<PAGE> 1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended
September 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ...... to ...... .
Commission file number 0-26820
--------------------------------------------------------------------------------
CRAY INC.
(Exact name of registrant as specified in its charter)
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
WASHINGTON 93-0962605
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
</TABLE>
411 FIRST AVENUE SOUTH, SUITE 600
SEATTLE, WA 98104-2860
(206) 701 - 2000
(Address of principal executive offices)
(Registrant's telephone number, including area code)
----------
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
As of November 1, 2000, 33,792,409 shares of the Company's Common Stock,
par value $0.01 per share, were outstanding.
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CRAY INC. AND SUBSIDIARIES
TABLE OF CONTENTS
<TABLE>
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Page No.
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<S> <C>
PART I FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets as of December 31, 1999
and September 30, 2000 3
Consolidated Statements of Operations for the Three and Nine
Months Ended September 30, 1999 and 2000 4
Consolidated Statement of Shareholders' Equity for the Nine Months
Ended September 30, 2000 5
Consolidated Statements of Cash Flows for the Nine Months
Ended September 30, 1999 and 2000 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures about
Market Risk 21
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 21
</TABLE>
2
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CRAY INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
December 31, September 30,
1999 2000
------------- ------------
(unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 10,069 $ 2,396
Restricted cash 1,132 857
Accounts receivable 641 22,513
Inventory, net 4,513 19,371
Prepaid expenses and other assets 544 2,033
------------- ------------
Total current assets 16,899 47,170
Property and equipment, net 5,829 27,506
Spares inventory, net 24,040
Intangible assets, net 186 31,777
Other assets 496 1,812
------------- ------------
TOTAL $ 23,410 $ 132,305
============= ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 4,366 $ 7,788
Accrued payroll and related expenses 2,147 11,227
Other accrued liabilities 277 10,657
Line of credit 4,500
Deferred revenue 1,625
Current portion of warranty reserves 19,779
Current portion of obligations under capital leases 612 359
Current portion of notes payable 289 12,306
------------- ------------
Total current liabilities 7,691 68,241
Warranty reserves 18,532
Obligations under capital leases 390 201
Notes payable 1,022 337
Shareholders' equity:
Common Stock, par $.01 - Authorized, 100,000 shares;
issued and outstanding, 25,212 and 33,579 shares 111,443 153,571
Accumulated deficit (97,136) (108,577)
------------- ------------
14,307 44,994
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TOTAL $ 23,410 $ 132,305
============= ============
</TABLE>
See accompanying notes
3
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CRAY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 2000 1999 2000
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Revenue:
Product $ 814 $ 10,404 $ 1,371 $ 37,097
Service 36 23,284 80 47,608
-------- -------- -------- --------
Total revenue 850 33,688 1,451 84,705
-------- -------- -------- --------
Operating expenses:
Cost of product revenue 956 7,017 1,506 24,259
Cost of service revenue 16 11,409 67 23,699
Research and development 6,378 13,272 16,978 31,620
Inventory obsolescence charge 6,441 6,441
Marketing and sales 611 4,397 1,789 7,987
General and administrative 551 1,645 1,654 4,643
-------- -------- -------- --------
Total operating expenses 14,953 37,740 28,435 92,208
-------- -------- -------- --------
Loss from operations (14,103) (4,052) (26,984) (7,503)
Other income (expense) 169 114 (433) 615
Imputed interest expense (484) (1,203)
Amortization of intangibles (1,675) (3,350)
-------- -------- -------- --------
Net loss (13,934) (6,097) (27,417) (11,441)
Preferred stock dividend (116)
-------- -------- -------- --------
Loss for common share $(13,934) $ (6,097) $(27,533) $(11,441)
======== ======== ======== ========
Loss per common share,
Basic and diluted $ (0.59) $ (0.18) $ (1.31) $ (0.36)
======== ======== ======== ========
Weighted average shares outstanding,
Basic and diluted 23,769 33,401 21,064 31,500
