Form 10-Q
===============================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 29, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to ________
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Commission File Number 1-7534
--------------------------
STORAGE TECHNOLOGY CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 84-0593263
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
One StorageTek Drive, Louisville, 80028-4309
Colorado
(Address of principal executive (Zip Code)
offices)
Registrant's Telephone Number, including area code: (303) 673-5151
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. /X/ YES / / NO
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer's classes of
common stock as of the latest practicable date.
Common stock ($.10 Par Value) - 102,408,424 shares outstanding at November 3,
2000.
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Form 10-Q, Page 2
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
INDEX TO FORM 10-Q
September 29, 2000
PAGE
----
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Consolidated Balance Sheet 3
Consolidated Statement of Operations 4
Consolidated Statement of Cash Flows 5
Notes to Consolidated Financial Statements 6
Item 2 - Management's Discussion and Analysis of Financial
Condition and Results of Operations 12
Item 3 - Quantitative and Qualitative Disclosures about Market Risk 27
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings 28
Item 6 - Exhibits and Reports on Form 8-K 30
Signatures 32
Exhibit Index 33
<PAGE>
Form 10-Q, Page 3
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(In Thousands of Dollars)
09/29/00 12/31/99
------------------------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 221,613 $ 215,421
Accounts receivable 464,119 627,435
Inventories (Note 2) 229,553 260,642
Deferred income tax assets 123,320 124,588
--------- ---------
Total current assets 1,038,605 1,228,086
Property, plant and equipment, net 262,297 322,061
Spare parts for maintenance, net 40,719 41,995
Deferred income tax assets 41,106 40,882
Other assets 135,534 102,451
--------- ---------
Total assets $1,518,261 $1,735,475
========= =========
LIABILITIES
Current liabilities:
Credit facilities (Note 3) $ 96,592 $ 286,152
Current portion of long-term debt 6,098 13,943
Accounts payable 83,695 111,253
Accrued liabilities 304,084 303,110
Income taxes payable 114,364 72,865
--------- ---------
Total current liabilities 604,833 787,323
Long-term debt 11,841 28,953
--------- ---------
Total liabilities 616,674 816,276
--------- ---------
Commitments and contingencies (Note 4)
STOCKHOLDERS' EQUITY
Common stock, $.10 par value, 300,000,000 shares authorized;
101,751,436 shares issued at September 29, 2000, and
100,825,390 shares issued at December 31, 1999 10,175 10,083
Capital in excess of par value 843,141 830,780
Retained earnings 52,087 84,704
Treasury stock (2,334) (2,334)
Unearned compensation (1,482) (4,034)
--------- ---------
Total stockholders' equity 901,587 919,199
--------- ---------
$1,518,261 $1,735,475
========= =========
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE>
Form 10-Q, Page 4
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)
(In Thousands, Except Per Share Amounts)
Quarter Ended Nine Months Ended
-------------------------------------------
09/29/00 09/24/99 09/29/00 09/24/99
-------------------------------------------
Revenue
Storage products $325,301 $416,392 $ 975,308 $1,258,188
Storage services 161,316 157,338 483,455 487,447
------- ------- --------- ---------
Total revenue 486,617 573,730 1,458,763 1,745,635
------- ------- --------- ---------
Cost of revenue
Storage products 179,254 233,127 578,502 702,343
Storage services 99,941 110,282 308,554 319,112
------- ------- --------- ---------
Total cost of revenue 279,195 343,409 887,056 1,021,455
------- ------- --------- ---------
Gross profit 207,422 230,321 571,707 724,180
Research and product development
costs 63,112 66,225 192,594 212,325
Selling, general, administrative
and other income and
expense, net 129,403 150,732 396,380 440,293
Restructuring expense (Note 5) 3,376 16,082 27,176 36,328
Litigation expense (Note 4) 16,274 98,582
------- ------- --------- ---------
Operating profit (loss) 11,531 (18,992) (44,443) (63,348)
Interest expense (3,353) (6,765) (13,617) (15,397)
Interest income 1,442 712 7,843 2,733
------- ------- --------- ---------
Income (loss) before
income taxes 9,620 (25,045) (50,217) (76,012)
Benefit (provision) for
income taxes (3,350) 9,000 17,600 27,300
------- ------- --------- ---------
Net income (loss) $ 6,270 $(16,045) $ (32,617)$ (48,712)
======= ======= ========= =========
EARNINGS (LOSS) PER SHARE (Note 8)
Basic earnings (loss) per share $ 0.06 $ (0.16) $ (0.32)$ (0.49)
======= ======= ========= =========
Weighted-average shares 101,300 99,743 100,871 99,800
======= ======= ========= =========
Diluted earnings (loss) per share $ 0.06 $ (0.16) $ (0.32)$ (0.49)
======= ======= ========= =========
Weighted-average and dilutive
potential shares 102,064 99,743 100,871 99,800
======= ======= ========= =========
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE>
Form 10-Q, Page 5
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
(In Thousands of Dollars)
Nine Months Ended
----------------------
09/29/00 09/24/99
----------------------
OPERATING ACTIVITIES
Cash received from customers $ 1,582,149 $ 1,758,507
Cash paid to suppliers and employees (1,336,949) (1,667,577)
Cash paid for restructuring activities (Note 5) (25,373) (21,671)
Interest received 7,843 2,733
Interest paid (12,287) (13,738)
Income tax refunded, net 61,293 6,240
---------- ----------
Net cash provided by operating activities 276,676 64,494
---------- ----------
INVESTING ACTIVITIES
Purchases of property, plant and equipment, net (48,314) (90,734)
Business acquisitions, net (6,400)
Other assets, net (18,984) (4,782)
---------- ----------
Net cash used in investing activities (67,298) (101,916)
---------- ----------
FINANCING ACTIVITIES
Proceeds from (repayments of) credit facilities, net (189,559) 86,241
Repayments of other debt, net (6,896) (1,239)
Repurchases of common stock (35,226)
Proceeds from employee stock plans 9,174 14,843
---------- ----------
Net cash provided by (used in)
financing activities (187,281) 64,619
---------- ----------
Effect of exchange rate changes on cash (15,905) (22,868)
---------- -----------
Increase in cash and cash equivalents 6,192 4,329
Cash and cash equivalents - beginning of
the period 215,421 231,985
---------- ----------
Cash and cash equivalents - end of the period $ 221,613 $ 236,314
========== ==========
RECONCILIATION OF NET LOSS TO NET CASH
PROVIDED BY OPERATING ACTIVITIES
Net loss $ (32,617)$ (48,712)
Depreciation and amortization expense 106,848 98,603
Inventory write downs 62,495 36,156
Non-cash litigation expense (Note 4) 98,582
Non-cash restructuring expense (Note 5) 5,720 6,680
Translation loss 18,393 18,418
Other non-cash adjustments to income (4) 8,434
Decrease in accounts receivable 139,714 18,224
Increase in inventories, net (26,325) (101,712)
Increase in spare parts (18,413) (25,502)
(Increase) decrease in deferred income tax
assets, net 452 (6,031)
Decrease in accounts payable and accrued
liabilities (21,292) (21,455)
Increase (decrease) in income taxes payable 41,705 (17,191)
---------- ----------
Net cash provided by operating activities $ 276,676 $ 64,494
========== ==========
The accompanying notes are an integral part of the consolidated financial
statements.
<PAGE>
Form 10-Q, Page 6
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - BASIS OF PREPARATION
------------------------------
The accompanying consolidated financial statements of Storage Technology
Corporation and its subsidiaries (StorageTek or the Company) have been prepared
in accordance with the Securities and Exchange Commission (SEC) requirements for
Form 10-Q. In the opinion of management, these statements reflect all
adjustments necessary for the fair presentation of results for the periods
presented, and such adjustments are of a normal, recurring nature. For further
information, refer to the consolidated financial statements and footnotes
included in the Company's Annual Report on Form 10-K for the year ended December
31, 1999.
NOTE 2 - INVENTORIES
--------------------
Inventories, net of the associated reserves, consist of the following (in
thousands of dollars):
09/29/00 12/31/99
---------------------------
Raw materials $ 68,919 $ 59,141
Work-in-process 36,784 45,717
Finished goods 123,850 155,784
------- -------
$229,553 $260,642
======= =======
NOTE 3 - DEBT AND FINANCING ARRANGEMENTS
----------------------------------------
The Company has a financing agreement with a bank that provides for the sale of
promissory notes in the principal amount of up to $120,000,000 at any one time.
The agreement, which expires in January 2002, provides for commitments by the
bank to purchase the Company's promissory notes denominated in a number of
foreign currencies. As of September 29, 2000, the Company had promissory notes
of $61,592,000 outstanding under this financing agreement and had committed to
borrowings between October 2000 and January 2002 in the cumulative principal
amount of approximately $252,851,000. The notes must be repaid only to the
extent of future revenue. Obligations under the agreement are not cancelable by
the Company or the bank. Gains and losses associated with changes in the
underlying foreign currencies are deferred during the commitment period and
recognized as an adjustment to the revenue supporting the note repayment at the
time the bank purchases the promissory notes. The promissory notes, together
with accrued interest, are payable in U.S. dollars within 40 days from the date
of issuance. The weighted average interest rate associated with the promissory
notes outstanding as of September 29, 2000, was 8.62%. Under the terms of the
agreement, the Company is required to comply with certain covenants and, under
certain circumstances, may be required to maintain a collateral account,
including cash and qualifying investments, in an amount up to the outstanding
balance of the promissory notes.
See the Company's 1999 Form 10-K for additional information regarding the
Company's debt and financing arrangements.
NOTE 4 - LITIGATION
-------------------
In January 1994, Stuff Technology Partners II, a Colorado Limited Partnership
(Stuff), filed suit in Boulder County, Colorado, District Court (the District
Court) against the Company and certain subsidiaries. The suit alleged that the
Company breached a 1990 settlement agreement that had resolved
<PAGE>
Form 10-Q, Page 7
earlier litigation between the parties concerning an optical disk drive storage
development project entered into in 1981 which was unsuccessful and terminated
in 1985. The suit sought injunctive relief and damages in the amount of $2.4
billion. On December 28, 1995, the District Court granted the Company's motion
for summary judgment and dismissed the complaint. Stuff appealed the dismissal
to the Colorado Court of Appeals (the Court of Appeals). In March 1997, the
Court of Appeals reversed the District Court's judgment and remanded the case to
the District Court for further proceedings. On July 15, 1999, the District Court
again dismissed, with prejudice, all of Stuff's material claims against the
Company. On August 30, 1999, Stuff filed a notice of appeal with the Appeals
Court seeking to overturn the decision of the District Court. Subsequently, the
parties have filed various appellate briefs. Oral arguments before the Appeals
Court occurred on August 8, 2000. On August 17, 2000, the Court of Appeals
remanded the case back to the District Court for a trial on the factual issues
relating to the interpretation of the language embodied in the 1990 Settlement
Agreement. The Company filed a Petition for Rehearing with the Court of Appeals.
