financial
condition.
Specifically, Seagate currently produces a portion of its own thin film
disk requirements internally and historically has produced a majority of its
requirements. Seagate's expressed corporate strategy has been to significantly
increase its internal capacity to manufacture disks through construction of a
disk manufacturing facility in Singapore, which was completed in September 1996.
In February 1996, Seagate also completed its merger with Conner Peripherals,
Inc. ("Conner") and acquired Conner's internal disk production capacity, which
supplied substantially all of Conner's disk requirements. In addition, prior to
the merger, Conner had stated its intention to double its internal disk capacity
through a newly established facility in Singapore and this facility has begun
producing disks. Seagate's increased internal disk manufacturing capacity as
described above may reduce Seagate's disk needs from external suppliers. If
Seagate were to reduce the level of orders from the Company as a result of the
expansion of its internal disk production, an acquisition of, or the
establishment of a strategic relationship with, another disk supplier or
otherwise, or if Seagate were to begin selling disks in competition with the
Company, the Company's business, results of operations and financial condition
would be materially adversely affected.
Rapid Changes in Customer and Product Mix; Risks of Qualification
Process. Due to the rapid and frequent development of new disk drive products,
it is common in the industry for the relative mix of customers and products to
change rapidly, even from quarter to quarter. For example, in the fourth quarter
of 1996 sales to Seagate represented approximately 95% of net sales, while in
the first quarter of 1997 sales to Seagate and Micropolis represented
approximately 56% and 21% of net sales, respectively. In addition, the Company's
unit sales of MR disks represented 0% of units sold in the second quarter of
1996 compared to 77% of units sold for the comparable quarter of 1997. At any
one time the Company typically supplies
-11-
<PAGE> 12
disks in volume for only five to ten disk drive products, with the mix of such
products shifting continually. Disk drive manufacturers demand a variety of thin
film disks with differing design, performance and cost characteristics. Thin
film disk suppliers, such as the Company, are required to work closely with such
manufacturers in order to develop products that will be used in the
manufacturers' designs. Thin film disk suppliers seek to have their products
"designed in" to a particular disk drive and to be qualified as a primary
supplier for new programs. The design-in process is ongoing, lengthy and
frequent and the Company must compete for participation in each product program
including those of existing customers. As discussed above, Maxtor has terminated
the Maxtor Supply Agreement. The Company continues to seek additional customers
to utilize the manufacturing capacity in which it had been manufacturing
products for Maxtor. While Seagate and other customers have taken a portion of
this capacity, the Company continues to have excess manufacturing capacity as it
seeks to qualify its products in product programs of both new and existing
customers. Qualification is a costly and time consuming process and there can be
no assurance that the Company will successfully find new customers or
successfully qualify its products in their product programs on a timely basis or
with acceptable yields. While the Company expanded its customer base during the
first half of 1997, some product qualifications that were expected to be
completed were not and, as a result, unit volumes were less than projected by
the Company, negatively impacting net sales. The Company is in various stages of
product qualifications with other potential customers and expects to commence
shipping under certain of these programs in the second half of 1997. However,
the qualification of new products is a costly and time consuming process and
there can be no assurance that the Company will successfully continue to find
new customers or successfully qualify its products in their product programs on
a timely basis. In the event the Company's products do not become qualified or
designed into or qualified in a particular disk drive program on a timely basis,
the Company could be excluded as a supplier of disks for such program entirely
or could become a secondary source of supply for such program, which typically
results in lower sales and lower gross margins. Consistent inability to become
qualified or designed into a disk drive program would have a material adverse
effect on the Company's business results of operations and financial condition.
Consolidation Within the Disk Drive Industry. Consolidation within the
disk drive industry has reduced the number of potential customers to whom the
Company could market its products. In addition to the Seagate acquisition of
Conner, Quantum Corporation ("Quantum") closed all of its manufacturing
operations in the United States and overseas and transferred all manufacturing
production to Matsushita Kotobuki Electronics of Japan ("MKE"), its long-term
contract manufacturing partner. While Quantum was a customer of the Company in
1994, MKE has never been a significant customer of the Company. Additionally,
during 1995 Maxtor was acquired by Hyundai, which is building a manufacturing
facility to manufacture disks for Maxtor disk drives. Given the relatively small
number of independent hard disk drive manufacturers who require an independent
source of thin film disks, as well as the consolidations and changes which have
occurred and are continuing to occur in the industry, there can be no assurance
that the Company's efforts to diversify its customer base will be successful. If
they are not successful, the Company will continue to be dependent on a
relatively limited number of customers, the loss of, or the reduction in orders
by, any one of which could have a material adverse effect on the Company's
business, results of operations and financial condition.
Uncertainties Associated with Supply Agreement with Seagate. In June
1995, the Company entered into a Supply Agreement with Seagate (the "Seagate
Supply Agreement,") pursuant to which the Company has established a
manufacturing facility in Singapore dedicated to manufacturing disks for Seagate
(the "Dedicated Facility"). The Company has expended significant financial and
management resources to construct and operate at such facility. While Seagate
continues to be required to purchase certain volumes of disks through March 31,
1999, Seagate and the Company recently amended and restated the Seagate Supply
Agreement (the "Amended Agreement") to allow the Company to manufacture disks
for Seagate at any one of its three facilities, subject to qualification. The
Amended Agreement also eliminates the pricing formula of the Seagate Supply
Agreement. All of the products manufactured under the Amended Agreement must
still be qualified by Seagate before products can be delivered to Seagate. To
the extent that the Company's facilities do not become qualified in Seagate's
programs, Seagate would have no commitment to purchase volumes of disks under
the Amended Agreement. Any continued failure to qualify into Seagate's product
programs or to qualify the Company's facilities with Seagate would have a
material adverse effect on the Company's business, results of operating and
financial condition. See "--Variability in Gross Margins and Operating Results."