======== ======== ======== ========
</TABLE>
See accompanying notes
4
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CRAY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Common Stock
--------------------------
Number of Accumulated
Shares Amount Deficit Total
--------- --------- ----------- ---------
<S> <C> <C> <C> <C>
BALANCE, January 1, 2000 25,212 $ 111,443 $ (97,136) $ 14,307
Common stock issued in private
placement, net of issuance costs
of $1,830,495 5,227 24,304 24,304
Exercise of warrants 1,872 9,015 9,015
Cash received on subscribed common stock 900 900
Warrants and options issued for services 194 194
Issuance of shares under Employee
Stock Purchase Plan 34 108 108
Exercise of stock options 30 93 93
Net loss (8,005) (8,005)
--------- --------- ----------- ---------
BALANCE, March 31, 2000 32,375 $ 146,057 $ (105,141) $ 40,916
Issuance of common stock to SGI 1,000 6,700 6,700
Exercise of stock options 3 4 4
Warrant commission and fees (147) (147)
Warrants issued for services 95 95
Net income 2,661 2,661
--------- --------- ----------- ---------
BALANCE, June 30, 2000 33,378 $ 152,709 $ (102,480) $ 50,229
Exercise of stock options and warrants 42 86 86
Warrants issued for services 39 39
Issuance of shares under Company
401(k) Plan 14 91 91
Issuance of shares under Employee
Stock Purchase Plan 145 646 646
Net loss (6,097) (6,097)
--------- --------- ----------- ---------
BALANCE, September 30, 2000 33,579 $ 153,571 $ (108,577) $ 44,994
========= ========= =========== =========
</TABLE>
See accompanying notes
5
<PAGE> 6
CRAY INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
1999 2000
-------- --------
<S> <C> <C>
Operating activities:
Net loss $(27,417) $(11,441)
Adjustments to reconcile net loss to net cash used by operating activities:
Depreciation and amortization 1,326 10,195
Imputed interest expense 1,203
Amortization of acquisition intangibles 3,350
Beneficial conversion feature of notes payable 540 28
Inventory write down 6,441
Non-cash warrant and option expense 328
Cash provided (used) by changes in operating assets and liabilities:
Accounts receivable (814) (17,951)
Inventory (971) 5,558
Other assets 548 (1,067)
Accounts payable (703) 3,422
Other accrued liabilities 7,945
Accrued payroll and related expenses 387 5,376
Warranty reserve (9,023)
-------- --------
Net cash used by operating activities (20,663) (2,077)
Investing activities:
Cash used for acquisition (39,784)
Purchases of property and equipment (706) (4,168)
-------- --------
Net cash used by investing activities (706) (43,952)
Financing activities:
Related party receivable (37) (16)
Restricted cash (544) 275
Issuance of notes payable 1,900
Sale of common stock 33,247 25,204
Proceeds from exercise of warrants 8,868
Proceeds from exercise of options 255 182
Proceeds from line of credit 4,500
Principal payments on notes payable (13) (215)
Capital leases, net (224) (442)
-------- --------
Net cash provided by financing activities 34,584 38,356
-------- --------
Net increase (decrease) in cash and cash equivalents 13,215 (7,673)
Cash and cash equivalents:
Beginning of period 3,162 10,069
-------- --------
End of period $ 16,377 $ 2,396
======== ========
Supplemental disclosure of non cash investing and financing activities:
Inventory reclassed to fixed assets 1,032 4,633
Common stock issued for acquisition of assets 6,700
Notes payable converted to common stock 2,000
Common stock issued for employee stock purchase plan 754
Accounts payable converted to notes 594
Fixed asset additions through notes payable 544
Fixed asset additions through common stock 164
Supplemental disclosure of cash flow information:
Cash paid for interest $ 189 $ 198
</TABLE>
See accompanying notes
6
<PAGE> 7
CRAY INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
BASIS OF PRESENTATION
In the opinion of management, the accompanying consolidated balance
sheets and related interim consolidated statements of operations, shareholders'
equity and cash flows have been prepared in accordance with accounting
principles generally accepted in the United States of America for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. All adjustments considered
necessary for fair presentation have been included. Interim results are not
necessarily indicative of results for a full year. The information included in
this Form 10-Q should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the financial
statements and notes thereto included in the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 1999.
