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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
(Mark One)
[ X ] Quarterly Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended October 25, 1997
[ ] Transition Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ______________ to ______________
Commission file number 0-26114
TELTREND INC.
(Exact Name of Registrant as Specified in its Charter)
DELAWARE 13-3476859
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification Number)
620 STETSON AVENUE
ST. CHARLES, ILLINOIS 60174
(Address of Principal Executive Offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (630) 377-1700
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
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As of December 1, 1997, there were 6,436,321 shares of the Registrant's
Common Stock, $.01 par value per share (the "Common Stock"), outstanding.
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TELTREND INC.
INDEX TO FORM 10-Q
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE NO.
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<S> <C> <C>
Item 1 -- Consolidated Financial Statements:
Consolidated Statements of Operations for the quarters ended
October 25, 1997 and October 26, 1996.............................................. 3
Consolidated Balance Sheets as of October 25, 1997 and July 26, 1997............... 4
Consolidated Statements of Cash Flows for the quarters ended
October 25, 1997 and October 26, 1996.............................................. 5
Notes to Consolidated Financial Statements......................................... 6
Item 2 -- Management's Discussion and Analysis of
Financial Condition and Results of Operations...................................... 8
PART II. OTHER INFORMATION
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Item 1 -- Legal Proceedings.................................................................. 15
Item 2 -- Changes in Securities.............................................................. 15
Item 6 -- Exhibits and Reports on Form 8-K................................................... 15
SIGNATURE......................................................................................... 16
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EXHIBIT INDEX..................................................................................... 17
OMITTED FINANCIAL STATEMENTS
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None
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1 -- FINANCIAL STATEMENTS
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TELTREND INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in thousands, except earnings per share data)
<TABLE>
<CAPTION>
FOR THE QUARTER ENDED
------------------------
OCTOBER 25, OCTOBER 26,
1997 1996
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<S> <C> <C>
Net sales............................................. $ 21,677 $ 22,591
Cost of sales......................................... 12,291 12,227
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Gross profit.......................................... 9,386 10,364
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Operating expenses:
Sales and marketing................................... 2,499 1,944
Research and development.............................. 3,062 2,256
General and administrative............................ 1,649 1,095
Purchased in-process research & development........... 3,995 --
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11,205 5,295
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Income (loss) from operations......................... (1,819) 5,069
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Other income (expense):
Interest income....................................... 389 317
Other-net............................................. (61) --
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328 317
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Income (loss) before income taxes..................... (1,491) 5,386
Provision for income taxes............................ 1,020 2,154
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Net income (loss)..................................... ($2,511) $ 3,232
========== ===========
Net income (loss) per share of
common stock.......................................... ($0.38) $ 0.48
========== ===========
Average common shares outstanding 6,541,884 6,731,773
========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
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TELTREND INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
OCTOBER 25, JULY 26,
1997 1997
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<S> <C> <C>
ASSETS
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Current Assets:
Cash and cash equivalents............................. $ 7,922 $ 11,837
Marketable securities................................... 13,979 20,930
Trade accounts receivable, net of allowance........... 12,033 7,834
Inventories........................................... 12,674 11,048
Deferred income taxes................................. 1,871 1,871
Prepaid expenses and other current assets............. 3,091 964
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51,570 54,484
Land and building....................................... 1,951 1,949
Machinery and equipment................................. 16,617 14,528
Leasehold improvements.................................. 1,236 935
Accumulated depreciation................................ (10,007) (9,372)
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9,797 8,040
Deferred income taxes................................... 135 135
Intangible assets, net.................................. 6,854 --
Other assets, net....................................... 170 173
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$ 68,526 $ 62,832
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LIABILITIES AND STOCKHOLDERS' EQUITY
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Current Liabilities:
Accounts payable...................................... $ 7,400 $ 3,443
Accrued expenses...................................... 9,850 6,904
Income taxes payable.................................. 1,234 49
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18,484 10,396
Other noncurrent liabilities............................ 47 --
Stockholders' Equity:
Common Stock:
Common Stock, $0.01 par value, 15,000,000 shares
authorized and 6,436,321 issued and
outstanding..................................... 64 64
Additional paid-in capital............................ 99,328 99,328
Accumulated deficit................................... (49,467) (46,956)
Foreign currency translation adjustment................. 70 --
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49,995 52,436
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$ 68,526 $ 62,832
========== ========
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
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TELTREND INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
FOR THE QUARTER ENDED
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OCTOBER 25, OCTOBER 26,
1997 1996
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<S> <C> <C>
OPERATING ACTIVITIES:
Net income (loss) for period.......................... $ (2,511) $ 3,232
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Purchased in-process research and development....... 3,995 --
Depreciation and amortization....................... 713 487
Loss (gain) on sale of equipment.................... 7 (13)