Uncertainties Associated with Agreement with Micropolis. In December
1996, the Company entered into a multi-year agreement with Micropolis, a
manufacturer of digital audio/video disk drives (the "Micropolis Agreement").
Under the terms of the Micropolis Agreement, the Company will set up and operate
a 15,000 square foot thin film manufacturing facility (the "Micropolis
Facility") within Micropolis' 400,000 square foot disk drive manufacturing plant
in Singapore. Micropolis has agreed to purchase all of the disks manufactured at
the Micropolis Facility through December 31, 1999, provided that each product
must still be qualified by Micropolis. In addition, the Company has agreed to
supply Micropolis with specified volumes from its other facilities until the
Micropolis Facility is completed, subject to prior qualification of such
products.
-12-
<PAGE> 13
During the six months ended June 27, 1997, sales to Micropolis represented 19%
of net sales. The Company believes that the Micropolis Agreement will result in
savings for both companies in areas such as packaging, transport and response
time. While the Company has set up two other manufacturing facilities in
Singapore, this will be the first time in the industry and for the Company to
build a manufacturing facility in a customer's manufacturing plant. The Company
expects that the Micropolis Facility will begin furnishing Micropolis with a
portion of its thin film requirements in the third quarter of 1997. The Company
currently has manufacturing capacity located in Singapore that is
under-utilized, a portion of which has been used to manufacture disks for
Micropolis. Unless the Company is able to qualify additional customers to
utilize this and other currently under-utilized capacity, the Company's gross
profits and results of operations will continue to be adversely impacted by
under-utilized capacity.
Variability in Gross Margins and Operating Results. The Company's gross
margins have fluctuated and will continue to fluctuate quarterly and annually
based upon a variety of factors such as the level of utilization of the
Company's production capacity, changes in product mix, average selling prices,
demand or manufacturing yields, increases in production and engineering costs
associated with initial production of new programs, changes in the cost of or
limitations on availability of materials and labor shortages. During 1995, 1996,
and the first half of 1997, the Company reported a gross margin of 27.0%, 17.3%
and (20.4)%, respectively. The Company's gross margins in the first half of 1997
continued to be lower than the levels experienced in 1995 and 1996 primarily due
to Maxtor's termination of the Maxtor Supply Agreement and the continued
resulting under-utilization of production capacity. While the Company has taken
and is continuing to take steps to better align its resources and expenses with
sales expectations and reduce its costs and expenses, its operations have a high
level of fixed costs and expenses. Operating below capacity has had a
significant impact on gross margins. If the Company continues to have excess
production capacity, the Company's business, results in operations and financial
condition will continue to be materially adversely affected.
Generally, new products, which have been designed into its customers'
products, have higher average selling prices than more mature products.
Therefore, the Company's ability to introduce new products, and become designed
into its customers' programs, in a timely fashion is an important factor in its
ability to maintain gross and operating margins. Moreover, manufacturing yields
and production capacity utilization impact the Company's gross margins. New
products often initially have lower manufacturing yields, are produced in lower
quantities and generally have lower gross margins than more mature products. The
Company expects that a substantial portion of its shipments in the second half
of 1997 will be of new products and will negatively impact the Company's overall
yield at least for that period. Manufacturing yields also vary depending on the
complexity and uniqueness of product specifications. Because the thin film disk
industry is capital intensive and requires a high level of fixed costs, gross
margins are also extremely sensitive to changes in volume. Assuming fixed
product prices, small variations in manufacturing yields and productivity
generally have a significant impact on gross margins. Additionally, decreasing
demand for the Company's products generally results in reduced average selling
prices and low capacity utilization which, in turn, adversely affects gross
margins and operating results. Despite the Seagate Supply Agreement, as amended
and restated, and the Micropolis Agreement, a significant portion of the
Company's business is also characterized by short term orders and shipment
schedules which typically can be modified or rescheduled without significant
penalty to the customer. Therefore, the Company typically plans its production
and inventory based on forecasts of customer demands, which often fluctuate
substantially. These factors have caused and will continue to cause fluctuations
in the Company's gross margins and results of operations. See "--Dependence on a
Limited Number of Customers," "Uncertainties Associated with Supply Agreement
with Seagate" and "Uncertainties Associated With Agreement With Micropolis."
Dependence on Intensely Competitive Hard Disk Drive Industry; Risk of
Excess Industry Capacity. The demand for the Company's thin film disks depends
solely upon the demand for hard disk drives. This market is characterized by
short product life cycles and rapid technological change and has experienced
large fluctuations in product demand. The disk drive industry also has been
characterized by periods of oversupply, reductions in customer forecasts, price
erosion and reduced production levels. The effect of these cycles on suppliers,
including thin film disk manufacturers, has been magnified by hard disk drive
manufacturers' practice of ordering components in excess of their needs during
periods of rapid growth, which increases the severity of the drop in the demand
for components during periods of contraction. The effect of these cycles may be
magnified by increased disk production capacity. During 1995 and 1996, the
Company's principal customers and
-13-
<PAGE> 14
many of its competitors and potential customers engaged in substantial efforts
to increase disk manufacturing capacity in light of the then imbalance between
previously existing levels of demand for disks and existing industry capacity.