On October 12, 2000, the Court of Appeals modified its decision, but denied the
Company's Petition for Rehearing. On or about November 7, 2000, the Company
filed a Petition for Certiorari with the Supreme Court of Colorado. The Company
continues to believe that Stuff's claims are wholly without merit and intends to
defend vigorously any further actions arising from this complaint.
On June 29, 1995, Odetics, Inc. filed a patent infringement suit against the
Company alleging infringement of various patents. During the second quarter of
1999, the Company recognized a pre-tax expense of $82,308,000 in connection with
the resolution of this litigation. As a result of the settlement, the Company
recognized an additional $15,486,000 pre-tax expense in the third quarter of
1999 to reflect the present value of the final settlement payments. The Company
also settled a number of less significant legal actions resulting in a pre-tax
expense of $788,000 during the third quarter of 1999.
The Company is also involved in various other less significant legal actions.
While the Company currently believes that the amount of any ultimate potential
loss would not be material to the Company's financial position, the outcome of
these actions is inherently difficult to predict. In the event of an adverse
outcome, the ultimate potential loss could have a material adverse effect on the
Company's financial position or reported results of operations in a particular
quarter. An unfavorable decision, particularly in patent litigation, could
require material changes in production processes and products or result in the
Company's inability to ship products or components found to have violated
third-party patent rights.
NOTE 5 - RESTRUCTURING
----------------------
On October 28, 1999, the Company announced a broad restructuring program
intended to return the Company to profitability. Key elements of the
restructuring plan included:
o an anticipated reduction of approximately 1,200 to 1,400 positions, with
approximately 550 positions eliminated during fiscal year 1999 and the
remaining positions eliminated by the end of the third quarter of 2000;
o a reduction in investment in certain businesses, including consulting and
integration services and managed storage services;
o a recommitment to the Company's core strengths of tape automation, virtual
storage and open storage area networks (including related maintenance and
professional services);
o modifications to the sales model in North America intended to improve
productivity and increase account coverage and growth;
o other organizational and operational changes intended to improve efficiency
and competitiveness.
<PAGE>
Form 10-Q, Page 8
The elements of the restructuring included an involuntary reduction in
headcount, the elimination of a significant number of temporary employee
positions, and managing the replacement of terminating employees due to normal
attrition. The headcount reductions were targeted in all areas of the Company.
During the third quarter and nine months of 2000, the Company incurred pre-tax
expenses of $3,376,000 and $27,176,000, respectively, related to the
restructuring. As of September 29, 2000, the Company had substantially completed
all currently planned restructuring activities. The following table summarizes
the activity in the Company's restructuring reserves during the nine months of
2000 (in thousands of dollars):
Employee Asset Other Exit
Severance Writedowns Costs Total
---------- ---------- ---------- ------
Balances, December 31, 1999 $ 3,917 $ 3,917
Restructuring expense 21,456 $ 5,258 $ 462 27,176
Cash payments (25,373) (25,373)
Asset writedowns (5,258) (462) (5,720)
------- ------ ------ -------
Balances, June 30, 2000 $ 0 $ 0 $ 0 $ 0
======= ====== ====== =======
Employee severance expense of $21,456,000 was recognized during the nine months
of 2000 in connection with the restructuring. This expense is comprised of
separation charges related to the fixed and determinable severance payments owed
to approximately 1,100 employees who were involuntarily terminated during the
nine months of 2000 in connection with the restructuring.
Asset writedowns of $5,258,000 were recognized during the nine months of 2000 in
connection with the restructuring. The asset writedowns are comprised of
$2,301,000 related to the spin-off of the Company's managed storage services
business and $2,957,000 related to the impairment writedown of assets at the
Company's manufacturing facility in Toulouse, France. The Company has engaged in
activities to sell the Toulouse facility and the impairment charge was required
to reflect the Company's estimate of the fair value of the facility upon its
anticipated sale.
Other exit costs of $462,000 were recognized during the nine months of 2000.
Other exit costs are comprised of $326,000 associated with legal and accounting
expenses incurred in connection with the spin-off of the managed storage
services business and $136,000 related to excess lease space in Canada.
The Company incurred pre-tax expenses of $16,082,000 during the third quarter,
and $36,328,000 during the nine months of 1999, in connection with a
restructuring program announced on April 15, 1999, which provided for a
reduction in headcount as well as the elimination of certain lower priority
research and development programs.
NOTE 6 - RECENT ACCOUNTING PRONOUNCEMENTS
-----------------------------------------
In June 1998, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 requires all derivatives to be
recognized as either assets or liabilities on the Consolidated Balance Sheet at
their fair value. The corresponding change in fair value of the derivative
instrument will be recognized either in the Consolidated Statement of
Operations, net of any change in fair value of the related hedged item, or as a
component of comprehensive income depending upon the intended use and
designation of the instrument.
In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivative
Instruments and Hedging Activities -- Deferral of the Effective Date of
FASB Statement No. 133 -- an amendment of FASB
<PAGE>
Form 10-Q, Page 9
Statement No. 133." SFAS No. 137 has the effect of delaying the required
adoption date of SFAS No. 133 for the Company until the first day of the
Company's fiscal year 2001. In June 2000, the FASB issued SFAS No. 138
"Accounting for Certain Derivative Instruments and Certain Hedging Activities"
-- an amendment of SFAS No. 133. SFAS No. 138 addresses a number of
implementation issues associated with SFAS No. 133. The Company anticipates it
will adopt SFAS No. 133 and its associated interpretations on the required
adoption date. While the adoption of these new accounting standards for
derivatives will change the presentation on the Consolidated Balance Sheet and
Consolidated Statement of Operations for certain foreign currency exchange rate
sensitive financial instruments held by the Company, the new accounting
standards are not currently expected to have a material impact on the Company's
financial position or results of operations.
In December 1999, the SEC staff issued Staff Accounting Bulletin No. 101 (SAB
101), "Revenue Recognition in Financial Statements." SAB 101 provides guidance
regarding the recognition, presentation and disclosure of revenue in financial
statements filed with the SEC. In June 2000, the SEC issued SAB 101B that has
the effect of delaying the required adoption of SAB 101 for the Company until
the fourth quarter of 2000. The Company currently believes SAB 101 will not have
a material effect on its financial position or results of operations.
NOTE 7 - OPERATIONS OF BUSINESS SEGMENTS
----------------------------------------
In the first quarter of 2000, the Company changed its reportable segments to
reflect changes in its business operations resulting from its restructuring
activities. The Company is now organized into two reportable segments based on
the definitions of segments provided under SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information": storage products and storage
services. The principal effect of this change was the reclassification of
storage management software from a separate reportable segment to its inclusion
within the storage products segment, and the reclassification of storage
integration products from the storage services segment to the storage products
segment. The 1999 quarterly segment data has been restated to conform to the
current year presentation.
The storage products segment sells tape, disk, network, and other products for
the enterprise and client-server computing environments. The storage products
segment includes products designed for storage area networks (SAN) and software
tools and applications for improving storage product performance and simplifying
information storage management. The storage services segment provides
maintenance services for the Company's and third party products, as well as
storage consulting services associated mainly with SAN, virtual storage
technologies and software solutions.
The Company does not have any intersegment revenue and evaluates segment
performance based on gross profit. The sum of the segment gross profits equals
the consolidated gross profit and the Company does not allocate research and
product development costs; selling, general, administrative and other income and
expense; interest expense; interest income; or provision for income taxes to the
segments.
<PAGE>
Form 10-Q, Page 10
The revenue and gross profit by segment are as follows (in thousands of
dollars):
Quarter Ended Nine Months Ended
---------------------- ----------------------
09/29/00 09/24/99 09/29/00 09/24/99
-------- -------- --------- --------
Revenue:
Storage products $325,301 $416,392 $ 975,308 $1,258,188
Storage services 161,316 157,338 483,455 487,447
------- ------- --------- ---------
Total revenue $486,617 $573,730 $1,458,763 $1,745,635
======= ======= ========= =========
Gross profit:
Storage products $146,047 $183,265 $ 396,806 $ 555,845
Storage services 61,375 47,056 174,901 168,335
------- ------- --------- ---------
Total gross profit $207,422 $230,321 $ 571,707 $ 724,180
======= ======= ========= =========
The following table provides supplemental financial data regarding revenue from
the Company's storage products segment (in thousands of dollars):
Quarter Ended Nine Months Ended
---------------------- ----------------------
09/29/00 09/24/99 09/29/00 09/24/99
-------- -------- --------- ---------
Tape products $249,006 $286,312 $761,157 $ 859,674
Disk products 32,226 86,771 104,392 297,038
Network and other products 44,069 43,309 109,759 101,476
------- ------- ------- ---------
Total storage products
revenue $325,301 $416,392 $975,308 $1,258,188
======= ======= ======= =========
NOTE 8 - EARNINGS (LOSS) PER SHARE
----------------------------------
The following table presents the calculation of basic and diluted earnings
(loss) per share (in thousands, except per share amounts):
Quarter Ended Nine Months Ended
---------------------- ----------------------
09/29/00 09/24/99 09/29/00 09/24/99
-------- -------- --------- ---------
Net income (loss) $ 6,270 $(16,045) $(32,617) $(48,712)
======= ======= ======= =======
Denominator:
Basic weighted-average
shares 101,300 99,743 100,871 99,800
Effect of dilutive
shares 764
------- ------- ------- -------
Diluted weighted-average
and dilutive potential
shares 102,064 99,743 100,871 99,800
======= ======= ======= =======
Basic earnings (loss)
per share $ 0.06 $ (0.16) $ (0.32) $ (0.49)
======= ======= ======= =======
Diluted earnings (loss)
per share $ 0.06 $ (0.16) $ (0.32) $ (0.49)
======= ======= ======= =======
Stock options to purchase 12,640,860 shares of common stock were excluded from
the computation of diluted earnings per share for the quarter ended September
29, 2000, as the exercise price of the options was greater than the average
market price of the Company's common stock. Stock options to purchase 12,787,883
shares of common stock were excluded from the computation of diluted earnings
per share for the nine months ended September 29, 2000, as these options are
antidilutive as a result of the net loss incurred.