Changes in certain assets and liabilities:
Accounts receivable and prepaid expenses........ (2,027) 2,535
Inventories..................................... 507 (809)
Income taxes payable............................ 1,185 1,821
Accounts payable and accrued expenses........... 3,488 (2,175)
Other assets and liabilities.................... 68 (152)
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Net cash provided by operating activities....... 5,425 4,926
FINANCING ACTIVITIES:
Proceeds from exercise of common stock options........ -- 16
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Net cash provided by financing activities............. -- 16
INVESTING ACTIVITIES:
Capital expenditures.................................. (690) (647)
Acquisition of business, net of cash acquired......... (15,673) --
Purchase of marketable securities..................... -- (6,933)
Proceeds from sale of marketable securities........... 6,951 --
Proceeds from sale of equipment....................... 70 21
Other investing activities............................ --- (85)
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Net cash used for investing activities................ (9,342) (7,644)
Effect of exchange rate changes on cash............... 2 --
---------- ----------
Net decrease in cash.................................. (3,915) (2,702)
Cash and cash equivalents, beginning of period........ 11,837 22,889
---------- ----------
Cash and cash equivalents, end of period.............. $ 7,922 $20,187
---------- ----------
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
General
The unaudited consolidated financial statements included herein have
been prepared by Teltrend Inc. ("Teltrend") in accordance with generally
accepted accounting principles for interim financial information and Article 10
of Regulation S-X, and should be read in conjuction with Teltrend's financial
statements (and notes thereto) included in the Teltrend Annual Report on Form
10-K for the year ended July 26, 1997. Accordingly, the accompanying
consolidated statements do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of Teltrend's management, all adjustments
(consistng of normal recurring accruals) considered necessary for a fair
presentation have been included. Operating results for the quarter ended
October 25, 1997 are not necessarily indicative of the results that may be
expected for the fiscal year ending July 25, 1998. The fiscal year of Teltrend
and each of its consolidated subsidiaries ends on the last Saturday of July
each year. All references to "Fiscal" years in this report refer to fiscal
years ending in the calendar year indicated (e.g., "Fiscal 1997" refers to the
fiscal year ended July 26, 1997 and "Fiscal 1998" refers to the fiscal year
ending July 25, 1998).
Acquisition of 3net
On September 18, 1997 (the "Acquisition Date"), Teltrend purchased the
outstanding shares of Securicor 3net Limited of Basingstoke, England and its
U.S. affiliate Securicor 3net Inc. (together "3net") for total acquisition
costs of approximately $16.0 million. 3net is a telecommunication equipment
and software company based in the United Kingdom with operations in New
Zealand, China and the United States. 3net has annualized revenues in excess
of $17 million. The transaction was accounted for as a purchase and therefore
the results of 3net since the Acquisition Date are included with the operations
of Teltrend. All references in this report to the "Company" refer to (i)
Teltrend, individually, for all periods or portions thereof ending on or before
the Acquisition Date, and (ii) Teltrend and 3net, collectively, from and after
the Acquisition Date.
2. MARKETABLE SECURITIES
At October 25, 1997 the Company had marketable securities of $14.0
million. These securities consisted of debt instruments with maturities of
less than one year and are classified as held-to-maturity, as the Company has
the positive intent and the ability to hold these securities until maturity.
These securities are carried at amortized cost, which at October 25, 1997
approximates fair value. Temporary unrealized gains and losses will not be
recognized in the financial statements until realized.
3. INVENTORIES (IN THOUSANDS)
<TABLE>
<CAPTION>
OCTOBER 25, 1997 JULY 26, 1997
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<S> <C> <C>
Raw materials............... $ 5,701 $ 6,238
Work-in-process............ 1,359 1,651
Finished goods.............. 5,614 3,159
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$ 12,674 $ 11,048
======== ========
</TABLE>
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4. EARNINGS PER SHARE
In February 1997, the Financial Accounting Standards Board issued Statement
No. 128, Earnings per Share, which is required to be adopted on December 31,
1997. At that time, the Company will be required to change the method
currently used to compute earnings per share and to restate all prior periods.
Under the new requirements for calculating basic earnings per share, the
dilutive effect of stock options will be excluded. The impact is expected to
result in an increase in basic loss per share for the three month period
ending October 25, 1997 of $.01 and an increase in basic earnings per share of
$.02 for the three month period ended October 26, 1996. The impact of
Statement No. 128 on the calculation of diluted earnings per share for this
three month period is not expected to be material.
5. PRO-FORMA FINANCIAL INFORMATION
The following unaudited pro forma financial information for the Company
gives effect to the 3net acquisition as if it occurred on July 27, 1997,
and July 28, 1996, respectively. These pro forma results have been prepared
for comparative purposes only and do not purport to be indicative of the
results of operations which actually would have resulted had the acquisition
occurred on the dates indicated, or which may result in the future. The pro
forma results:
<TABLE>
<CAPTION>
QUARTER ENDED
(in thousands, except per share data)
OCTOBER 25, 1997 OCTOBER 26, 1996
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<S> <C> <C>
Net sales................................... $22,889 $27,539
Net loss.................................... $(8,587) $(1,974)
Net loss per share of common stock.......... $ (1.31) $ (0.29)
</TABLE>
These unaudited pro forma results include certain adjustments, principally
the write-off of approximately $4 million of purchased in-process research and
development costs.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF
ITEM 2 - FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995.
The following "Management's Discussion and Analysis of Financial Condition
and Results of Operations" contains "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995 concerning,
among other things, the Company's prospects, developments and business
strategies for its operations, including the development and sales of certain
new and established products. These forward-looking statements are identified
by their use of such terms and phrases as "believes" and "expects" and are
subject to risks and uncertainties and represent the Company's present
expectations or beliefs concerning future events. The Company cautions that
the forward-looking statements are qualified by important factors that could
cause actual results to differ materially from those in the forward-looking
statements, including the factors described below under "Factors That May
Affect Future Results." Results actually achieved thus may differ materially
from expected results included in these statements.