These efforts are resulting in significant excess capacity in the industry. To
the extent industry capacity exceeds demand, resulting in significant excess
capacity, there has been increased levels of competition in the industry which
has negatively impacted prices of disks. Continuation of this trend would
materially adversely impact the Company's business, results of operations, and
financial condition. In addition, in the event of an oversupply of disks,
customers who have developed an internal supply of disks are likely to utilize
their internal capacity prior to purchasing disks from independent suppliers
such as the Company.
Rapid Technological Change. The thin film disk industry is characterized
by rapid technological change, short product life cycles, and price erosion.
Product lives are typically six to twelve months in duration. Although the
Company is continually developing new products and production techniques, there
can be no assurance that the Company will be able to anticipate technological
advances and develop products incorporating such advances in a timely manner,
with acceptable yields or to compete effectively against competitors' new
products. In addition, there can be no assurance that the Company's new products
can be produced in full volume at reasonable yields or that the Company will
develop new products or processes which ultimately are adopted by the industry.
The Company's operating results and financial condition could be materially
adversely affected if these efforts are not successful or if the technologies
that the Company has chosen not to develop prove to be competitive alternatives.
See "--Variability in Gross Margins and Operating Results."
Intense Competition. The disk drive industry and thin film disk industry
are both characterized by intense competition. The Company's primary competitors
are Akashic Memories Corporation, Fuji Electric Company Ltd., HMT Technology
Corporation, Hoya Corporation, Komag Incorporated, Mitsubishi Kasei Corporation
and Showa Denko K.K. among independent disk manufacturers. Most of these
companies have significantly greater financial, technical and marketing
resources than the Company. IBM and several disk drive manufacturers, including
Seagate and Western Digital Corporation, currently produce thin film disks
internally for their own use. Seagate's expressed corporate strategy is to be
vertically integrated for a majority of its disk drive components and to pursue
sales to third parties of its disk drive components. Hyundai is building a
manufacturing facility for use in Maxtor disk drives supplementing Maxtor's
current supplier base. These companies could increase their internal production
to supply their requirements and cease purchasing from independent disk
suppliers. Moreover, these companies could make their products available for
distribution in the market as direct competitors of the Company. Additionally,
other disk drive manufacturers, such as Quantum, may decide to produce disks for
internal use. Any of these changes would reduce the already small number of
current and potential customers and increase competition for the remaining
market. Such competition could materially adversely affect the Company's
business and results of operations. See "-- Dependence on a Limited Number of
Customers" and "-- Consolidation Within the Disk Drive Industry."
Dependence on Suppliers. The Company relies on a limited number of
suppliers and, in some cases, a sole supplier, for certain materials used in its
manufacturing processes, including glass/ceramic substrates, plating chemicals,
tapes, slurries, certifier beads, sputter targets and certain other materials.
In addition, the Company relies on a single source for most of its equipment. In
the past, the Company has had to provide financial assistance to equipment
vendors in order to maintain sources for such equipment. Shortages may occur in
the future or supplies could be available only with lead times of approximately
three to six months. Changing suppliers for certain materials such as the lube
or buffing tape used in the Company's products would require that the product be
requalified with each customer. Requalification could prevent early design-in
wins or could prevent or delay continued participation in disk drive programs
into which the Company's products have been qualified. In addition, long lead
times of three to six months are required to obtain many materials. Regardless
of whether these materials are available from established or new sources of
supply, these lead times could impede the Company's ability to respond quickly
to changes in demand. Any limitations on the supply of components, materials or
equipment could disrupt or limit the Company's production volume and could have
a material adverse effect on the Company's business, results of operations and
financial condition. Further, a significant increase in the price of one or more
of these components could adversely affect the Company's results of operations.
Risks Associated With New Substrate Facility. The Company has begun
operations at its substrate manufacturing facility in Singapore and expects it
to become fully operational during the third quarter of 1997. This facility
continues to require the expenditure of significant management resources. In
addition to the usual risks of establishing a new
-14-
<PAGE> 15
manufacturing facility, such as the completion of the buildings, installation of
equipment, implementation of systems, procedures and controls and the hiring and
training of qualified personnel, there are unique risks associated with this
facility. First, the Company is vertically expanding its business to include the
process of grinding aluminum blanks which occurs prior to the nickel plating
process. While the Company believes it has the expertise to establish this
process, it has incurred delays and lower yields than expected during its
start-up phase. Second, the facility is being established in Singapore and will
be the first facility of this type in Singapore. There can be no assurance that
the Company will not continue to experience delays and other start-up
difficulties or that once the facility is fully operational that it will produce
high quality and low cost aluminum substrates. Manufacturing and other problems
which occur in connection with the commencement and expansion of operations at
this facility could materially adversely affect the Company's results of
operations and financial condition.
Future Capital Needs. The disk industry is capital intensive and the
Company expects to require significant additional financial resources over the
next several years for capital expenditures, working capital and research and
development. The Company spent approximately $78.1 million on capital
expenditures during 1996 for expansion of its facilities including investments
in Singapore and other capital expenditures. Capital expenditures are expected
to approximate no more than $35 million during 1997, primarily for the
maintenance capital in Singapore and Santa Clara, California. In light of the
Company's recent actions to reduce costs, expenses and capital expenditures, the
Company believes it will be able to fund these expenditures from a combination
of existing debt financing, cash balances and cash from operations. If these
funds are insufficient to finance the Company's requirements, the Company would
be required to seek additional debt or equity financing. There can be no
assurance that such financing will be available to the Company or, if available,
will be available on favorable terms to the Company and its Stockholders.