<PAGE>
Form 10-Q, Page 11
NOTE 9 - SUBSEQUENT EVENT - EMPLOYEE STOCK OPTION EXCHANGE PROGRAM
------------------------------------------------------------------
On November 6, 2000, the Company made an exchange offer (the Exchange) to
approximately 1,300 employees of the Company to exchange stock options to
purchase common stock, par value $.10 per share, of the Company (the Common
Stock) that have a per share exercise price of $17.50 or greater, whether or not
vested (Eligible Options) for shares of restricted common stock, at an exchange
ratio of four option shares surrendered for each share of restricted stock
received. The shares of restricted stock will vest one-third on each of the
first, second and third annual anniversary dates of November 20, 2000, the date
upon which the Exchange will close (the Exchange Date). The Exchange
specifically precludes the Chairman of the Board, President and Chief Executive
Officer of the Company and all corporate vice presidents of the Company from
participating in the Exchange. Both the stock options and the restricted stock
involved in the Exchange are subject to the Company's Amended and Restated 1995
Equity Participation Plan (the 1995 Plan).
In order to be eligible to participate in the Exchange (Eligible Participant),
the employee must not have received any stock options in the six months
preceding the Exchange Date. An Eligible Participant must exchange all the
Eligible Options held. In general, if the employment of an employee who
participates in the Exchange terminates prior to the vesting of all the shares
of restricted stock received in the Exchange, the employee shall forfeit the
unvested shares of restricted stock. If the employment of such employee is
terminated as a result of death, Disability or a Reduction in Force (as those
terms are defined in the 1995 Plan) following a change of control, all shares of
restricted stock received by that employee in the Exchange will vest
immediately. Any Eligible Participants electing to participate in the Program
will be ineligible for any stock option grants, additional restricted stock
awards, stock appreciation rights or other equity-based awards by the Company
for a period of six months following the Exchange Date. The Exchange is subject
to acceptance by the Company on the Exchange Date. In addition, if, on the
Exchange Date, the closing price of the Company's common stock is $15.00 or
greater, the Exchange will be automatically terminated and no options will be
exchanged for any shares of restricted stock. If all the Eligible Options are
exchanged, the number of outstanding shares of common stock will increase by
approximately 1,410,000 as a result of the Exchange.
The non-cash deferred compensation associated with the restricted stock will be
recognized ratably over the three-year vesting schedule of the restricted stock
to be issued in the Exchange. The non-cash deferred compensation will be
recognized on an accelerated basis to the extent that shares of the restricted
stock vest on an accelerated basis in the situations described above and will be
reduced to the extent that a participant forfeits his or her shares of
restricted stock received in the Exchange prior to vesting. The compensation
amount is unaffected by future changes in the price of the common stock.
None of the Eligible Options are currently included as dilutive potential shares
in the calculation of diluted earnings per share because all of the Eligible
Options have exercise prices in excess of the current fair market value of the
common stock. All issued and outstanding shares of restricted stock are included
in the calculation of diluted earnings per share, regardless of whether vested.
<PAGE>
Form 10-Q, Page 12
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
SEPTEMBER 29, 2000
All assumptions, anticipations, expectations and forecasts contained in the
following discussion regarding the Company's future product and business plans,
financial results, performance and events are forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995. The
Company's actual results may differ materially because of a number of risks and
uncertainties. Some of these risks are detailed below in "Factors That May
Affect Future Results" and elsewhere in this Form 10-Q. The forward-looking
statements contained herein represent a good-faith assessment of the Company's
future performance for which management believes there is a reasonable basis.
The Company disclaims any obligation to update forward-looking statements
contained herein, except as may be otherwise required by law.
GENERAL
-------
The Company reported net income for the third quarter ended September 29, 2000,
of $6.3 million on revenue of $486.6 million, compared to a net loss of $16.0
million for the third quarter of 1999 on revenue of $573.7 million. A net loss
of $32.6 million was reported for the nine months of 2000 on revenue of $1.46
billion, compared to a net loss of $48.7 million for the nine months of 1999 on
revenue of $1.75 billion. The Company's reported results for the third quarter
and nine months of 2000 include one-time pre-tax expenses of $3.4 million and
$27.2 million, respectively, associated with restructuring. Excluding the
one-time pre-tax charges, the Company would have reported net income of $8.4
million and a net loss of $15.0 million during the third quarter and nine months
of 2000, respectively. The Company's reported results for the third quarter and
nine months of 1999 include one-time pre-tax expenses of $32.4 million and
$134.9 million, respectively, associated with litigation and restructuring.
Excluding the one-time pre-tax charges, the Company would have earned net income
of $4.7 million and $37.7 million during the third quarter and nine months of
1999, respectively.
Many of the Company's customers undertake detailed procedures relating to the
evaluation, testing, implementation and acceptance of the Company's products and
services. This evaluation process results in a variable sales cycle, and makes
it difficult to predict if or when revenue will be earned. Further, gross
margins may be adversely impacted in an effort to complete the sales cycle. The
Company's financial results may be adversely impacted in future periods by its
variable sales cycle. Future financial results are also dependent upon the
Company's ability to manage its costs and operating expenses in line with
revenue; the timely development, manufacture and introduction of new products
and services; successfully managing the development of new direct and indirect
sales channels; and the implementation and execution of its storage area network
(SAN) strategy. For a discussion of these and other risk factors, see "Factors
That May Affect Future Results," below.
In April 1999, the Company first announced plans to restructure its business. In
October 1999, the Company announced more broad restructuring plans. These
restructuring activities were intended to return the Company to profitability.
As of September 29, 2000, the Company had substantially completed all currently
planned restructuring activities. The Company estimates annual savings of
approximately $40 million will be realized during 2000 in connection with the
April 1999 restructuring. The Company anticipates annual savings of
approximately $150 million will result from the restructuring activities
initiated in October 1999. Because the October 1999 restructuring activities
were implemented in stages throughout the nine months of 2000, the Company
anticipates the realized savings for the year 2000 will be slightly in excess of
$100 million. There can be no assurance that the restructuring activities
described above will be successful or sufficient to allow the Company to realize
the expected annualized savings or that additional restructuring activities may
not be required in future periods. The Company is currently
<PAGE>
Form 10-Q, Page 13
evaluating its market strategy and anticipates it will announce this strategy
during the fourth quarter of 2000. See "Restructuring," below for further
discussion of the restructuring activities.
The Company's operating activities provided cash of $276.7 million during the
nine months of 2000 compared to cash of $64.5 million provided by operations
during the same period in 1999. The increase in cash generated from operations
during the nine months of 2000, compared to the same period in 1999, was
primarily the result of progress in the Company's efforts to more effectively
manage working capital and net income tax refunds of $61.3 million received in
the nine months of 2000 as compared to $6.3 million in the nine months of 1999.
Working capital benefits were realized during the nine months of 2000 in the
form of reductions in accounts receivable days sales outstanding and lower
inventory levels. See "Liquidity and Capital Resources -- Working Capital" for
additional discussion of working capital. Cash used in investing activities
decreased from $101.9 million during the nine months of 1999 to $67.3 million
during the nine months of 2000 primarily due to efforts to control capital
spending on property, plant and equipment. Cash used in financing activities of
$187.3 million during the nine months of 2000 reflects debt repayments of $196.5
million offset by proceeds received from employee stock purchase plans.
The following table, stated as a percentage of total revenue, presents
Consolidated Statement of Operations information:
Quarter Ended Nine Months Ended
----------------------------------------
09/29/00 09/24/99 09/29/00 09/24/99
--------- -------- -------- --------
Storage products:
Tape products 51.2% 49.9% 52.2% 49.3%
Disk products 6.6 15.1 7.2 17.0
Network and other products 9.0 7.6 7.5 5.8
----- ----- ----- -----
Total storage products 66.8 72.6 66.9 72.1
Storage services 33.2 27.4 33.1 27.9
----- ----- ----- -----
Total revenue 100.0 100.0 100.0 100.0
Cost of revenue 57.4 59.9 60.8 58.5
----- ----- ----- -----
Gross profit 42.6 40.1 39.2 41.5
Research and product development
costs 13.0 11.5 13.2 12.2
Selling, general, administrative
and other income and expense, net 26.5 26.3 27.1 25.2
Restructuring expense 0.7 2.8 1.9 2.1
Litigation expense 2.8 5.6
----- ----- ----- -----
Operating profit (loss) 2.4 (3.3) (3.0) (3.6)
Interest income (expense), net (0.4) (1.1) (0.4) (0.8)
----- ----- ----- -----
Income (loss) before income
taxes 2.0 (4.4) (3.4) (4.4)
Benefit (provision) for income
taxes (0.7) 1.6 1.2 1.6
----- ----- ----- -----
Net income (loss) 1.3% (2.8)% (2.2)% (2.8)%
===== ===== ===== =====
REVENUE
-------
STORAGE PRODUCTS
The Company's storage products revenue includes sales of tape, disk, and network
and other products for the enterprise and client-server markets, including SANs.
Revenue generated from storage products decreased 22% during the third quarter
and nine months of 2000, respectively, compared to the same periods in 1999.
<PAGE>
Form 10-Q, Page 14
Tape Products
Tape product revenue decreased 13% and 11% during the third quarter and nine
months of 2000, respectively, compared to the same periods in 1999, primarily
due to the negative impact from parts shortages from two suppliers, and
decreased revenue from TimberLine(R) 9490, a 36-track cartridge subsystem; the
TimberWolf series of client-server automated tape products; PowderHorn(R) 9310,
an automated cartridge system library; and other earlier generation enterprise
tape products. The decrease in revenue from these products reflects both lower
selling prices and decreases in the number of units sold. These revenue
reductions also reflect the continued shift in the marketplace from enterprise
to client-server tape products. These declines were partially offset by
increased sales of the L-series client-server tape libraries, the 9840
high-performance tape drive (9840) and Virtual Storage Manager(R) (VSM).