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts
of Cray Inc. and its wholly-owned subsidiaries (the Company). All material
intercompany accounts and transactions have been eliminated.
ACQUISITION
The Company acquired certain assets of the Cray Research business unit
operations from Silicon Graphics, Inc. ("SGI") on April 1, 2000. The acquisition
was recorded under the purchase method of accounting and therefore the results
of operations of the Cray Research business unit and the fair values of the
acquired assets and liabilities were included in the Company's financial
statements beginning as of April 1, 2000.
The purchase price was allocated to the assets acquired and liabilities
assumed based on their respective fair values on the date of the acquisition as
follows (in thousands):
<TABLE>
<S> <C>
Net assets acquired $ 21,943
Fair value adjustments 1,094
Note payable (33,822)
Acquisition costs (1,022)
Cash paid (15,000)
Common stock issued (6,700)
--------
Goodwill $ 33,507
========
</TABLE>
7
<PAGE> 8
The pro forma results of operations set forth below have been prepared
to reflect the acquisitions of the Cray Research business unit, assuming the
acquisition had occurred on January 1, 1999 (in thousands, except for per share
data).
<TABLE>
<CAPTION>
Pro Forma
Nine months ended September 30,
(unaudited)
1999 2000
---------- --------
<S> <C> <C>
Total revenue $ 224,145 $150,453
========== ========
Net income $ 38,854 $ 17,321
========== ========
Net income per share $ 1.40 $ 0.50
========== ========
</TABLE>
The unaudited pro forma results of operations do not purport to present
what the Company's financial position or results of operations would have been
had the events leading to the pro forma adjustments in fact occurred at the
beginning of the periods indicated or to project the Company's financial
position or results of operations for any future date or period.
INVENTORY
Inventory consisted of the following (in thousands):
<TABLE>
<CAPTION>
December 31, September 30,
1999 2000
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<S> <C> <C>
Components and subassemblies $ 8,044 $ 25,574
Work in process 806 18,843
Finished goods 1,137 1,461
Inventory allowance (5,474) (26,507)
-------- --------
$ 4,513 $ 19,371
======== ========
</TABLE>
NET LOSS PER SHARE
Net loss per share is computed on the basis of the weighted average
number of common shares outstanding. Because outstanding stock options, warrants
and other common stock equivalent shares are antidilutive, their effect has not
been included in the calculation of the net loss per share.
RECLASSIFICATIONS
Certain prior-year amounts have been reclassified to conform with the
current-year presentation.
8
<PAGE> 9
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
PRELIMINARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
The information set forth in this Item 2 includes forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act, as amended, and is
subject to the safe harbor created by those sections. Factors that realistically
could cause results to differ materially from those projected in the
forward-looking statements are set forth under "Risk Factors" beginning on page
13. The following discussion should also be read in conjunction with the
Financial Statements and Notes thereto.
OVERVIEW
We design, develop, market and service high-performance vector processor
and general-purpose parallel computer systems. We presently market two computer
models, the Cray SV1 and T3E, and provide maintenance services to the installed
base of these and earlier models of Cray computers. We are developing upgrades
to the Cray SV1, and we are developing two new computer systems, the MTA2, based
on our multithreaded architecture system, and the SV2, which will combine
elements of the SV1 and T3E computers. We have begun initial work on their
respective successors, the MTA3 and SV3.
Our service organization supports approximately 600 Cray supercomputers
installed at about 200 customer sites in approximately 30 countries. This
installed base includes close to 200 large scale vector supercomputers and more
than 50 massively parallel systems.