Dependence on Personnel. The Company's future operating results depend
in significant part upon the continued contributions of its officers and
personnel, many of whom would be difficult to replace. At present the Company
does not have employment agreements with any employee. The Company maintains a
$4.0 million key person life insurance policy (with $3.0 million of proceeds
payable to the Company) on the life of its Chairman of the Board and Chief
Executive Officer, William J. Almon, but not on the lives of other key persons.
The loss of any of its officers or other key personnel could have a material
adverse effect on the business, financial condition and results of operations of
the Company. In addition, the production of thin film disks requires employees
skilled in highly technical and precise production processes with expertise
specific to thin film disk production. The Company's future operating results
depend in part upon its ability to attract, train, retain and motivate other
qualified management, technical, manufacturing, sales and support personnel for
its operations both in California and in Singapore. Competition for such
personnel is intense, especially since many of the Company's competitors are
located near the Company's facilities in Santa Clara, California. There can be
no assurance that the Company will be successful in attracting or retaining such
personnel. Hiring qualified personnel in Singapore is made more difficult
because Singapore has substantially full employment at the present time and
because the Company was the first manufacturer of thin film disks and is the
first manufacturer of substrates with operations in Singapore. The loss of the
services of existing personnel as well as the failure to recruit, train and
retain additional personnel in a timely manner could have a material adverse
effect on the Company's business, results of operations and financial condition.
Intellectual Property and Proprietary Rights. The Company regards
elements of its manufacturing process, product design and equipment as
proprietary and seeks to protect its proprietary rights through a combination of
employee and third party non-disclosure agreements, internal procedures and,
increasingly, patent protection. The Company has had five U.S. patents issued to
it, and has seventeen additional patent applications (three of which are
provisional applications) pending in the United States. The Company intends to
file additional U.S. applications as appropriate for patents covering its
products and manufacturing processes. There can be no assurance that patents
will be issued with respect to any of the Company's allowed patent applications,
that patents will be issued or be allowed with respect to any of the Company's
other pending applications, or that claims allowed on any existing or future
patents will be sufficiently broad to protect the Company's technology. There
can also be no assurance that any patents now or hereafter held by the Company
will not be challenged, invalidated or circumvented, or that the rights granted
thereunder will provide proprietary protection to the Company. In addition, the
laws of certain foreign countries may not protect the Company's proprietary
rights to the same extent as do the laws of the United States. Although the
Company continues to implement protective measures and intends to defend its
proprietary rights, there can be no assurance that these measures will be
successful. The Company believes,
-15-
<PAGE> 16
however, that, because of the rapid pace of technological change in the disk and
disk drive industries, the legal protections for its products are less
significant factors in the Company's success than the innovative skills,
experience and technical competence of its employees.
The Company has from time to time been notified of, or has otherwise
been made aware of, claims that it may be infringing upon patents or other
proprietary intellectual property owned by others. If it appears necessary or
desirable, the Company may seek licenses under such patents or proprietary
intellectual property. Although patent holders commonly offer such licenses, no
assurance can be given that licenses under such patents or proprietary
intellectual property will be offered or that the terms of any offered licenses
will be acceptable to the Company. The Company has been contacted by IBM
concerning the Company's interest in licensing a patent. Based upon an opinion
of its patent counsel, the Company believes that no license is required because
the Company does not believe that it is practicing any invention covered by the
IBM patent. There can be no assurance, however, that IBM will not pursue its
claim. Additionally, Virgle L. Hedgcoth has allegedly patented certain disk
preparation techniques (the "Hedgcoth Patents") and has asserted that the
Company is infringing such patents. Mr. Hedgcoth has since asserted patent
infringement claims against certain disk drive manufacturers, including one
customer of the Company who has demanded that the Company defend and indemnify
it in the patent litigation. The Company believes that the Hedgcoth Patents are
not valid because of prior commercial activities by other companies utilizing
the technology covered. However, should Mr. Hedgcoth prevail in such litigation
and elect to pursue the Company, the Company would be forced to either litigate
any infringement claims, execute a license, if available, or design around the
patents, which the Company believes is possible, and may be required to
indemnify its customers. The failure to obtain a key patent license or a license
to key proprietary intellectual property from a third party could cause the
Company to incur substantial liabilities and possibly to suspend the manufacture
of the products utilizing the patented or proprietary invention either of which
could have a material adverse effect on the Company's business, results of
operations and financial condition.
Environmental Issues. The Company's operations and manufacturing
processes are subject to certain federal, state, local and foreign environmental
protection laws and regulations. These laws and regulations relate to the
Company's use, handing, storage, discharge and disposal of certain hazardous
materials and wastes, the pre-treatment and discharge of process waste waters,
and the control of process air pollutants. The Company has from time to time
been notified of minor violations concerning its waste water discharge permits,
air quality regulations and hazardous material regulations. The Company has
implemented corrective action plans to remedy these violations and has put in
place procedures to effectuate continued compliance with these laws and
regulations. The Company has also initiated safety programs and training of
personnel on safe storage and handling of hazardous materials and wastes. The
Company believes that it is in compliance in all material respects with
applicable environmental regulations and does not anticipate any material
capital expenditures for environmental related matters. Environmental laws and
regulations, however, may become more stringent over time and there can be no
assurances that the Company's failure to comply with either present or future
regulations would not subject the Company to significant compliance expenses,
production suspensions or delay, restrictions on expansion at its present
locations or the acquisition of costly equipment.