Future revenue growth from tape products is dependent upon increasing market
acceptance of VSM, the 9840, and the L-series tape libraries, as well as the
timely introduction of new tape products and enhancements which are in the
design, preliminary engineering or engineering validation testing phase. There
can be no assurances that the Company will be successful in increasing market
acceptance for these products, or that new tape products and enhancements will
be introduced in a timely manner. See "Factors That May Affect Future Results
New Products and Services; Emerging Markets," for a discussion of the risks
associated with the introduction of new products. See "Factors that May Affect
Future Results - Sole Source Suppliers," for a discussion of the risks
associated with suppliers.
Disk Products
Disk product revenue decreased 63% and 65% during the third quarter and nine
months of 2000, respectively, compared to the same periods in 1999, primarily
due to a decrease in OEM sales to International Business Machines Corporation
(IBM) of disk storage products and software designed for the enterprise market.
Sales to IBM have been reduced to an insignificant level and the Company does
not anticipate any significant sales revenue from IBM in the future. Sales of
OPENstorage(TM) Disk products also decreased during the third quarter and nine
months of 2000. These decreases were partially offset by direct sales of the
Company's 9500 Shared Virtual Array (SVA) disk products. While the Company has
recently introduced new OPENstorage Disk products and enhancements to SVA, there
can be no assurance that the Company's current and future disk products will
gain additional market acceptance or that the current declines in disk product
revenue will not continue in the future.
Network and Other Products
Network and other product revenue increased 2% and 8% during the third quarter
and nine months of 2000, respectively, compared to the same periods in 1999. The
majority of the network and other product revenue during the third quarter of
2000 related to third party hardware and software sales designed to provide
networking and integration solutions for the SANs marketplace. In October 2000,
the Company introduced the StorageNet(TM) 6000 series of storage domain
managers. See "Risk Factors That May Affect Future Results - New Products and
Services; Emerging Markets," for a discussion of risks associated with both the
introduction of new products, as well as risks associated with the SANs market.
Future revenue growth in the Company's storage products segment is significantly
dependent upon the continued demand for its client-server tape automation
products, developing a successful disk sales strategy, and the timely
development and market acceptance of network products designed for the emerging
SANs market. There can be no assurances that the Company will be successful in
these endeavors. See "Factors That May Affect Future Results -- New Products,
Markets and Distribution Channels; Emerging Markets," for a discussion of the
risks associated with the introduction and manufacture of new products and
distribution channels.
<PAGE>
Form 10-Q, Page 15
STORAGE SERVICES
The Company's storage services revenue primarily includes revenue associated
with the maintenance of the Company's and third party storage products, as well
as storage consulting and integration services revenue. Storage services revenue
increased 3% and decreased 1% during the third quarter and nine months of 2000,
respectively, compared to the same periods in 1999. The increase during the
third quarter of 2000 is primarily due to the Company's progress in a business
initiative designed to capture all billable maintenance revenue.
There can be no assurance that storage service revenue will not decline in
future periods as a result of a decline in maintenance revenue as the customer
base continues to shift to the client-server marketplace. Maintenance revenue
may also be adversely affected in future periods to the extent older products
currently under maintenance contracts are replaced by newer products with
extended warranties.
GROSS PROFIT
------------
Gross profit margins increased to 43% for the third quarter of 2000 as compared
to 40% for the same period in 1999, primarily as a result of increased profit
margins on services. Gross profit margins decreased to 39% for the nine months
of 2000, compared to 41% for same period in 1999, as a decrease in sales margins
more than offset an increase in service margins.
Gross profit margins for the Company's products segment increased to 45% for the
third quarter of 2000, compared to 44% for the same period in 1999. This
increase reflects sales of the recently introduced L-series tape libraries,
which carry higher margins than the earlier generation Timberwolf automated tape
products they replace. Gross profit margins for the Company's products segment
decreased to 41% for the nine months of 2000, compared to 44% for the same
period in 1999. This decrease reflects decreases in the selling prices for disk
products and earlier generation tape products; increased sales of tape
cartridges for use in the 9840 which have lower profit margins; increased sales
of third-party network products which have lower profit margins; a decline in
sales of disk products to IBM; and unfavorable manufacturing variances
associated with excess manufacturing capacity.
Gross profit margins for the services segment increased to 38% and 36% for the
third quarter and nine months of 2000, respectively, compared to 30% and 35% for
the same periods in 1999, primarily as a result of reduced headcount, the
elimination of unprofitable integration businesses, improvement in consulting
margins, and an overall reduction in maintenance costs.
The markets for the Company's products and services are subject to intense price
competition. The Company anticipates that price competition for its products and
services will continue to have an impact on the Company's gross profit margins.
The Company's ability to sustain or improve gross margins is dependent upon
gaining operational efficiencies in connection with the restructuring
activities, achieving cost improvements associated with the sourcing of
production materials, the implementation of internal pricing controls and asset
management disciplines, and driving improved profitability from the Company's
continuing consulting services and integration activities. Storage product gross
margins may be affected in future periods by inventory reserves and writedowns
resulting from rapid technological changes or delays in gaining market
acceptance for products.
<PAGE>
Form 10-Q, Page 16
RESEARCH AND PRODUCT DEVELOPMENT
--------------------------------
Research and product development expenses decreased 5% and 9% during the third
quarter and nine months of 2000, respectively, compared to the same periods in
1999, due to the elimination of several lower priority research and product
development programs in connection with the restructuring. As part of the
restructuring, the Company is focusing research and development activities on
the core businesses of tape and automation, virtual technologies, and SAN
products and services. See "Restructuring," below, for discussion of the
restructuring activities.
SELLING, GENERAL, ADMINISTRATIVE AND OTHER
------------------------------------------
Selling, general, administrative and other income and expense (SG&A) decreased
14% and 10% during the third quarter and nine months of 2000, respectively,
compared to the same periods in 1999, primarily as a result of headcount
reductions and decreased selling expenses. Selling expenses decreased during the
third quarter of 2000 as a result of reduced spending on product marketing
activities, as well as reduced bonus and commission expenses associated with
declines in sales revenue. General and administrative expenses decreased during
the third quarter of 2000 primarily due to reduced headcount.
LITIGATION
----------
In January 1994, Stuff Technology Partners II, a Colorado Limited Partnership
(Stuff), filed suit in Boulder County, Colorado, District Court (the District
Court) against the Company and certain subsidiaries. The suit alleged that the
Company breached a 1990 settlement agreement that had resolved earlier
litigation between the parties concerning an optical disk drive storage
development project entered into in 1981 which was unsuccessful and terminated
in 1985. The suit sought injunctive relief and damages in the amount of $2.4
billion. On December 28, 1995, the District Court granted the Company's motion
for summary judgment and dismissed the complaint. Stuff appealed the dismissal
to the Colorado Court of Appeals (the Court of Appeals). In March 1997, the
Court of Appeals reversed the District Court's judgment and remanded the case to
the District Court for further proceedings. On July 15, 1999, the District Court
again dismissed, with prejudice, all of Stuff's material claims against the
Company. On August 30, 1999, Stuff filed a notice of appeal with the Appeals
Court seeking to overturn the decision of the District Court. Subsequently, the
parties have filed various appellate briefs. Oral arguments before the Appeals
Court occurred on August 8, 2000. On August 17, 2000, the Court of Appeals
remanded the case back to the District Court for a trial on the factual issues
relating to the interpretation of the language embodied in the 1990 Settlement
Agreement. The Company filed a Petition for Rehearing with the Court of Appeals.
On October 12, 2000, the Court of Appeals modified its decision, but denied the
Company's Petition for Rehearing. On or about November 7, 2000, the Company
filed a Petition for Certiorari with the Supreme Court of Colorado. The Company
continues to believe that Stuff's claims are wholly without merit and intends to
defend vigorously any further actions arising from this complaint.
On June 29, 1995, Odetics, Inc. filed a patent infringement suit against the
Company alleging infringement of various patents. During the second quarter of
1999, the Company recognized a pre-tax expense of $82.3 million in connection
with the resolution of this litigation. As a result of the settlement, the
Company recognized an additional $15.5 million pre-tax expense in the third
quarter of 1999 to reflect the present value of the final settlement payments.
The Company also settled a number of less significant legal actions resulting in
a pre-tax expense of $788,000 during the third quarter of 1999.
The Company is also involved in various other less significant legal actions.
While the Company currently believes that the amount of any ultimate potential
loss would not be material to the Company's financial position, the outcome of
these actions is inherently difficult to predict. In the event of an adverse
outcome, the ultimate potential loss could have a material adverse effect on the
Company's financial position or reported results of operations in a particular
quarter. An unfavorable decision,
<PAGE>
Form 10-Q, Page 17
particularly in patent litigation, could require material changes in production
processes and products or result in the Company's inability to ship products or
components found to have violated third-party patent rights.
RESTRUCTURING
--------------
On October 28, 1999, the Company announced a broad restructuring program
intended to return the Company to profitability. Key elements of the
restructuring plan included:
o an anticipated reduction of approximately 1,200 to 1,400 positions, with
approximately 550 positions eliminated during fiscal year 1999 and the
remaining positions eliminated by the end of the third quarter of 2000;
o a reduction in investment in certain businesses, including consulting and
integration services and managed storage services;
o a recommitment to the Company's core strengths of tape automation, virtual
storage and open storage area networks (including related maintenance and
professional services);
o modifications to the sales model in North America intended to improve
productivity and increase account coverage and growth;
o other organizational and operational changes intended to improve efficiency
and competitiveness.
The elements of the restructuring included an involuntary reduction in
headcount, the elimination of a significant number of temporary employee
positions, and managing the replacement of terminating employees due to normal
attrition. The headcount reductions were targeted in all areas of the Company.