We have approximately 900 employees and world wide operations. Our
principal facilities are located in Seattle, Washington (corporate headquarters
and MTA hardware and software engineering) with 125 employees; Mendota Heights,
Minnesota (software engineering, sales and marketing), with approximately 200
employees; and Chippewa Falls, Wisconsin (hardware engineering, manufacturing,
and service support), with approximately 300 employees. Approximately 125
employees are located in field offices in the United States, with principal
sales and service offices located in Maryland, Georgia and New Mexico. Overseas,
we have approximately 150 employees, with principal offices in Japan, the United
Kingdom, Germany, France, Australia and Canada.
We are completing the process of separating the Cray Research operations
from those of SGI and integrating them with our own. This process has included
establishing separate network, communications and other infrastructure services,
reconstituting the marketing and sales operations, setting up subsidiary
operations for international sales and services, implementing new operational
policies and procedures, and identifying and filling openings in management,
administration and other areas.
We have experienced net losses in each year of operations. We incurred
net losses of approximately $19.8 million in 1998, $34.5 million in 1999 and
$11.4 million in the first nine months of 2000, compared to a net loss of
approximately $27.4 million in the first nine months of 1999.
9
<PAGE> 10
We recognize revenue from sales of our computer systems upon acceptance
by the customer, although depending on sales contract terms, revenue may be
recognized upon shipment or delayed until clarification of funding. We recognize
service revenue from the maintenance of our computer systems ratably over the
term of each maintenance agreement.
Factors that should be considered in evaluating our business, operations
and prospects and that may affect our future results and financial condition are
set forth below, beginning on page 13.
RESULTS OF OPERATIONS
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 2000
With the acquisition of the Cray Research business unit on April 1,
2000, period-to-period comparisons of our operating results that include periods
prior to the acquisition are not indicative of results for any future period.
REVENUE. We had revenue from product sales of $10.4 million and $37.1
million for the three and nine months ended September 30, 2000, compared to
$814,000 and $1.4 million for the respective 1999 periods. Product revenue for
the three and nine months ended September 30, 2000 consisted of $3.0 million for
our T3E product line and $7.3 million for our SV1 product line. The respective
1999 periods consisted of the sale of an eight-processor MTA1 system. The
overall increase in product revenue is due to the acquisition of the Cray
product line. We expect our product revenue to vary quarterly. See "Risk Factors
- Our Quarterly Performance May Vary Significantly and Could Cause Our Stock
Price To Be Volatile." Product revenue represented 31% and 44% of total revenues
for the three and nine months ended September 30, 2000.
Service revenue was $23.3 million and $47.6 million for the three and
nine months ended September 30, 2000, compared to $36,000 and $80,000 for the
respective 1999 periods. Services are provided under separate maintenance
contracts between the Company and its customers. These contracts generally
provide for maintenance services for one year, although some are for multi-year
periods, and are renewable upon expiration at the customer's election. The
overall increase in service revenue is due to the acquisition of the Cray
product line and related service business. We expect service revenue to decline
slowly over the next year or so as older systems are withdrawn from service and
then to stabilize as our new systems are placed in service. Service revenue
represented 69% and 56% total revenues for the three and nine months ended
September 30, 2000.
OPERATING EXPENSES. Cost of product revenue was $7.0 million and $24.3
million for the three and nine months ended September 30, 2000, compared to $1.0
million and $1.5 million for the respective 1999 periods. Cost of product
revenue for 1999 consisted of manufacturing costs and inventory adjustments
relating to the MTA product line. Cost of product revenue represented 67% and
65% of product revenue for the three and nine months ended September 30, 2000.
Cost of service revenue was $11.4 million and $23.7 million for the
three and nine months ended September 30, 2000, after utilization of $4.9
million and $9.2 million of warranty reserves for
10
<PAGE> 11
the three and nine months ended September 30, 2000, compared to cost of service
revenue of $16,000 and $67,000 for the respective 1999 periods. Cost of service
revenue represented 49% and 50% of service revenue for the three and nine months
ended September 30, 2000.