THE 3NET ACQUISITION
This Quarterly Report on Form 10-Q for the quarter ended October 25, 1997,
represents the first quarterly report of Teltrend Inc. ("Teltrend") following
its acquisition of all of the outstanding shares of stock of Securicor 3net
Limited of Basingstoke, England and its U.S. affiliate Securicor 3net Inc.
(together, "3net"). The acquisition of 3net was consummated on September 18,
1997 (the "Acquisition Date") and was accounted for as a purchase.
Accordingly, the Company's results as described in this "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
include the results of 3net since the Acquisition Date. As used herein, the
term "Company" refers to (i) Teltrend, individually, for all periods (and
portions thereof) ending on or before the Acquisition Date, and (ii) Teltrend
and 3net, collectively, from and after the Acquisition Date.
GENERAL
Teltrend designs, manufactures and markets a broad range of transmission
products, such as channel units, repeaters and termination units, used by
telephone companies ("Telcos") to provide voice and data service over the
telephone network. Substantially all of Teltrend's products have historically
been sold directly to the Regional Bell Operating Companies and their local
affiliates (collectively, the "RBOCs") for use with the copper wireline in the
local telephone subscriber loop (the "Local Loop").
3net, with operations in the United Kingdom, New Zealand, China and the
United States, is a leading developer of ISDN products for communications
equipment and service providers. 3net also supplies LAN Internetworking, ISDN
Remote Access and secure Virtual Private Networking solutions for business
customers worldwide.
The Company's principal products are divided into three product line
categories as follows: (i) Digital Loop Carrier and Voice Frequency products
("DLC/VF"), which include small DLC systems and plug-in units for existing DLC
systems, CYBERBLOCK(R), which is designed to solve various modem and voice
problems on long metallic loops, and traditional voice frequency products;
(ii) High Capacity Communications products ("T1/HDSL"), which include T1 line
and office repeaters and T1 network interface units, CELLPAK(TM) units for
cellular and wireless base station sites, and High Density Subscriber Line
("HDSL") systems, which help Telcos reduce the number of costly digital cross
connect system ports required for frame relay services; and (iii) ISDN/DDS
products, which include Integrated Services Digital Network ("ISDN") and
Digital Data System ("DDS") line repeaters, ISDN and DDS D4 channel units,
an ISDN mini-bank, routing products, which provide connections between LANs and
WANs, and protocol conversion products.
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RESULTS OF OPERATIONS
NET SALES. Net sales for the first quarter of Fiscal 1998 decreased 4.0%,
or approximately $0.9 million, to approximately $21.7 million, from
approximately $22.6 million in the first quarter of Fiscal 1997. The decrease
in net sales was primarily due to a decrease of approximately $1.4 million and
$0.9 million in unit volume sales of the Company's DLC/VF and T1/HDSL products,
respectively. The decrease in unit volume sales of the Company's DLC/VF and
T1/HDSL was partially offset by an increase of approximately $1.4 million in
unit volume sales of the Company's ISDN/DDS products.
The decrease in the unit volume sales of DLC/VF products was primarily the
result of generally declining sales of VF products and lower sales of certain
older technology DLC products. The decline in sales of VF products was a
continuation of a downward trend in VF sales resulting from a decline in demand
for analog services.
The decrease in unit volume sales of the Company's T1/HDSL products was
caused largely by a decrease in the unit volume sales of T1 CPE products,
consisting of Network Interface Units ("NIUs") and associated mountings. The
decrease in NIU unit volume sales was, however, partially offset by an increase
in the unit volume sales of the Company's intelligent T1 repeaters and CELLPAK
units.
The increase in unit volume sales of the Company's ISDN/DDS products,
which was partially offset by a small decrease in unit volume sales of the
Company's DDS products, was due primarily to the acquisition of 3net which had
net sales since the Acquisition Date of approximately $1.2 million.
GROSS PROFIT. Gross profit in the first quarter of Fiscal 1998 decreased
9.4% or approximately $1.0 million, to approximately $9.4 million from
approximately $10.4 million for the first quarter of Fiscal 1997. Gross profit
margin for the first quarter of Fiscal 1998 decreased to 43.3% from 45.9% for
the first quarter of Fiscal 1997. The decrease in gross profit and gross
profit margin were primarily attributable to the comparatively smaller revenue
base over which the Company could spread its fixed manufacturing costs. Other
causes included reduced prices on some of the Company's products, especially
Teltrend's ISDN products, and the Company's sale of several relatively new
products with lower gross profit margins.
SALES AND MARKETING. Sales and marketing expenses in the first quarter of
Fiscal 1998 increased 28.6%, or approximately $0.6 million, to approximately
$2.5 million from approximately $1.9 million for the first quarter of Fiscal
1997. As a percentage of net sales, sales and marketing expenses increased to
11.5% for the first quarter of Fiscal 1998 from 8.6% for the first quarter of
Fiscal 1997, primarily due to the inclusion of 3net's sales and marketing
expenses since the Acquisition Date. Historically, 3net's sales and marketing
expenses as a percentage of its net sales has been higher than Teltrend's sales
and expenses as a percentage of Teltrend's net sales.