During the third quarter and nine months of 2000, the Company incurred pre-tax
expenses of $3.4 million and $27.2 million, respectively, related to the
restructuring. As of September 29, 2000, the Company had substantially completed
all currently planned restructuring activities. The following table summarizes
the activity in the Company's restructuring reserves during the nine months of
2000 (in thousands of dollars):
Employee Asset Other Exit
Severance Writedowns Costs Total
---------- ---------- ---------- ------
Balances, December 31, 1999 $ 3,917 $ 3,917
Restructuring expense 21,456 $ 5,258 $ 462 27,176
Cash payments (25,373) (25,373)
Asset writedowns (5,258) (462) (5,720)
------- ------ ------ -------
Balances, June 30, 2000 $ 0 $ 0 $ 0 $ 0
======= ====== ====== =======
Employee severance expense of $21.5 million was recognized during the nine
months of 2000 in connection with the restructuring. This expense is comprised
of separation charges related to the fixed and determinable severance payments
owed to approximately 1,100 employees who were involuntarily terminated during
the nine months of 2000 in connection with the restructuring.
Asset writedowns of $5.3 million were recognized during the nine months of 2000
in connection with the restructuring. The asset writedowns are comprised of $2.3
million related to the spin-off of the Company's managed storage services
business and $3.0 million related to the impairment writedown of assets at the
Company's manufacturing facility in Toulouse, France. The Company has engaged in
<PAGE>
Form 10-Q, Page 18
activities to sell the Toulouse facility and the impairment charge was required
to reflect the Company's estimate of the fair value of the facility upon its
anticipated sale.
Other exit costs of $462,000 were recognized during the nine months of 2000.
Other exit costs are comprised of $326,000 associated with legal and accounting
expenses incurred in connection with the spin-off of the managed storage
services business and $136,000 related to excess lease space in Canada.
The Company incurred pre-tax expenses of $16.1 million during the third quarter,
and $36.3 million during the nine months of 1999, in connection with a
restructuring program announced on April 15, 1999, which provided for a
reduction in headcount as well as the elimination of certain lower priority
research and development programs.
The Company has now reached its goal of reducing 1,200 to 1,400 positions. A net
reduction of approximately 1,250 positions was achieved through a combination of
involuntary severances, limiting the replacement of terminating employees due to
normal attrition, and eliminating certain contractors, temporary employees and
other non-permanent positions.
The Company estimates annual savings of approximately $40 million will be
realized during 2000 in connection with the April 1999 restructuring. The
Company anticipates annual savings of approximately $150 million will result
from the restructuring activities initiated in October 1999. Because the
restructuring activities were implemented in stages throughout the nine months
of 2000, the Company anticipates the realized savings for the year 2000 will be
slightly in excess of $100 million. The Company does not anticipate any material
incremental operating expenses will be incurred on an on-going basis.
The Company has restructured its business in the past in order to realign its
business with its product and market strategies, or establish a more cost
efficient business structure. The Company is currently evaluating its future
market strategy, and anticipates it will announce its strategy in the fourth
quarter of 2000. There can be no assurance that the restructuring activities
described above will be successful or sufficient to allow the Company to
generate improved operating results in future periods. It is possible that
additional changes in the Company's business or in its industry may necessitate
additional restructuring expense in the future. The necessity for additional
restructuring activities may result in expenses that adversely affect reported
results of operations in the period the restructuring plan is adopted, and
require incremental cash payments.
INTEREST INCOME AND EXPENSE
---------------------------
Interest expense decreased $3.4 and $1.8 million during the third quarter and
nine months of 2000, respectively, compared to the same periods in 1999, due to
decreased borrowings under the Company's debt and financing arrangements.
Interest income increased $730,000 and $5.1 million during the third quarter and
nine months of 2000, respectively, compared to the same periods in 1999,
primarily as a result of approximately $3.0 million of interest received related
to an income tax refund and an overall increase in available cash.
INCOME TAXES
------------
The Company's effective tax rate decreased from 36% for the third quarter and
nine months of 1999, to 35% for the third quarter and nine months of 2000.
Statement of Financial Accounting Standards (SFAS) No. 109 requires that
deferred income tax assets be recognized to the extent realization of such
assets is more likely than not. Based on the currently available information,
management has determined that the Company will more likely than not realize
$164.5 million of deferred income tax assets as of September 29, 2000. The
Company's valuation
<PAGE>
Form 10-Q, Page 19
allowance of approximately $13.5 million as of September 29, 2000, relates
principally to net deductible temporary differences, tax credit carryforwards
and net operating loss carryforwards associated with the Company's foreign
subsidiaries.
LIQUIDITY AND CAPITAL RESOURCES
-------------------------------
Available Financing Lines
The Company has a revolving credit facility (the Primary Revolver) which expires
in October 2001. The credit limit available under the Primary Revolver ($250
million as of September 29, 2000) is reduced by $12.5 million on the last
business day of each calendar quarter. The interest rates under the Primary
Revolver depend upon the repayment period of the advance selected and the
Company's rolling four quarter Total Debt to Earnings before Interest Expense,
Taxes, Depreciation and Amortization (EBITDA) ratio. Depending on the term of
the outstanding borrowing, the rate ranges from the applicable LIBOR plus 2.0%
to 2.5% or the agent bank's base rate plus 0% to 0.50%. The weighted average
interest rate on the advances as of September 29, 2000, was 9.5%. The Company
had borrowings of $35 million and issued letters of credit for approximately
$50,000 under the Primary Revolver as of September 29, 2000. The remaining
available credit under the Primary Revolver as of September 29, 2000, was
approximately $215.0 million. Borrowings under the Primary Revolver are secured
by the Company's U.S. accounts receivable and U.S. inventory. The Primary
Revolver contains certain financial and other covenants, including restrictions
on payment of cash dividends on the Company's common stock.
The Company has also entered into a $150 million revolving credit facility (the
Supplemental Revolver) which expires in January 2001. The interest rates under
the Supplemental Revolver depend upon the repayment period of the advance
selected and the Company's EBITDA ratio. Depending on the term of the
outstanding borrowing, the rate ranges from the applicable LIBOR plus 2.0% to
2.5% or the agent bank's base rate plus 0% to 0.50%. The Company had no
borrowings outstanding under the Supplemental Revolver as of September 29, 2000.
Available credit under the Supplemental Revolver as of September 29, 2000, was
$150 million. The Supplemental Revolver is secured by the Company's U.S.
accounts receivable and U.S. inventory. The Supplemental Revolver contains
certain financial and other covenants, including restrictions on the payment of
cash dividends on the Company's common stock.
The Company has a financing agreement with a bank that provides for the sale of
promissory notes in the principal amount of up to $120 million at any one time.
The agreement, which expires in January 2002, provides for commitments by the
bank to purchase the Company's promissory notes denominated in a number of
foreign currencies. As of September 29, 2000, the Company had promissory notes
of $61.6 million outstanding under this financing agreement and had committed to
borrowings between October 2000 and January 2002 in the cumulative principal
amount of approximately $252.9 million. The notes must be repaid only to the
extent of future revenue. Obligations under the agreement are not cancelable by
the Company or the bank. Gains and losses associated with changes in the
underlying foreign currencies are deferred during the commitment period and
recognized as an adjustment to the revenue supporting the note repayment at the
time the bank purchases the promissory notes. The promissory notes, together
with accrued interest, are payable in U.S. dollars within 40 days from the date
of issuance. The weighted average interest rate associated with the promissory
notes outstanding as of September 29, 2000, was 8.62%. Under the terms of the
agreement, the Company is required to comply with certain covenants and, under
certain circumstances, may be required to maintain a collateral account,
including cash and qualifying investments, in an amount up to the outstanding
balance of the promissory notes.
<PAGE>
Form 10-Q, Page 20
Working Capital
The Company believes it has adequate working capital and financing capabilities
to meet its anticipated operating and capital requirements for the next 12
months. Over the longer term, the Company may choose to fund these activities
through the issuance of additional equity or debt financing. The issuance of
equity or convertible debt securities could result in dilution to the Company's
stockholders. There can be no assurance that any additional long-term financing,
if required, can be completed on terms acceptable to the Company.
Total Debt-to-Total Capitalization
The Company's total debt-to-capitalization ratio decreased from 26% as of
December 31, 1999, to 11% as of September 29, 2000, primarily due to a net
decrease in borrowings of $189.6 million under the Company's credit facilities.
See "Working Capital," above, for discussion of cash sources and uses.
Employee Stock Option Exchange Program
On November 6, 2000, the Company made an exchange offer (the Exchange) to
approximately 1,300 employees of the Company to exchange stock options to
purchase common stock, par value $.10 per share, of the Company (the Common
Stock) that have a per share exercise price of $17.50 or greater, whether or not
vested (Eligible Options) for shares of restricted common stock, at an exchange
ratio of four option shares surrendered for each share of restricted stock
received. The shares of restricted stock will vest one-third on each of the
first, second and third annual anniversary dates of November 20, 2000, the date
upon which the Exchange will close (the Exchange Date). The Exchange
specifically precludes the Chairman of the Board, President and Chief Executive
Officer of the Company and all corporate vice presidents of the Company from
participating in the Exchange. Both the stock options and the restricted stock
involved in the Exchange are subject to the Company's Amended and Restated 1995
Equity Participation Plan (the 1995 Plan).
The purpose of the Exchange is to:
o provide retention and performance incentives for key employees;
o align better the interests of key employee with those of the stockholders; and
o provide for the return of shares subject to surrendered options to the 1995
Plan for use in future employee equity programs.
In order to be eligible to participate in the Exchange (Eligible Participant),
the employee must not have received any stock options in the six months
preceding the Exchange Date. An Eligible Participant must exchange all the
Eligible Options held. In general, if the employment of an employee who
participates in the Exchange terminates prior to the vesting of all the shares
of restricted stock received in the Exchange, the employee shall forfeit the
unvested shares of restricted stock. If the employment of such employee is
terminated as a result of death, Disability or a Reduction in Force (as those
terms are defined in the 1995 Plan) following a change of control, all shares of
restricted stock received by that employee in the Exchange will vest
immediately. Any Eligible Participants electing to participate in the Program
will be ineligible for any stock option grants, additional restricted stock
awards, stock appreciation rights or other equity-based awards by the Company
for a period of six months following the Exchange Date.