The Company's Santa Clara, California facility is located near major
earthquake faults. Disruption of operations at any of the Company's production
facilities for any reason, including work stoppages or natural disasters such as
fire, floods or earthquakes, would cause delays in or an interruption of
production and shipment of products and would negatively affect the Company's
business, results of operations and financial condition.
Risks of International Sales and Manufacturing. In 1995, 1996 and the
first half of 1997, international sales (sales delivered to customers in the
Far East and Ireland, including foreign subsidiaries of domestic companies)
accounted for over 95% of the Company's net sales, and the Company anticipates
that international sales will continue to represent the substantial majority of
its net sales. Accordingly, the Company's operating results are subject to the
risks inherent in international sales, including compliance with or changes in
the law and regulatory requirements of foreign jurisdictions, fluctuations in
exchange rates, tariffs or other barriers, exposure to taxes in multiple
jurisdictions and transportation delays and interruptions. Although presently
all of the Company's sales are made in U.S. dollars, including sales from its
Singapore facility, a portion of the Company's expenses must be paid in
Singapore dollars. Future international sales may be denominated in foreign
currencies. Gains and losses on the conversion to U.S. dollars of accounts
receivable and accounts
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<PAGE> 17
payable arising from international operations may contribute to fluctuations in
the Company's results of operations. Additionally, the Company's international
business may be materially adversely affected by fluctuations in currency
exchange rates, increases in duty rates, exchange or price controls or other
restrictions on foreign currencies and difficulties in obtaining export
licenses. Moreover, a significant portion of the Company's manufacturing
operations are located in Singapore which requires the Company to continually
implement and monitor new systems, procedures and controls. These risks are
exacerbated by the distance of the Singapore facilities from the Company's
California headquarters, the fact that the Company was the first thin film disk
manufacturer and is the first substrate manufacturer with a facility in
Singapore and the fact that Singapore has substantially full employment. These
risks will increase as production in Singapore increases as a percentage of the
Company's overall sales. Due to the anticipated concentration of the Company's
manufacturing operations in Singapore, the impact of the foregoing factors on
the Company's business, results of operations and financial condition could be
material and adverse.
Volatility of Stock Price. The trading price of the Company's Class A
Common Stock has been volatile since the Company's initial public offering in
May 1995 and has been and is likely to continue to be subject to wide
fluctuations in response to a variety of factors, including quarterly variations
in operating results, revised earnings estimates, volume purchase agreements,
announcements of changes in capacity, new customers, consolidations in the
industry, technological innovations or new products by the Company or its
competitors, developments in patents or other intellectual property rights,
general conditions in the disk drive or computer industry, comments or
recommendations issued by analysts who follow the Company, its competitors or
the disk drive industry and general economic and market conditions. In addition,
it is possible that from time to time the Company's operating results may be
below the expectations of public market analysts and investors. In such event,
the price of the Company's Class A Common Stock could be materially adversely
affected. Additionally, the stock market in general, and the market for
technology stocks in particular, have experienced extreme price volatility in
recent years. Volatility in price and volume has had a substantial effect on the
market prices of many technology companies for reasons unrelated or
disproportionate to the operating performance of such companies. These broad
market fluctuations could have a significant impact on the market price of the
Class A Common Stock.
-17-
<PAGE> 18
STORMEDIA INCORPORATED AND SUBSIDIARIES
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
STORMEDIA INCORPORATED V. HYUNDAI ELECTRONICS INDUSTRIES CO., ET AL.
On July 23, 1996, the Company was informed by Maxtor Corporation that
it intended to terminate a November 17, 1995 Volume Purchase Agreement between
Maxtor and Hyundai Electronics Industries Co. Ltd., on the one hand, and the
Company. Prior to such notification, Maxtor had failed to purchase in the
Company's second quarter the disks required to be purchased by it under the
Volume Purchase Agreement. As a consequence of Maxtor and Hyundai's breach of
the Volume Purchase Agreement, the Company on September 25, 1996 filed suit in
the United States District Court for the Northern District of California
against Hyundai, C.S. Park, K.S. Yoo and Mong Hun Chung alleging breach of the
Volume Purchase Agreement and fraud. The Complaint seeks damages in excess of
$206 million. Defendants Park and Yoo have answered the complaint, denying any
wrongdoing. Defendants Hyundai and Chung have moved to dismiss for insufficient
service of process. The court is scheduled to hear that motion on September 5,
1997. The Company intends to vigorously prosecute its claim.
MAXTOR CORPORATION V. STORMEDIA, INC., ET AL.
On December 19, 1996, Maxtor Corporation filed an action in Colorado
state court for the County of Boulder against the Company, its subsidiary,
StorMedia International Limited, and William J. Almon alleging breach of
contract, breach of warranty, fraud and negligent misrepresentation. The action
alleges that the Company's products failed to meet certain of Maxtor's
requirements under the November 17, 1995 Volume Purchase Agreement. The action
seeks compensatory damages of $100 million. The Colorado state court stayed all
proceedings in that action in favor of the above-described federal action
against Hyundai.