RESEARCH AND DEVELOPMENT. Research and development expenses for the first
quarter of Fiscal 1998 increased 35.7%, or approximately $0.8 million, to
approximately $3.1 million from approximately $2.3 million for the first
quarter of Fiscal 1997. In addition to this general increase in research and
development expenses, the Company wrote-off approximately $4.0 million of
in-process research and development costs as a result of the acquisition of
3net. As a percentage of total net sales, research and development expenses
increased to 14.1% in the first quarter of Fiscal 1998 from 10.0% for the first
quarter of Fiscal 1997. The increase in dollar amount was due primarily to the
inclusion of 3net's research and development expenses since the Acquisition
Date and to increases at Teltrend in personnel associated expenses, such as
recruiting and salaries for newly hired personnel, related support equipment
and the outsourcing of certain testing services.
GENERAL AND ADMINISTRATIVE. General and administrative expenses for the
first quarter of Fiscal 1998 increased 50.6%, or approximately $0.6 million, to
approximately $1.6 million from approximately $1.1 million for the first
quarter of Fiscal 1997. As a percentage of total net sales, general and
administrative expenses increased to 7.6% for the first quarter of Fiscal 1998
from 4.9% for the first quarter of Fiscal 1997. The dollar increase was
primarily attributable to general and administrative expenses incurred by 3net
and, to a lesser extent, due to an increase in professional services and accrued
bonuses.
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OTHER INCOME. Other income for the first quarter of Fiscal 1998 and for
the first quarter of Fiscal 1997 was approximately $0.3 million. Other income
is primarily derived from interest earned on cash equivalents and marketable
securities.
INCOME TAXES. A provision for income taxes of approximately $1.0 million
was recorded for the first quarter of Fiscal 1998 compared to approximately
$2.2 million for the comparable prior year period. Such provision recognizes
that the write-off of approximately $4.0 million of purchased in-process
research & development costs is not currently deductible for tax purposes.
LIQUIDITY AND CAPITAL RESOURCES
At October 25, 1997, the Company had no long-term indebtedness and had
working capital of approximately $33.1 million, which included cash and cash
equivalents of approximately $7.9 million and marketable securities of
approximately $14.0 million. The decrease in working capital from
approximately $44.1 million at the end of Fiscal 1997 was due primarily to the
acquisition of 3net. The total acquisition cost for 3net was approximately $16
million and was funded with the Company's cash and cash equivalents on hand and
the proceeds from the sale of certain of the Company's investments in debt
securities.
Cash used for capital expenditures was approximately $0.7 million for the
first quarter of Fiscal 1998 compared to approximately $0.6 million for the
first quarter of Fiscal 1997. Most of the expenditures were for the purchase
of manufacturing test equipment and engineering equipment.
As of October 25, 1997, the Company had net trade accounts receivable of
approximately $12.0 million, compared to approximately $7.8 million at the end
of Fiscal 1997. This increase was due primarily to (i) an increase in net
sales for the first quarter of Fiscal 1998 compared to the Company's net sales
for the fourth quarter of Fiscal 1997, and (ii) the inclusion of 3net's
accounts receivable. Inventories as of the end of the first quarter of Fiscal
1998 totalled approximately $12.7 million compared to $11.0 million at the end
of Fiscal 1997. The increase in inventory was primarily a result of the
addition of approximately $2.6 million of inventory as a result of the 3net
acquisition and was partially offset by an approximately $1.0 million decrease
in the remainder of the Company's inventory.
The Company maintains a credit facility (the "Bank Facility"), which
provides, subject to certain restrictions and based on the Company's accounts
receivable and inventory levels, up to $15.0 million on an unsecured basis for
working capital financing. Currently, there are no amounts outstanding under
the Bank Facility. Based on the Company's accounts receivable and inventory
levels as of October 25, 1997, the Company estimates that approximately $11.8
million is available to it under the Bank Facility as of the date hereof. Any
borrowings under the Bank Facility would mature on June 30, 1998 and bear
interest at a floating rate based on (i) LIBOR or the prime rate offered by the
lender from time to time, and (ii) the Company's debt-to-equity ratio,
determined quarterly by the Company. The terms of the Bank Facility prohibit
the Company from declaring and paying dividends in any Fiscal year which
exceed, in the aggregate, 50% of the Company's net income for the immediately
preceding Fiscal year.
The Company expects that existing cash and cash equivalents, marketable
securities, cash from operations, plus available borrowings under the Bank
Facility will be adequate to fund the Company's working capital needs for the
foreseeable future.
FACTORS THAT MAY AFFECT FUTURE RESULTS
DEPENDENCE ON T1/HDSL PRODUCT LINE. The Company's T1 products, which include
T1 line and office repeaters and T1 network units, have accounted for a very
significant part of the Company's total net sales in each of the last three
Fiscal years. The Company expects to derive a large percentage of its net
sales for the foreseeable future from the sale of these products.
Consequently, the Company's inability to maintain or increase net sales of its
T1 products in the future, or to offset any shortfall in sales of such products
with sales of its HDSL products or other existing or future product lines,
could have a material adverse effect on the Company.
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<PAGE> 11
The Company is facing increasing competition with respect to its
repeatered T1 products from suppliers of systems based on HDSL technology as an
alternate method of delivering repeatered T1 services in the Local Loop.