The Exchange is subject to acceptance by the Company on the Exchange Date. In
addition, if, on the Exchange Date, the closing price of the Company's common
stock is $15.00 per share or greater at the close of trading on the New York
Stock Exchange, as reported subsequently in The Wall Street Journal, the
Exchange will be automatically terminated and no options will be exchanged for
any shares of restricted stock. This price provision was determined by the
Company's Board of Directors to be
<PAGE>
Form 10-Q, Page 21
necessary in order to limit the amount of the deferred compensation charge to be
recognized by the Company. Based on the four-for-one exchange ratio set forth
above, if all of the Eligible Options are exchanged, the number of outstanding
shares of common stock will increase by approximately 1,410,000 as a result of
the Exchange. However, the overhang associated with unexercised stock options
will be reduced because all stock options surrendered under the Exchange will be
available for re-issuance under the 1995 Plan. Unexercised stock options, stated
as a percentage of the issued and outstanding shares, represented approximately
11.7% as of September 29, 2000. Assuming that all of the Eligible Options are
exchanged, that percentage would be reduced to approximately 5.5%. Further,
assuming all of the Eligible Options are exchanged, a pool of approximately
15,770,000 shares (approximately 10,130,000 shares available as of September 29,
2000, plus approximately 4,230,000 shares available as a result of the Program)
would then become available for future employee equity plans.
The non-cash deferred compensation associated with the Exchange is primarily
dependent upon the share price of the common stock on the Exchange Date and the
number of Eligible Options that are exchanged. If all of the Eligible Options
are exchanged and the price of the common stock on the Exchange Date is $10.00
per share, the Exchange would result in an aggregate of approximately $14.1
million non-cash deferred compensation on a pre-tax basis. The non-cash deferred
compensation associated with the restricted stock will be recognized ratably
over the three-year vesting schedule of the restricted stock to be issued in the
Exchange. The non-cash deferred compensation will be recognized on an
accelerated basis to the extent that shares of the restricted stock vest on an
accelerated basis in the situations described above and will be reduced to the
extent that a participant forfeits his or her shares of restricted stock
received in the Exchange prior to vesting. The non-cash deferred compensation
will reduce the Company's net income and may result in a decrease of the market
price of the common stock. The compensation amount is unaffected by future
changes in the price of the common stock. Implementing the Exchange may restrict
the Company's ability to engage in any pooling-of-interests mergers for a future
period. The Company has no present intent to enter into any pooling-of-interests
mergers.
None of the Eligible Options are currently included as dilutive potential shares
in the calculation of diluted earnings per share because all of the Eligible
Options have exercise prices in excess of the current fair market value of the
common stock. All issued and outstanding shares of restricted stock are included
in the calculation of diluted earnings per share, regardless of whether vested.
The Exchange will likely decrease the Company's diluted earnings per share, at
least in the short-term, and may result in a corresponding decrease in the
market price of the common stock.
INTERNATIONAL OPERATIONS
------------------------
During the third quarter and nine months of 2000, approximately 49% of the
Company's revenue was generated by its international operations, compared to
approximately 42% and 40% for the third quarter and nine months of 1999,
respectively. The Company also sells products through domestic indirect
distribution channels that have end-user customers located outside the United
States. The Company expects that it will continue to generate a significant
portion of its revenue from international operations in the future. The majority
of the Company's international operations involve transactions denominated in
the local currencies of countries within Western Europe, principally Germany,
France and the United Kingdom; Japan; Canada and Australia. An increase in the
exchange value of the U.S. dollar reduces the value of revenue and profits
generated by the Company's international operations. As a result, the Company's
operating and financial results can be materially affected by fluctuations in
foreign currency exchange rates. In an attempt to mitigate the impact of foreign
currency fluctuations, the Company employs a foreign currency hedging program.
See "Market Risk Management/Foreign Currency Exchange Risk," below.
The Company's international business may be affected by changes in demand
resulting from global and localized economic, business and political conditions.
The Company is subject to the risks of conducting
<PAGE>
Form 10-Q, Page 22
business outside the United States, including changes in, or impositions of,
legislative or regulatory requirements, tariffs, quotas, difficulty in obtaining
export licenses, potentially adverse taxes, the burdens of complying with a
variety of foreign laws, and other factors outside the Company's control. There
can be no assurances these factors will not have a material adverse effect on
the Company's business or financial results in the future.
MARKET RISK MANAGEMENT/FOREIGN CURRENCY EXCHANGE RISK
-----------------------------------------------------
The market risk inherent in the Company's financial instruments relates
primarily to changes in foreign currency exchange rates. To mitigate the impact
of foreign currency fluctuations, the Company seeks opportunities to reduce
exposures through financing activities. Foreign currency options and forward
exchange contracts are also used to reduce foreign currency exposures. All
foreign currency options and forward exchange contracts are authorized and
executed pursuant to the Company's policies. Foreign currency options and
forward exchange contracts that are designated as and qualify as hedging
transactions are subject to hedge accounting treatment. The Company does not
hold or issue derivatives or any other financial instruments for trading
purposes.
The Company has a financing agreement with a bank that provides for commitments
by the bank to purchase promissory notes denominated in a number of foreign
currencies. Gains and losses associated with changes in the underlying foreign
currencies are deferred during the commitment period and recognized as an
adjustment to the revenue supporting the note repayment at the time the bank
purchases the promissory notes. See "Liquidity and Capital Resources --Available
Financing Lines," for a description of the financing agreement.
The Company periodically utilizes foreign currency options, generally with
maturities of less than one year, to hedge a portion of its exposure to
exchange-rate fluctuations in connection with anticipated revenue from its
international operations. Gains and losses associated with the options are
deferred and recognized as an adjustment to the underlying revenue transactions.
To the extent an option is terminated or ceases to be effective as a hedge, any
gains and losses as of that date are deferred and recognized as an adjustment to
the underlying revenue transaction.
The Company also utilizes forward exchange contracts, generally with maturities
of less than two months, to hedge its exposure to exchange-rate fluctuations
associated with monetary assets and liabilities held in foreign currencies and
anticipated revenue from its international operations. The carrying amounts of
these forward exchange contracts equal their fair values as the contracts are
adjusted at each balance sheet date for changes in exchange rates. Gains and
losses on the forward exchange contracts used to hedge monetary assets and
liabilities are recognized as incurred within SG&A on the Consolidated Statement
of Operations as adjustments to the foreign exchange gains and losses on the
translation of net monetary assets. Gains and losses on the forward contracts
used to hedge anticipated revenue are recognized as incurred as adjustments to
revenue.
A hypothetical 10% adverse movement in foreign exchange rates applied to the
Company's foreign currency exchange rate sensitive instruments held as of
September 29, 2000, and as of December 31, 1999, would result in a hypothetical
loss of approximately $56.9 million and $54.9 million, respectively. The
increase in the hypothetical loss for the third quarter of 2000 is primarily due
to an increase in outstanding foreign currency options. These hypothetical
losses do not take into consideration the Company's underlying international
operations. The Company anticipates that any hypothetical loss associated with
the Company's foreign currency exchange rate sensitive financial instruments
would be offset by gains associated with its underlying international
operations.
The Company anticipates it will adopt SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" and its associated interpretations effective
on the first day of the Company's fiscal
<PAGE>
Form 10-Q, Page 23
year 2001. While the adoption of these new accounting standards for derivatives
will change the presentation on the Consolidated Balance Sheet and Consolidated
Statement of Operations for the foreign currency exchange rate sensitive
financial instruments described above, the new accounting standards are not
currently expected to have a material impact on the Company's financial position
or results of operations. See Note 6 of the Notes to Consolidated Financial
Statements for further description of SFAS No. 133 and its associated
interpretations.
The Company had outstanding borrowings under its Primary Revolver of $35.0
million as of September 29, 2000. The interest rate on these borrowings is
dependent on the LIBOR, which is sensitive to interest rate changes. A
hypothetical 10% adverse movement in the LIBOR applied to the borrowings would
not have a material adverse effect on the Company's results of operations, cash
flows, or financial position in 2000.
FACTORS THAT MAY AFFECT FUTURE RESULTS
--------------------------------------
New Products and Services; Emerging Markets
The Company's results of operations and competitive strength depend upon its
ability to successfully develop, manufacture and market innovative new products
and services. Short product life cycles are inherent in the high-technology
market. The Company must devote significant resources to research and product
development projects and effectively manage the risks inherent in new product
transitions. Developing new technology, products and services is complex and
involves uncertainties. Delays in product development, manufacturing, or in
customer evaluation and purchasing decisions may make product transitions
difficult. The manufacture of new products involves integrating complex designs
and processes, collaborating with sole source suppliers for key components, and
increasing manufacturing capacities to accommodate demand. A design flaw, the
failure to obtain sufficient quantities of key components, or manufacturing
constraints could adversely affect the Company's operating and financial
results. The Company has experienced product development delays in the past that
adversely affected the Company's financial results and competitive position.
There can be no assurance that the Company will be able to manage successfully
the development and introduction of new products and services in the future.
The Company introduced a significant number of new products in October 2000
including the StorageNet(TM) 6000, the T9940 high-capacity tape drive, and
Virtual Storage Manager III, as well as enhancements to the Shared Virtual Array
9500. The Company's results of operations and competitive strength depend upon
its ability to successfully develop, manufacture and market these new products.
Developing new technology and introducing new products is complex and involves
many uncertainties. There can be no assurances that the Company will be able to
successfully gain adequate market acceptance for its new products.
The Company's future financial results are significantly dependent upon
successfully competing in the rapidly growing emerging client-server and SANs
markets and replacing its earlier generation products in the enterprise
environment with new technologies. The Company currently is making significant
investments in developing new products for these markets, particularly in the
internet and e-commerce businesses. There can be no assurance that the Company
will be successful in these activities. The SANs market is new and rapidly
evolving. The Company's operating and financial results may be adversely
impacted in the event the SANs market develops slower than expected or the
Company's products fail to gain acceptance in this market. The Company's
traditional maintenance revenue base may be adversely impacted as a result of
the shift from the enterprise to the client-server marketplace.
<PAGE>
Form 10-Q, Page 24
Competition
The markets for the Company's products and services are intensely competitive
and are subject to continuous, rapid technological change, frequent product
performance improvements, short product life cycles, and aggressive pricing. The
Company believes that its ability to remain competitive involves factors such as
price and cost of the Company's and its competitors' product offerings, the
timing and success of new products and offerings, new product introductions by
competitors, and the ability to establish more effective distribution channels.