WEREZBERGER, ET AL. V. STORMEDIA INCORPORATED
On September 18, 1996, a purported securities class action complaint,
Werczberger, et al. v. StorMedia, Inc. et al., No. CV760825, was filed in the
Superior Court of the State of California in the County of Santa Clara (the
"State Complaint"). The State Complaint alleges that StorMedia and certain of
its officers and directors violated California state securities laws by making
false and misleading statements of material fact about StorMedia's prospects
between November 27, 1995 and August 9, 1996 and, in particular, allegedly
false statements regarding volumes of disks to be purchased by Maxtor and
Hyundai pursuant to the contract that is the subject of the two above-described
actions. The action is purportedly brought on behalf of all persons who
purchased StorMedia stock during that period. The Complaint seeks an
unspecified amount of damages. On March 21, 1997, the trial court overruled the
Company's demurrer to plaintiff's state law securities claim. On June 24,
1997, the Court of Appeal denied the Company's petition for a writ of mandate
with respect to the trial court's demurrer ruling.
On June 19, 1997, a purported class action complaint, Werezberger, et
al. v. StorMedia Inc., et al. No. C-97 20538, was filed in the United States
District Court, Northern District of California (the "Federal Complaint"). The
Federal Complaint alleges that StorMedia and certain of its officers violated
federal securities laws by making false and misleading statements of material
fact about StorMedia's prospects between November 27, 1995 and August 8, 1996.
The substantive allegations of the Federal Complaint are nearly identical to
those of the State Complaint. Defendants intend to defend both cases
vigorously.
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its 1996 Annual Meeting of Stockholders on April 24,
1997. The results of such meeting were reported in the Quarterly Report on Form
10-Q for the quarter ended March 28, 1997.
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<PAGE> 19
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits.
10.45* Supply Agreement between the Company and Seagate
Technology, Inc.
11.1 Statement regarding computation of earnings (loss) per
share
27.1 Financial Data Schedule
* Confidential treatment has been requested.
b. Reports on Form 8-K
None
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<PAGE> 20
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
STORMEDIA INCORPORATED
----------------------
(Registrant)
Date: August 11, 1997 By: /s/ Stephen M. Abely
--------------------------------------
Stephen M. Abely, Vice President
and Chief Financial Officer
(Principal Financial and
Accounting Officer)
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<PAGE> 21
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT PAGE
------- --------
<S> <C>
10.45* Supply Agreement between the Company and Seagate Technology, Inc........................
11.1 Statement regarding computation of earnings (loss) per share ...........................
27.1 Financial Data Schedule.................................................................
</TABLE>
*Confidential Treatment has been requsted
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<PAGE> 1
EXHIBIT 10.45
SUPPLY AGREEMENT
BETWEEN
STORMEDIA INCORPORATED
AND
SEAGATE TECHNOLOGY, INC.
This Supply Agreement ("Agreement") is entered into by and between StorMedia
Incorporated, a Delaware corporation ("StorMedia") and Seagate Technology, Inc.,
a Delaware corporation ("Seagate"). This agreement is effective as of January 1,
1997.
WHEREAS, Seagate makes and sells computer storage devices which utilize
thin film disks, and
WHEREAS, StorMedia is a manufacturer of thin film disks for hard disk
drives and wishes to sell such thin film disks to Seagate.
NOW, THEREFORE, for good and valuable consideration, the receipt of
which is hereby acknowledged, the parties agree as follows:
1. DEFINITIONS
1.1 Products. 2.5 inch and 3.5 inch aluminum and
glass/ceramic substrate thin film disks and such other disk products as the
parties shall hereafter agree in writing manufactured by StorMedia.
1.2 Shipment Date. The date as of which Product is
shipped by StorMedia for delivery to Seagate.
2. PURCHASE COMMITMENT
2.1 Purchase Commitment. StorMedia shall perform Product
qualification in a timely manner to ensure that Product meets Seagate
specifications. Seagate shall purchase, from any qualified StorMedia facility,
[*] disks each fiscal month. The [*] disks per month is based on the assumption
that Seagate purchases [*] 3.5 inch aluminum disks and [*] 2.5 inch aluminum
disks each fiscal month and that StorMedia has qualified Product in a timely
manner. The purchase commitment is, therefore, contingent upon timely Product
qualification.
2.2 Supply Commitment. During the term of this Agreement,
and for so long as Seagate is not in breach of this Agreement, StorMedia shall
reserve for Seagate [*] disks per month capacity subject to Paragraphs 3.1 and
3.2.
[*] Confidential treatment has been requested.
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3. FORECASTS AND PURCHASE ORDERS
3.1 Forecasts. The parties shall periodically agree to a
reasonable forecasting procedure.
3.2 Purchase Orders. Seagate shall order Products by
issuing written purchase orders ("Purchase Orders"). StorMedia shall ship
Products in accordance with such Purchase Orders. Purchase Orders must be placed
thirty (30) days in advance of the Shipment Date set forth in the applicable
Purchase Order. Seagate may request a Shipment Date with a shorter lead time and
StorMedia shall use its best efforts to meet such date.
3.3 Terms of Purchase Orders. Purchase Orders shall
include the Products being purchased, quantity requested, price to be paid under
the invoice and destination address and requested Shipment Date(s).
3.4 General Terms and Conditions. Purchase Orders will be
governed by the terms of this Agreement notwithstanding any contrary terms and
conditions contained in the Purchase Order or Order Acknowledgment unless
otherwise mutually agreed in writing.
3.5 Shipment. StorMedia shall deliver the Products to
Seagate F.O.B., StorMedia's facility. Seagate shall bear all freight, insurance,
duty and associated shipping and delivery charges from the Facility.