Because HDSL is easier to provision than traditional T1 service, the Company
expects that HDSL products will adversely affect the demand for its repeatered
T1 products as the cost of HDSL systems decline. If increasing competition
causes the Company to reduce selling prices for its repeatered T1 products,
there can be no assurance that the Company will be able to increase unit sales
volumes of such products, reduce its costs of sales of such products or
maintain or increase revenues or gross margins attributable to such products to
offset in full or in part the reduced revenue effects of such selling price
reductions.
RAPID TECHNOLOGICAL CHANGES AND DEPENDENCE ON NEW PRODUCTS. The market for the
Company's products is characterized by rapidly changing technology, evolving
industry standards, changes in customer requirements, price-competitive bidding
and frequent product introductions and enhancements. The introduction of
telephone network voice and data transmission products involving new
technologies, the emergence of new industry standards or changes in customer
requirements or service offerings could adversely affect the Company's ability
to sell its existing products and products currently under development. All of
the Company's existing products are designed primarily to facilitate and
enhance the delivery of communications over the existing copper wireline in the
Local Loop and the Company expects that Telcos will increasingly replace this
copper wireline with fiber optic, coaxial cable, wireless and other
technologies (each of which uses a significantly different method of delivery).
Furthermore, the Company faces increasing competition with respect to its
repeatered T1 products from suppliers of HDSL systems as an alternate method of
delivering conventional T1 services. The Company believes that the continued
installation of new technologies in the Local Loop will adversely affect demand
for certain of its existing products and that its future success will largely
depend upon its ability, on a cost-effective and timely basis, to continue to
enhance its existing products and develop and achieve commercial acceptance of
new products. There can be no assurance that developments by others will not
render the Company's products or technologies obsolete or unmarketable or that
the Company will be able to successfully anticipate or adapt to changing
technology, industry standards or customer requirements on a timely basis. Any
failure by the Company to anticipate and respond to technological developments
or changes in industry standards or customer requirements could have a material
adverse effect on the Company.
RELIANCE ON CERTAIN CUSTOMERS. The Company has historically depended on the
RBOCs for substantially all of its net sales and, although the Company's
customer base as a result of the 3net acquisition has become less concentrated
in the RBOCs, dependence on the RBOCs for the preponderance of the Company's
net sales is likely to continue for the foreseeable future. The Company has no
supply agreements with any of the RBOCs which establish minimum purchase
commitments and there can be no assurance that sales of the Company's products
to the RBOCs or other customers will continue or that the Company's customer
base will become materially less concentrated. See "-- Factors That May Affect
Future Results -- Potential Competition from RBOCs and Lucent." The loss of one
or more of the RBOCs as a customer, the reduction of orders for the Company's
products, or a failure or delay in the deployment of the Company's products by
the RBOCs could materially and adversely affect the Company. In addition,
recent contract negotiations with certain RBOCs have resulted in lower prices
for selected products. Also, the RBOCs and most of the Company's other
customers are significantly larger than, and are able to exert a high degree of
influence over, the Company.
HIGHLY COMPETITIVE INDUSTRY. The markets for the Company's products are highly
competitive, especially with respect to price, product features, quality and
conformance to industry standards. The Company's competitors in the United
States and elsewhere are numerous and the Company expects its competition to
increase in the future both from existing and new competitors, including
possibly the RBOCs and Lucent. See "--Factors that May Affect Future Results
- -- Potential Competition From RBOCs and Lucent." Increased competition could
reduce gross profit margins and may require increased spending by the Company
on product development and sales and marketing, or may otherwise adversely
affect the Company. The Company has generally been required to reduce the
selling prices of its products over time to meet increasing competition and
will likely be required to do so in the future. The Company's ability to
maintain or increase net sales will depend largely upon its ability to increase
unit sales volumes of its products to counter declines in the average sales
prices of its products. Declining average sales prices would also adversely
affect gross margins on the Company's products if not offset by reductions in
the Company's cost of sales. There can be no assurance that the Company will
be able to increase unit sales volumes
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of its products, reduce its costs of sales of such products or maintain
or increase revenues or gross margins attributable to such products. Most of
the Company's competitors and potential competitors have significantly greater
financial, technological, manufacturing, marketing and personnel resources than
the Company. In addition, certain of the Company's competitors have
long-standing relationships with certain Telcos which may adversely affect the
Company's ability to successfully compete for business at these Telcos.
DEPENDENCE ON CERTAIN SUPPLIERS. Certain key components which are required to
manufacture the Company's products are available from only one source. Such
components include the Company's application specific integrated circuits,
which are built to Company specifications, and its proprietary design
integrated circuits, which are the design and property of the manufacturer from
which they are purchased. The Company generally obtains its components on a
purchase order basis. Accordingly, there can be no assurance that the Company
will be able to continue to obtain sufficient quantities of key components as
required or that such components, if obtained, will be available to the Company
on commercially favorable terms. Further, certain components require an order
lead time of up to six months. Failure by the Company to order sufficient
quantities of components in advance could prevent the Company from meeting
customer demand for its products.