This competitive environment gives rise to aggressive pricing strategies and
puts pressure on gross profit margins. The Company's competitors include, among
others, Compaq Computer Corporation, EMC Corporation, Hewlett-Packard Company,
Hitachi Ltd., IBM, Quantum Corporation, and Sun Microsystems, Inc. A number of
the Company's competitors have significantly greater name recognition and
financial resources than the Company. In the highly competitive client-server
market, a number of the Company's competitors are able to offer customers a
bundled server and storage product, which may provide them with a competitive
advantage. The Company expects to address these competitive issues, in part,
through its SAN strategy.
From time-to-time, two or more of the Company's competitors may form business
alliances that compete with the Company. For example, during the third quarter
of 1999, EMC Corporation acquired Data General, a supplier of the Company's
OPENstorage Disk products. The alliance of two of the Company's major
competitors could adversely affect the Company's ability to compete. A number of
the Company's competitors have formed alliances with the stated objective of
developing interoperable SAN solutions. In addition, the Company competes with
vendors with which it has established relationships, including Legato Systems,
Inc. and VERITAS Software Corporation. The Company also anticipates that it will
continue to establish distribution alliances with other equipment manufacturers,
software vendors and service providers to address competitive factors. There can
be no assurances that the Company will be able to compete successfully against
other companies in these markets.
Significant Personnel Changes
The Company has experienced significant changes in its management team,
including the hiring, resignation and retirement of members of its executive
management. The Company announced in February 2000 that David E. Weiss, the
Company's Chairman of the Board of Directors (Board), President and Chief
Executive Officer, recommended that the Board ask him to resign from all
positions. The Board accepted Mr. Weiss' proposal and asked him to resign from
all such positions upon the election of a successor or at such earlier date as
the Board deemed appropriate. In February 2000, the Company also announced
significant changes to its operating management, including the departure of
Victor Perez, the Company's Chief Operating Officer.
On July 11, 2000, the Board announced that Patrick J. Martin was selected as the
new Chairman of the Board, President and Chief Executive Officer. The Board also
accepted the resignation of Mr. Weiss from the same positions immediately prior
to Mr. Martin's appointment. The Company may experience a delay between the time
the management team is formed and the time the team becomes fully productive.
The Company has experienced significant changes in the remainder of its employee
base as a result of the voluntary and involuntary severance programs implemented
in connection with its restructuring activities, as well as increased levels of
employee attrition. The future success of the Company depends in large part on
its ability to attract, retain and motivate highly skilled employees. The
Company faces significant competition for individuals with the skills required
to deliver the products and services offered to its customers. An inability to
successfully deliver products and services required by its customers could have
an adverse effect on future operating results.
<PAGE>
Form 10-Q, Page 25
Changes in Sales Model for North America
The Company historically has emphasized the use of its direct sales force in
North America, complemented by indirect distribution channels, such as OEMs,
value-added resellers and value-added distributors. In connection with its
restructuring activities, the Company has implemented changes to its sales model
for North America that the Company expects will improve market penetration,
increase sales profitability, reduce sales expense, and expand the use of the
indirect sales channel. This new sales model is intended to provide better
coverage for new and existing end user customers, as well as enhancing reseller,
distributor and OEM alliances. The Company has also reorganized its field sales
organizations with the objective of better serving Fortune 500 customers with
enterprise-level product and service requirements. A new sales organization was
also formed to address the needs of small and medium-sized customers with
particular emphasis on internet and e-commerce businesses. The reorganization
has adversely affected the Company's financial results in 2000 due to increased
employee turnover. There can be no assurance that the Company will not continue
to encounter disruptions to its sales as it completes the implementation of this
new sales model and new sales representatives are trained on the Company's
products and sales tools. The Company's operating and financial results may be
adversely affected by reduced margins on sales typically experienced in indirect
sales channels.
Ability to Develop and Protect Intellectual Property Rights
The Company relies heavily upon its ability to develop new intellectual property
rights that do not infringe upon the rights of others in order to remain
competitive and develop and manufacture products that are competitive in terms
of technology and cost. There is no assurance that the Company will continue to
be able to develop such new intellectual property.
The Company relies upon a combination of U.S. patent, copyright, trademark and
trade secret laws to protect its intellectual property rights. With respect to
certain of the Company's international operations, the Company does file patent
applications with foreign governments. However, many foreign countries do not
have as well-developed laws as the United States in protecting intellectual
property. The Company enters into confidentiality agreements relating to its
intellectual property with its employees and consultants. In addition, the
Company includes confidentiality provisions in most license and non-exclusive
sales agreements with its indirect distributors and its customers.
Despite all of the Company's efforts to protect its intellectual property
rights, unauthorized parties may attempt to copy or otherwise obtain or use the
Company's intellectual property. Monitoring the unauthorized use of the
Company's intellectual property rights is difficult, particularly in foreign
countries. There is no assurance that the Company will be able to protect its
intellectual property rights, particularly in foreign countries.
Sole Source Suppliers
The Company generally uses standard parts and components for its products and
believes that, in most cases, there are a number of alternative, competent
vendors for most of those parts and components. Many non-standard parts are
obtained from a single source or a limited group of suppliers. However, there
are other vendors who could produce these parts in satisfactory quantities after
a period of pre-qualification and product ramping. Certain key components and
products are purchased from single source suppliers that the Company believes
are currently the only manufacturers of the particular components that meet the
Company's qualification requirements and other specifications or for which
alternative sources of supply are not readily available. Imation Corporation is
a single source supplier for the 9840 tape cartridges and the Company is
dependent on Imation to economically produce large volumes of high-quality tape
cartridges for the 9840 product at a cost acceptable to the Company and its
customers. IBM is a single source supplier for the disk drives used in the
Company's SVA disk product.
<PAGE>
Form 10-Q, Page 26
Certain suppliers have experienced occasional technical, financial or other
problems in the past that have delayed deliveries. During the third quarter of
2000, the Company's supply of flex circuits and transducer semiconductor
components for the 9840 tape drives were delayed due to manufacturing problems
experienced by suppliers. While the Company currently believes its 9840
component supply issues have been addressed, an unanticipated failure of any
sole source supplier to meet the Company's requirements for an extended period,
or the inability to secure comparable components in a timely manner, could
result in a shortage of key components, longer lead times, and reduced control
over production and delivery schedules. These factors could have a material
adverse effect on revenue and operating results. In the event a sole source
supplier was unable or unwilling to continue to supply components, the Company
would need to identify and qualify other acceptable suppliers. This process
could take an extended period, and no assurance can be given that any additional
source would become available or would be able to satisfy production
requirements on a timely basis or at a price acceptable to the Company.
The Company is dependent upon a sole subcontractor, Herald Datanetics LTD.
(HDL), to manufacture a key component used in certain tape products. HDL is
located in the People's Republic of China (PRC). To date, the Company has not
experienced any material problems with HDL. The Company's dependence on HDL is
subject to additional risks beyond those associated with other sole suppliers,
including the lack of a well-established court system or acceptance of the rule
of law in the PRC, the degree to which the PRC permits economic reform policies
to continue, the political relationship between the PRC and the United States
and broader political and economic factors, such as whether the PRC is admitted
to the World Trade Organization.
Manufacturing
Significant portions of the Company's products are manufactured in facilities
located in Puerto Rico. The Company's ability to manufacture product may be
impacted by weather related risks beyond the control of the Company. If the
Puerto Rico manufacturing facility was impacted by such an event, the Company
may not have an alternative source to meet the demand for its products without
substantial delays and disruption to its operations. The Company carries
business interruption insurance to mitigate some of the risk. There is no
assurance that the Company could obtain sufficient alternate manufacturing
sources or repair the facilities in a timely manner to satisfy the demand for
its products. Failure to fulfill manufacture demands could adversely affect the
Company's operating and financial results in the future.
The Company, along with the computer industry as a whole, has experienced
delivery delays, increased lead times in ordering parts and components for its
products, and rapid changes in the demand by customers for certain products.
These longer lead times coupled with rapid changes in the demand for products,
could result in a shortage of parts and components and result in reduced control
over delivery schedules and an inability to fulfill customer orders in a timely
manner. The complexities of these issues are increased while the Company
transitions to newer technologies and products. These factors could have a
material adverse effect on revenue and operating results.
Information Systems and Business Process Transitions
The Company replaced many of its internal information systems outside the United
States during 1999 with new information systems. The Company also introduced
significant new business processes in conjunction with these new systems,
particularly within its European operations. The implementation of these
information systems and business processes has been complex and has affected
numerous operational, transactional, financial, and reporting processes. The
establishment of processes and training associated with these information
systems are continuing and involve a number of risks and uncertainties. The
Company must successfully manage the business process changes and employee
training programs. There can be no assurance that the transition to the new
information systems and business processes will
<PAGE>
Form 10-Q, Page 27
not cause delays or interruptions in the Company's business. Failure to
successfully manage the transition could adversely affect the Company's
operating and financial results in the future.
Volatility of Stock Price/Earnings Fluctuations
The Company's common stock is subject to significant fluctuations in trading
price. The Company's stock price may be impacted if the Company's financial
performance fails to meet the expectations of the investment community. The
Company's stock price may also be affected by broad economic and market trends
which are unrelated to the Company's performance.
The Company's financial and operating results may fluctuate from quarter to
quarter due to a number of reasons. In the past, the Company's results have
followed a seasonal pattern, which reflects the tendency of customers to make
their purchase decisions at the end of a calendar year. During any fiscal
quarter, a disproportionately large portion of the total product sales is
recognized in the last weeks and days of the quarter. These factors make the
forecasting of revenue inherently difficult. Because the Company plans its
operating expenses based on expected revenue, a shortfall in revenue may cause
earnings to be below expectations in that period. A number of factors may cause
revenue to fall below expectations, such as product and technology transitions
announced by the Company or its competitors; delays in the availability of new
products; changes in the purchasing patterns of the Company's customers and
distribution partners; the timing of customers' acceptance of products; rapid
price erosion; realignment to the sales force; or adverse global economic
conditions. The mix of sales among the Company's business segments and sales
concentration in particular geographic regions may carry different gross profit
margins and may cause the Company's operating margins to fluctuate and impact
earnings.
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
-------------------------------------------------------------------
The information required under this Item 3 is included in the section above
entitled "Market Risk Management / Foreign Currency Exchange Rate."