4. PRODUCT PRICE
Price. Prices will be set [*], in U.S. dollars, once every [*]
StorMedia represents that the prices charged will be the lowest price offered by
StorMedia, with terms no less favorable than accorded to any other similarly
situated customer. If StorMedia offers any customer lower prices and/or more
favorable terms and conditions, it shall make those same prices, terms and
conditions available to Seagate effective as of the date they were available to
the other customer.
5. TERM AND TERMINATION
5.1 Term. This Agreement shall terminate on March 31,
1999.
5.2 Termination. This Agreement may be terminated prior
to the end of its term by either party if the other party is in material default
of this Agreement and such default is not corrected within thirty (30) days of
receipt of written notice setting forth such default. Such termination shall be
effected by delivery to the defaulting party of written notice of termination.
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*Confidential treatment requested.
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6. CONFIDENTIAL INFORMATION
6.1 Disclosure. The parties intend to disclose to each
other certain Confidential Information (as defined below) in the course of the
relationship established hereunder.
6.2 Definition. As used herein, "Confidential
Information" shall include all proprietary information, technical data, trade
secrets or know-how disclosed by StorMedia or Seagate hereunder, (including
without limitation, research results, product plans, products, services,
software, inventions, processes, formulas, technology, designs, drawings,
hardware configuration information, and marketing, finance or other business
information), which will be marked or labeled clearly as "CONFIDENTIAL" or with
a similar legend. Any proprietary or confidential disclosure that is made orally
or by visual inspection of equipment or parts shall be promptly confirmed and
summarized in writing within thirty (30) days of disclosure by the disclosing
party if such disclosure is to be included within the Confidential Information
under this Agreement. Confidential Information shall not include information
which the receiving party demonstrates is: (a) already in the possession of the
receiving party at or before the time of disclosure hereunder as shown by the
receiving party's files existing at the time of disclosure; or (b) publicly
known prior to or after the time of disclosure through no wrongful act of the
receiving party; or (c) lawfully received by the receiving party from a third
party without obligation of confidence; or (d) independently developed by the
receiving party without use of the Confidential Information of the disclosing
party; (e) approved for release by written authorization of the disclosing
party; or (f) ordered disclosed by the valid legal process of a court or
governmental agency having jurisdiction; provided, however, that the receiving
party shall notify the disclosing party in advance of any such disclosure and
shall use its reasonable best efforts to obtain confidential treatment of any
such disclosure.
6.3 Use of Confidential Information. StorMedia and
Seagate each agree that at all times, and notwithstanding any termination,
expiration, or cancellation hereunder, it will hold in strict confidence and not
disclose to any third party Confidential Information of the other, except as
approved in writing by the other party to this Agreement, and it will use the
Confidential Information for no purpose other than pursuing the transactions and
relationship contemplated by this Agreement. The parties shall maintain
reasonable procedures to prevent accidental or other loss of any Confidential
Information of the other party and shall exert at least the same degree of care
as it uses to protect its own Confidential Information.
6.4 Return of Materials. Upon termination, cancellation
or expiration of this Agreement, or upon written request of the other party,
each party shall promptly return to the other all documents or other tangible
materials representing the other's Confidential Information and all copies
thereof.
6.5 No License. The parties recognize and agree that
nothing contained in this Agreement shall be construed as granting any property
rights, by license or otherwise, to any Confidential Information of the other
party disclosed pursuant to this Agreement, or to any invention or any patent
right that has issued or that may issue, based on such Confidential Information.
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6.6 Term of Nondisclosure Obligation. Notwithstanding the
term of this Agreement, the obligations of the Company and Recipient hereunder
with respect to any Confidential Information shall continue for a period of
three (3) years from the date such Confidential Information was disclosed to it
hereunder.
7. NOTICES
All notices and other communications required or permitted
hereunder shall be in writing and shall be mailed by registered or certified
mail, postage prepaid, or otherwise delivered by hand, by telecopy (with receipt
confirmed), or by commercial express courier service, addressed as follows:
To StorMedia: StorMedia Incorporated
390 Reed Street
Santa Clara, CA 95050
Attn: Stephen M. Abely
With a copy to: Wilson, Sonsini, Goodrich & Rosati
650 Page Mill Road
Palo Alto, CA 94302
Attn: Judith M. O'Brien
To Seagate: Seagate Technology, Inc.
920 Disc Drive
Scotts Valley, CA 95066
Attn: Robert A. Sandie
With a copy to: Seagate Technology, Inc.
920 Disc Drive
Scotts Valley, CA 95066
Attn: Corporate Contracts
Such notices shall be deemed to have been served when delivered or, if delivery
is not accomplished by reason of some fault of the addressee, when tendered.
8. GENERAL PROVISIONS
8.1 Governing Law. The substantive laws of the State of
California govern this Agreement.
8.2 Severability. If any section or subsection of this
Agreement is found by competent judicial authority to be invalid, illegal or
unenforceable in any respect, the validity, legality and enforceability of any
such section or subsection in every other respect and the remainder of this
Agreement shall continue in effect.
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8.3 Amendment. This written Agreement may be modified
only by a written amendment signed by persons authorized to so bind Seagate and
StorMedia.
8.4 Survival. The provisions of Section 7 and all other
obligations and duties which by their nature survive the expiration or
termination of this Agreement shall remain in effect beyond any expiration or
termination.
8.5 Force Majeure. Neither party shall be responsible for
failure to fulfill its obligations under this Agreement due to fire, flood, war
or other such cause beyond its control and without its fault or negligence
provided it promptly notifies the other party.