The Company has been able to adjust its order lead times and/or promised
delivery dates to avoid material delivery delays of its products. However,
there can be no assurance that the Company will be able to continue to adjust
its order lead times and/or promised delivery dates to avoid material delivery
delays of its products in the future. Under certain of the Company's supply
contracts, a delay in the delivery of products would permit the customer to
cancel the purchase order or, in limited circumstances, assess a late delivery
charge. In addition, late deliveries could adversely affect the Company's
ability to obtain additional sales from a particular customer. The Company's
inability to obtain sufficient quantities of key components or products, or to
develop alternative sources of such components or alternative contract
manufacturing relationships on commercially favorable terms if and as required
in the future, could result in delays or reductions in product shipments or
could otherwise have a material adverse effect on the Company's customer
relationships and, consequently, on its business, results of operations and
financial condition. See "-- Factors That May Affect Future Results --
Reliance on Certain Customers."
INCREASED INVENTORY LEVELS AND NEED TO MAKE ADVANCE PURCHASE COMMITMENTS. To
respond to anticipated customer demand, the Company maintains high inventory
levels. In addition, at the request of several of its customers, the Company
has entered into arrangements to maintain certain of its finished goods
inventory at the various locations of such customers. Although the Company
believes these arrangements facilitate sales to its customers, they result in
higher levels of inventory than are necessary in the absence of such
arrangements. Maintaining high inventory levels substantially increases the
risk that the Company's profitability and results of operations may from time
to time be materially and adversely affected by inventory obsolescence. To
procure adequate supplies of certain components, the Company must regularly
make advance commitments to purchase relatively large quantities of such
components. The inability of the Company to incorporate such components in its
products could have a material adverse effect on the Company.
POTENTIAL COMPETITION FROM RBOCS AND LUCENT. The Telecommunications Act of
1996 has generally eliminated the restrictions which had previously prohibited
the RBOCs from manufacturing telecommunications equipment (subject to first
satisfying certain conditions designed to facilitate local exchange competition
and receipt of prior approval by the Federal Communications Commission). These
restrictions had been imposed under the Modification of Final Judgment, which
governed the structure of the 1984 divestiture by AT&T of its local operating
telephone company subsidiaries. The passage of the Telecommunications Act may
have an adverse effect on the Company because the RBOCs, which are presently
the Company's principal customers, may now become manufacturers of some or all
of the products currently manufactured and sold by the Company and,
consequently, may no longer purchase telecommunications equipment produced by
the Company at the levels historically experienced. In addition, the operations
of Lucent as a supplier to the Telcos, may have an adverse effect on the
Company's business because Lucent sells certain products that directly compete
with the Company's products.
GOVERNMENT REGULATION. The telecommunications industry is subject to
regulation in the United States, the United Kingdom and other countries.
Federal and state regulatory agencies regulate most of the Company's domestic
customers. While such regulation does not typically affect the Company
directly, the effects of such regulation on
-12-
<PAGE> 13
the Company's customers may adversely impact the Company's sales and operating
results. For example, the sale of the Company's products may be affected by
the imposition upon certain of the Company's customers of common carrier
tariffs, the taxation of telecommunications services and regulatory policies
affecting terms on which common carriers conduct their business. In addition,
certain countries may have or may develop rules and regulations that will
adversely affect the Company's ability to effectively compete in some markets.
Thus, there is no assurance that markets that are now open to the Company's
products will not be limited by government regulation in the future.
PROPRIETARY RIGHTS AND RISKS OF THIRD PARTY CLAIMS OF INFRINGEMENT. The
telecommunications industry is characterized by an increasing number of patents
and frequent litigation based on allegations of patent infringement. From time
to time, third parties may assert exclusive patent, copyright and other
intellectual property rights to technologies which are important to the
Company. See Item 1 -- Legal Proceedings. While the Company does not believe
that its present products and technology infringe the intellectual property
rights of others, there can be no assurance that third parties will not assert
infringement claims against the Company or that any such assertions will not
result in costly litigation. There can be no assurance that the Company would
prevail against any such claims or that licenses of any third-party
intellectual property would be available to the Company on commercially
reasonable terms. In addition, a substantial number of the Company's products
are intended to plug into telephone network equipment designed and manufactured
by third parties, some of which are competitors of the Company. The design or
modification of such equipment so that it is incompatible with the Company's
products could adversely affect the Company's ability to maintain its current
level of, or achieve additional, net sales. The inability of the Company to
develop products for such equipment which do not infringe the intellectual
property rights associated with such equipment, or to obtain the right to use
such intellectual property on commercially reasonable terms, could have a
material adverse effect on the Company. In addition, any infringement claims
or litigation against the Company could have a material adverse effect on the
Company.
The Company was a party to agreements with certain of the RBOCs pursuant
to which it licensed certain telecommunications technology, including digital
channel banks and signal decoding systems, in connection with the manufacture
of its products. The terms of virtually all of these licensing agreements
expired at varying times during Fiscal 1995, subject to a right of continuation
at an increased royalty rate with respect to specified Company products. The
Company has been evaluating its continuing obligations under each of the
remaining agreements and the extent to which its current products employ
technology covered by the unexpired patents licensed thereunder. There can be
no assurance that the results of the Company's evaluation of these agreements
and/or subsequent negotiations with the RBOCs will not result in the Company's
payment of royalties at increased rates with respect to all or a substantial
number of the Company's products. Any substantial increase in royalty rates
could have a material adverse effect on the Company.