<PAGE>
Form 10-Q, Page 28
STORAGE TECHNOLOGY CORPORATION AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
--------------------------
See Part I, Item 3 - Legal Proceedings, of the Company's Form 10-K for the
fiscal year ended December 31, 1999, filed with the Commission on March 10,
2000.
In January 1994, Stuff Technology Partners II, a Colorado Limited Partnership
(Stuff), filed suit in Boulder County, Colorado, District Court (the District
Court) against the Company and certain subsidiaries. The suit alleged that the
Company breached a 1990 settlement agreement that had resolved earlier
litigation between the parties concerning an optical disk drive storage
development project entered into in 1981 which was unsuccessful and terminated
in 1985. The suit sought injunctive relief and damages in the amount of $2.4
billion. On December 28, 1995, the District Court granted the Company's motion
for summary judgment and dismissed the complaint. Stuff appealed the dismissal
to the Colorado Court of Appeals (the Court of Appeals). In March 1997, the
Court of Appeals reversed the District Court's judgment and remanded the case to
the District Court for further proceedings. On July 15, 1999, the District Court
again dismissed, with prejudice, all of Stuff's material claims against the
Company. On August 30, 1999, Stuff filed a notice of appeal with the Appeals
Court seeking to overturn the decision of the District Court. Subsequently, the
parties have filed various appellate briefs. Oral arguments before the Appeals
Court occurred on August 8, 2000. On August 17, 2000, the Court of Appeals
remanded the case back to the District Court for a trial on the factual issues
relating to the interpretation of the language embodied in the 1990 Settlement
Agreement. The Company filed a Petition for Rehearing with the Court of Appeals.
On October 12, 2000, the Court of Appeals modified its decision, but denied the
Company's Petition for Rehearing. On or about November 7, 2000, the Company
filed a Petition for Certiorari with the Supreme Court of Colorado. The Company
continues to believe that Stuff's claims are wholly without merit and intends to
defend vigorously any further actions arising from this complaint.
In December 1999, the Company filed suit in the U.S. District Court for the
Western District of Wisconsin against Cisco Systems, Inc. (Cisco), alleging that
Cisco infringed upon a certain patent of the Company that Cisco used in its
products. The Company filed an amended complaint on December 30, 1999, in which
the Company alleged that Cisco had infringed upon a second patent used in its
products. Cisco filed an answer in January 2000 denying the Company's claims,
alleging that the Company's patents are invalid and asserting that a microchip
used in one of the Company's network security products infringed upon one of
Cisco's patents. Cisco is seeking unspecified compensatory damages that it
asserts should be trebled, along with injunctive relief. The Company purchases
the alleged infringing microchip from Level One (Level One), a subsidiary of
Intel Corporation. In March 2000, the case was transferred to the U.S. District
Court for the Northern District of California. Level One has been added to the
lawsuit as an additional defendant to Cisco's counterclaim. A claim construction
hearing is scheduled for April 9, 2001 and a trial date is scheduled for March
4, 2002. The parties have commenced discovery, which is anticipated to continue
for several months. The Company continues to believe that it has valid claims
against Cisco and valid defenses against Cisco's counterclaim.
On October 4, 2000, the Company filed suit in the U.S. District Court for
Minnesota against Cisco, as successor-in-interest to NuSpeed Internet Systems
Inc. alleging various trade secret misappropriation, corporate raiding, and
unfair business practices. In the previous ten months, NuSpeed had hired
approximately 26 of the Company's employees, the majority of whom were engineers
who were developing the Company's SN6000 product for joining disparate and
otherwise incompatible computer networks. The Company has reason to believe that
Cisco is using the Company's confidential and proprietary information to develop
a product for joining disparate and otherwise incompatible computer networks.
Cisco has not yet answered the Company's complaint.
<PAGE>
Form 10-Q, Page 29
The Company is also involved in various other less significant legal actions.
While the Company currently believes that the amount of any ultimate potential
loss would not be material to the Company's financial position, the outcome of
these actions is inherently difficult to predict. In the event of an adverse
outcome, the ultimate potential loss could have a material adverse effect on the
Company's financial position or reported results of operations in a particular
quarter. An unfavorable decision, particularly in patent litigation, could
require material changes in production processes and products or result in the
Company's inability to ship products or components found to have violated
third-party patent rights.
<PAGE>
Form 10-Q, Page 30
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
-----------------------------------------
(a) Exhibits:
--------
The exhibits listed below are filed as part of this Quarterly Report on Form
10-Q or are incorporated by reference into this Quarterly Report on Form 10-Q:
3.1 Restated Certificate of Incorporation of Storage Technology Corporation
dated July 28, 1987 (filed as Exhibit 3 to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 25, 1987, and as Exhibit
3.1(ii) to the Company's Quarterly Report on Form 10-Q, for the quarter
ended September 29, 1995, filed on November 13, 1995, and incorporated
herein by reference).
3.2 Certificate of Amendment dated May 22, 1989, to the Restated Certificate
of Incorporation dated July 28, 1987 (filed as Exhibit (c)(1) to the
Company's Current Report on Form 8-K dated June 2, 1989, and incorporated
herein by reference).
3.3 Certificate of Second Amendment dated June 2, 1992, to the Restated
Certificate of Incorporation dated July 28, 1987 (filed as Exhibit 3 to
the Company's Quarterly Report on Form 10-Q for the quarter ended June 26,
1992, and incorporated herein by reference).
3.4 Restated Bylaws of Storage Technology Corporation, as amended through
November 11, 1998 (filed as Exhibit 3.1 to the Company's Current Report on
Form 8-K dated November 19, 1998, and incorporated herein by reference).
4.1 Specimen Certificate of Common Stock, $0.10 par value of Registrant (filed
as Exhibit (c)(2) as to the Company's Current Report on Form 8-K dated
June 2, 1989, and incorporated herein by reference).
4.2 Rights Agreement dated as of August 20, 1990, between Storage Technology
Corporation and First Fidelity Bank, N.A., New Jersey, Rights Agent (filed
as Exhibit 4.1 to the Company's Current Report on Form 8-K dated August
20, 1990, and incorporated herein by reference).
4.3 Certificate of Designations of Series B Junior Participating Preferred
Stock (filed as Exhibit A to Exhibit 4.1 to the Company's Current Report
on Form 8-K dated August 8, 1990, and incorporated herein by reference).
10.1(1) Fifth Amendment to the Second Amended and Restated Contingent
Multicurrency Note Purchase Commitment Agreement, dated as of August 15,
2000 between Storage Technology Corporation and Bank of America, N.A.
27.1(1) Financial Data Schedule.
(b) Reports on Form 8-K.
--------------------
On July 19, 2000, the Company filed a current report on Form 8-K dated
July 18, 2000, pursuant to Item 5, disclosing the appointment of Patrick
J. Martin as the new Chairman of the Board, President and Chief Executive
Officer to succeed David E. Weiss whom the Board of Directors asked to
resign from such positions.
<PAGE>
Form 10-Q, Page 31
Reports on Form 8-K. (Cont.)
---------------------------
On November 7, 2000, the Company filed a current report on Form 8-K dated
November 7, 2000, pursuant to Item 5, disclosing the terms and conditions
of the Company's offer to certain employees to exchange certain stock
options for shares of restricted stock.
---------------------------------------------------------------------------
(1) Indicates exhibits filed with this Quarterly Report on Form 10-Q.
<PAGE>
Form 10-Q, Page 32
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.
STORAGE TECHNOLOGY CORPORATION
(Registrant)
November 9, 2000 /s/ ROBERT S. KOCOL
------------------------------- ------------------------------------------
(Date) Robert S. Kocol
Corporate Vice President
and Chief Financial Officer
(Principal Financial Officer)
November 9, 2000 /s/ THOMAS G. ARNOLD
------------------------------- ------------------------------------------
(Date) Thomas G. Arnold
Vice President and Corporate Controller
(Principal Accounting Officer)
<PAGE>
Form 10-Q, Page 33
EXHIBIT INDEX
-------------
(a) Exhibits:
The exhibits listed below are filed as part of this Quarterly Report on Form
10-Q or are incorporated by reference into this Quarterly Report on Form 10-Q:
3.1 Restated Certificate of Incorporation of Storage Technology Corporation
dated July 28, 1987 (filed as Exhibit 3 to the Company's Quarterly Report
on Form 10-Q for the quarter ended September 25, 1987, and as Exhibit
3.1(ii) to the Company's Quarterly Report on Form 10-Q, for the quarter
ended September 29, 1995, filed on November 13, 1995, and incorporated
herein by reference).
3.2 Certificate of Amendment dated May 22, 1989, to the Restated Certificate
of Incorporation dated July 28, 1987 (filed as Exhibit (c)(1) to the
Company's Current Report on Form 8-K dated June 2, 1989, and incorporated
herein by reference).
3.3 Certificate of Second Amendment dated June 2, 1992, to the Restated
Certificate of Incorporation dated July 28, 1987 (filed as Exhibit 3 to
the Company's Quarterly Report on Form 10-Q for the quarter ended June 26,
1992, and incorporated herein by reference).
3.4 Restated Bylaws of Storage Technology Corporation, as amended through
November 11, 1998 (filed as Exhibit 3.1 to the Company's Current Report on
Form 8-K dated November 19, 1998, and incorporated herein by reference).
4.1 Specimen Certificate of Common Stock, $0.10 par value of Registrant (filed
as Exhibit (c)(2) as to the Company's Current Report on Form 8-K dated
June 2, 1989, and incorporated herein by reference).
4.2 Rights Agreement dated as of August 20, 1990, between Storage Technology
Corporation and First Fidelity Bank, N.A., New Jersey, Rights Agent (filed
as Exhibit 4.1 to the Company's Current Report on Form 8-K dated August
20, 1990, and incorporated herein by reference).
4.3 Certificate of Designations of Series B Junior Participating Preferred
Stock (filed as Exhibit A to Exhibit 4.1 to the Company's Current Report
on Form 8-K dated August 8, 1990, and incorporated herein by reference).
10.1(1) Fifth Amendment to the Second Amended and Restated Contingent
Multicurrency Note Purchase Commitment Agreement, dated as of August 15,
2000 between Storage Technology Corporation and Bank of America, N.A.
27.1(1) Financial Data Schedule.
----------------------------------------------------------------------------
(1) Indicates exhibits filed with this Quarterly Report on Form 10-Q.