8.6 Assignment. Neither party shall assign this Agreement
or any rights hereunder without the prior written consent of the other party,
except that either may assign the Agreement to a wholly-owned subsidiary without
the other's consent if the original party remains liable for such assignee's
performance hereunder.
8.7 Waiver. The waiver by either party of any instance of
the other party's noncompliance with any obligation or responsibility herein
shall not be deemed a waiver of subsequent instances or of either party's
remedies for such noncompliance.
8.8 Compliance with Laws. Each party will comply with all
applicable federal, state and local laws, regulations and ordinances including,
but not limited to, the regulations of the U.S. Government relating to the
export or re-export of machines, commodities, software and technical data
insofar as they relate to the activities under this Agreement. Seagate agrees
that Products provided under this Agreement are subject to restrictions under
the export control laws and regulations of the United States of America,
including but not limited to the U.S. Export Administration Act and the U.S.
Export Administration Regulations and Seagate agrees to comply with all
applicable laws and regulations.
8.9 Entire Agreement. This Agreement constitutes the
entire and exclusive Agreement between the parties hereto with respect to the
subject matter hereof and supersedes and cancels all previous registrations,
agreements, commitments and writings in respect thereof including but not
limited to the supply agreement effective as of June 29, 1995.
8.10 Arbitration.
(a) All disputes which may arise hereunder shall be
resolved by binding arbitration, and without resort
to the courts (except to compel arbitration or to
enter judgment in accordance therewith). The
arbitrators shall be appointed as follows: each party
shall appoint one arbitrator; the two arbitrators
thus appointed shall choose the third arbitrator who
shall act as the presiding arbitrator of the
tribunal. The parties agree that all arbitrators
shall be governed by the Rules of the American
Arbitration Association; that such arbitration
proceedings
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shall be conducted in Santa Clara County, California,
and that the result of such arbitration shall be
binding upon the parties, and may be entered as a
judgment in any court or tribunal with jurisdiction
over any party with the same force and effect as a
judgment rendered by such a court or tribunal.
(b) The arbitration proceedings and all pleadings and
written evidence shall be in the English language.
Any written evidence originally in a language other
than English shall be submitted in English
translation accompanied by the original or a true
copy thereof.
(c) The prevailing party in such proceeding shall be
entitled to collect reasonable attorneys fees from
the other party.
STORMEDIA INCORPORATED SEAGATE TECHNOLOGY, INC.
By: /s/ William J. Almon By: /s/ Donald L. Waite
--------------------------------- -------------------------------
William J. Almon Donald L. Waite
Title: Chief Executive Officer Title: Executive VP, CAO and CFO
------------------------------- -----------------------------
Dated: May 30, 1997 Date: June 4, 1997
------------------------------ -----------------------------
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EXHIBIT 11.1
STORMEDIA INCORPORATED AND SUBSIDIARIES
STATEMENT REGARDING COMPUTATION OF EARNINGS (LOSS) PER SHARE
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
-------------------------------------------------------
JUNE 27, JUNE 28, JUNE 27, JUNE 28,
1997 1996 1997 1996
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(UNAUDITED) (UNAUDITED)
PRIMARY:
Statement of operations data:
<S> <C> <C> <C> <C>
Net earnings (loss) $(20,903) $7,795 (30,222) $17,264
======== ======= ======== ========
Weighted average number of common and dilutive
equivalent shares used in computations:
Common Stock 17,708 17,196 17,708 17,122
Stock options and other common stock equivalents 127 1,230 127 1,243
======== ======= ======== ========
Shares used in computing net earnings (loss) per share 17,882 18,426 17,835 18,365
======== ======= ======== ========
Net earnings (loss) per share ($1.17) $0.42 ($1.70) $0.94
======== ======= ======== ========
FULLY DILUTED:
Statement of operations data:
Net earnings (loss) $(20,903) $7,795 $(30,222) $17,264
======== ======= ======== ========
Weighted average number of common and dilutive
equivalent shares used in computations:
Common Stock 17,708 17,196 17,708 17,124
Stock options and other common stock equivalents 127 1,230 127 1,244
-------- ------- -------- --------
Shares used in computing net earnings (loss) per share 17,882 18,426 17,835 18,368
======== ======= ======== ========
Net earnings (loss) per share (1.17) $0.42 $(1.70) $0.94
======== ======= ======== ========
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> JAN-27-1997
<CASH> 23,402
<SECURITIES> 0
<RECEIVABLES> 27,376
<ALLOWANCES> 8,750
<INVENTORY> 21,737
<CURRENT-ASSETS> 72,920
<PP&E> 177,839
<DEPRECIATION> 36,854
<TOTAL-ASSETS> 215,041
<CURRENT-LIABILITIES> 52,520
<BONDS> 50,114
0
0
<COMMON> 237
<OTHER-SE> 128,837
<TOTAL-LIABILITY-AND-EQUITY> 215,041
<SALES> 66,653
<TOTAL-REVENUES> 66,653
<CGS> 80,228
<TOTAL-COSTS> 80,228
<OTHER-EXPENSES> 11,490
<LOSS-PROVISION> 5,438
<INTEREST-EXPENSE> 1,366
<INCOME-PRETAX> (31,869)
<INCOME-TAX> (1,647)
<INCOME-CONTINUING> (30,222)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (30,222)
<EPS-PRIMARY> (1.70)
<EPS-DILUTED> (1.70)
</TABLE>