Prior to the Company's initial public offering (the "IPO"), the Company's
operating subsidiary also licensed certain technology from AT&T. This
technology has since been transferred to Lucent. The term of this license
continued through July 1995, subject to a right of continuation under certain
circumstances at substantially higher royalty rates. In connection with the
IPO and the Company's recapitalization in connection therewith, the Company
sought AT&T's consent to assignment of this license from the Operating
Subsidiary to the Company. At that time, AT&T indicated it would give such
consent after resolving certain issues with the Company with respect to the
license. After AT&T's spin-off of Lucent and the simultaneous transfer of
certain technology and patent rights to Lucent, the Company continued its
discussions with Lucent instead of AT&T. In the context of these discussions,
Lucent indicated that the Company's initial ISDN product may make use of
certain of Lucent's patented technology and has expressed a willingness to
include this technology in the context of a replacement license agreement. The
Company is currently evaluating Lucent's claim. The resolution of this matter
is uncertain at this time, and there can be no assurance that the Company will
be able to obtain a replacement license agreement with Lucent at royalty rates
which would not have a material adverse effect on the Company. See "--Factors
That May Affect Future Results -- Potential Competition from RBOCs and Lucent."
-13-
<PAGE> 14
POTENTIAL PRODUCT RECALLS AND WARRANTY EXPENSES. The Company's products are
required to meet rigorous standards imposed by its customers, including written
technical requirements and various mechanical, electrical performance,
environmental operating and storage conditions, and to interface in a complex
and changing environment with telecommunication network equipment produced by
numerous other suppliers. In the event there are material deficiencies or
defects in the design or manufacture of the Company's products or if such
products become incompatible with existing third-party network equipment, the
affected products could be subject to a recall. Although the Company has not
experienced any complete recall of a product from the field in the past, the
Company has from time to time agreed to upgrade certain of its products in
response to product design issues raised by certain of its customers. There
can be no assurance that the Company will not experience a material product
recall in the future. Any product recall and associated negative publicity
could have a material adverse effect on the Company.
POSSIBLE VOLATILITY OF STOCK PRICE. The Company believes factors such as
announcements of new products or technological innovations by the Company or
third parties, as well as variations in the Company's results of operations,
the gain or loss of significant customers, legislative or regulatory changes,
general trends in the industry, market conditions, analysts' estimates, the
stock market and other events or factors may cause the market price of the
Company's common stock to fluctuate significantly. In addition, the stock
market has experienced extreme price and volume fluctuations which have
particularly affected the market price for many high technology companies and
which have little apparent correlation with the operating performance of these
companies. Such broad market fluctuations may adversely affect the market
price of the Company's common stock.
RISKS RELATED TO 3NET. The Company completed its acquisition of 3net on
September 18, 1997. The Company expects the acquisition of 3net to increase
its sales and the markets for its existing and future product offerings.
However, there can be no assurance that 3net will provide the sales and market
opportunities that the Company expects. Furthermore, even if the acquisition
of 3net does provide such expected sales and market opportunities, there can be
no assurance that the Company will be able to successfully integrate 3net into
its business or take advantage of the synergies which the Company presently
believes will result from the integration of 3net's business. Any failure by
the Company to quickly and successfully integrate the 3net business such that
it is able to derive the benefit from contemplated synergies could have a
material adverse effect on the Company's results of operations.
-14-
<PAGE> 15
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On February 25, 1997, Wilcom, Inc. ("Wilcom") instituted a patent
infringement action against the Company in the United States District Court for
the Eastern District of New York (Wilcom, Inc. v. Teltrend Inc., Civil Action
No. 97-0918) seeking injunctive relief, damages, interest, costs and attorney's
fees. The Company was recently successful in its efforts to transfer the
action to the United States District Court for the Northern District of
Illinois. Wilcom alleges that certain of the Company's products infringe U.S.
Patent Nos. 4,961,218 and 5,504,811, which relate to enhanced line powered
amplifiers. The only Company product specifically identified as allegedly
infringing the patents is the CYBERBLOCK(TM) model LCR4002. The Company
believes that the CYBERBLOCK(TM) model LCR4002 does not infringe either of the
patents identified in the suit, and accordingly, that it has the meritorious and
complete defense of non-infringement. Nonetheless, in the event that Wilcom
prevails in the action, the Company does not believe that the suit is likely to
have a material adverse effect on the financial condition or results of
operations of the Company. Although sales of the CYBERBLOCK(TM) model LCR4002
could increase in the future, sales of this product to date have not been
significant.
ITEM 2 - CHANGES IN SECURITIES
The terms of the Bank Facility prohibit the Company from declaring and
paying in any Fiscal year dividends which exceed, in the aggregate, 50% of the
Company's net income for the immediately preceding Fiscal year. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources."
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
The exhibits filed herewith are listed in the exhibit index which follows
the signature page and immediately precedes the exhibits filed.
(b) Reports on Form 8-K.
The Company filed a report on Form 8-K (Item 2) on October 2, 1997 with
respect to its purchase of all the outstanding shares of 3net from 3 net
Holdings Limited of Surrey, England. Financial statements of 3net (item
7) were filed by amendment December 2, 1997.
-15-
<PAGE> 16
SIGNATURE
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.
Date: December 9, 1997 TELTREND INC.
By: /s/ Douglas P. Hoffmeyer
----------------------------------
Douglas P. Hoffmeyer
Vice President, Finance
(Authorized Officer and Principal
Financial Officer)
-16-
<PAGE> 17
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<S> <C>
2 None.
3.1 Restated Certificate of Incorporation of Registrant, as amended. (1)
3.2 Amended and Restated Bylaws of the Registrant.(3)
3.3 Certificate of Designation of Series A Junior Participating Preferred
Stock, filed January 23, 1997. (1)
4.1 Specimen form of Common Stock certificate.(3)
4.2 Articles Fourth, Seventh, Eighth, Tenth and Twelfth of the Restated
Certificate of Incorporation of the Registrant, as amended (incorporated
by reference to the Restated Certificate of Incorporation included in
Exhibit 3.1 herewith).
4.3 Articles I, II (Sections 1 and 3), IV (Sections 1 through 6), V (Section
3) and VI of the Amended and Restated Bylaws of the Registrant
(incorporated by reference to the Amended and Restated Bylaws included in
Exhibit 3.2 herewith).
4.4 Credit Agreement between the Registrant and LaSalle National Bank, dated
June 14, 1995.(2)
4.5 Rights Agreement between the Registrant and LaSalle National Bank, as
Rights Agent, dated January 16, 1997.(7)
4.6 Form of Rights Certificate (incorporated by reference to Exhibit B to the
Rights Agreement included in Exhibit 4.5 herewith).
10.1 Indemnification Agreement, dated June 8, 1995, between the Registrant and
Howard L. Kirby, Jr.(2)
10.2 Schedule of each of the directors and executive officers of the
Registrant with whom the Registrant has entered into an Indemnification
Agreement.(8)
10.3 Teltrend Inc. 1995 Stock Option Plan.(3)
10.4 Form of Nonqualified Stock Option Agreement under the Teltrend Inc. 1995
Stock Option Plan.(2)
10.5 Schedule of Nonqualified Stock Option Agreements which have been entered
into by directors or executive officers of the Registrant.(8)
10.6 TI Investors Inc. Stock Option Plan.(3)
10.7 Forms of Nonqualified Stock Option Agreement under the TI Investors Inc.
Stock Option Plan, dated August 1, 1994, between Donald G. Bozeman,
together with Amended and Restated Nonqualified Stock Option Agreement
under the TI Investors Inc. Stock Option Plan, dated May 13, 1994, between
the Registrant and Donald G. Bozeman.(2)
10.8 Teltrend Inc. 1996 Non-Employee Director Stock Option Plan.(6)
</TABLE>
-17-
<PAGE> 18
<TABLE>
<S> <C>
10.9 Schedule of Nonqualified Stock Option Agreements which have been entered
into by directors of the Registrant.(8)
10.10 Amended and Restated Stock Option Agreements, dated May 13, 1994,
between the Registrant and Gilbert H. Hosie.(2)
10.11 Registration Rights and Lock-Up Agreement between the Registrant, The
Prudential Insurance Company of America, Pruco Life Insurance Company, AEA
Investors Inc. and Stockholders of the Registrant prior to consummation of
the Registrant's initial public offering.(2)
10.12 Lease, dated April 22, 1983, between CMD Corporation and the Registrant,
together with First Amendment to Lease, dated August 9, 1985, between
Morgan Guaranty Trust Company of New York and the Registrant and
Memorandum of Lease, First Amendment to Lease and Ratification of First
Amendment to Lease, dated August 29, 1988.(3)
10.13 Second Amendment to Lease, dated September, 1995, between Morgan
Guaranty Trust Company of New York and the Registrant.(5)
10.14 Real Estate Sale Agreement, dated August 20, 1996, between the
Registrant and Itasca Bank & Trust Co., as Trustee under Trust Agreement
dated June 29, 1992 and known as Trust No. 11038 and The Kautz Road
Business Park Joint Venture.(8)
10.15 Teltrend 1996 Stock Option Plan.(10)
10.16 Share Purchase Agreement among Security Services PLC, Securicor
Communications Limited, 3 Net Holdings Limited, Securicor 3 Net Limited
and Teltrend Inc. (4)
11 None.
15 None.
18 None.
19 None.
22 None.
23 None.
24 None.
27 Financial Data Schedule.
99 None.
</TABLE>
_________________________________
(1) Incorporated by reference to the Registrant's Report on Form 10-K
for the Fiscal year ended July 26, 1997 (Commission File No. 0-26114).
(2) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q for the quarterly period ended April 29, 1995 (Commission File No.
0-26114).
-18-
<PAGE> 19
(3) Incorporated by reference to the Registrant's Registration Statement
on Form S-1, as amended (Registration No. 33-91104), originally filed with the
Securities and Exchange Commission April 11, 1995.
(4) Incorporated by reference to the Registrant's Current Report on Form
8-K dated September 18, 1997 (Commission File No. 0-26114).
(5) Incorporated by reference to Registrant's Report on Form 10-K for the
fiscal year ended July 29, 1995 (Commission File No. 0-26114).
(6) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q for the quarterly period ended January 27, 1996 (Commission File No.
0-26114).
(7) Incorporated by reference to the Registrant's Current Report on Form
8-K dated January 16, 1997 (Commission File No. 0-26114).
(8) Incorporated by reference to the Registrant's Annual Report on Form
10-K for the fiscal Year ended July 27, 1996 (Commission File No. 0-26114).
(9) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q for the quarterly period ended January 27, 1996 (Commission File No.
0-26114).
(10) Incorporated by reference to the Registrant's Quarterly Report on
Form 10-Q for the quarterly period ended April 26, 1997 (Commission File No.
0-26114).
-19-
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