Research and development expenses reflect our costs associated with the
enhancements to the SV1 and T3E systems and the development of the MTA and SV2
systems, including related software development. These costs also include
personnel expenses, allocated overhead and operating expenses, software,
materials, and engineering expenses, including payments to third parties. These
costs are offset in part by governmental development funding. Research and
development expenses were $13.3 million and $31.6 million for the three and nine
months ended September 30, 2000, compared to $6.4 million and $17.0 million for
respective 1999 periods. Increases in research and development expenses
primarily will depend on increases in engineering personnel, principally
software engineers. Over time, with receipt of increased revenue from products
currently under development, we expect research and development expenses
to decrease as a percentage of overall revenue. Research and development
expenses represented 39% and 37% of total revenues for the three and nine months
ended September 30, 2000.
Marketing and sales expenses were $4.4 million and $8.0 million for the
three and nine months ended September 30, 2000, compared to $611,000 and $1.8
million for respective 1999 periods. We expect quarterly marketing and sales
expenses to remain relatively constant. Marketing and sales expenses represented
13% and 9% of total revenues for the three and nine months ended September 30,
2000.
General and administrative expenses were $1.6 million and $4.6 million
for the three and nine months ended September 30, 2000, compared to $551,000 and
$1.7 million for the respective 1999 periods. General and administrative
expenses represented 5% of total revenues for the three and nine months ended
September 30, 2000. General and administrative expenses are expected to
increase slightly as we complete our management team.
OTHER EXPENSE. Interest income was $63,000 and $664,000 for the three
and nine months ended September 30, 2000, compared to $235,000 and $313,000 for
the respective 1999 periods, due to lower average cash balances in 2000.
Interest expense was $106,000 and $242,000 for the three and nine months ended
September 30, 2000, compared to $53,000 and $189,000 for the respective 1999
periods.
We incurred imputed interest expense of $484,000 and $1.2 million for
the three and nine months ended September 30, 2000 on the non-interest bearing
note issued to SGI and amortization expense of $1.7 million and $3.4 million for
the three and nine months ended September 30, 2000 which related primarily to
the intangible assets from the acquisition of the Cray Research business unit.
TAXES. We made no provision for federal income taxes as we have
continued to incur net operating losses.
PREFERRED STOCK. The dividends for the first nine months of 1999 were
accrued on our Series A Convertible Preferred Stock, all of which was converted
to common stock in the second quarter of 1999.
11
<PAGE> 12
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents totaled $2.4 million at September 30, 2000
compared to $10.1 million at December 31, 1999. Restricted cash balances, which
serve as collateral for capital equipment loans and leases, totaled $900,000 at
September 30, 2000 and $1.1 million at December 31, 1999. Accounts receivable
were $22.5 million at September 30, 2000 compared to $641,000 at year end.
Net cash used by operating activities was $2.1 million for the nine
months ended September 30, 2000, compared to $20.7 million used in the nine
months ended September 30, 1999. For the nine months ended September 30, 2000,
net operating cash flows were primarily attributed to an increase in accounts
receivable from product sales and operating expenses. For the nine months ended
September 30, 1999, net operating cash flows were primarily attributable to net
losses, personnel costs, and costs of inventory.
Net cash used by investing activities was $44.0 million for the nine
months ended September 30, 2000, compared to $706,000 for the nine months ended
September 30, 1999. Net cash used by investing activities for the 2000 period
consisted primarily of $38.5 million of cash spent on the Cray acquisition, $1.3
million of cash spent on acquisition related charges, and $4.2 million spent on
additional property, plant and equipment used primarily for computers and
electronic test equipment, computer software and furniture and fixtures for both
periods.
Net cash provided by financing activities was $38.4 million for the nine
months ended September 30, 2000, compared to $34.6 million for the nine months
ended September 30, 1999. For the nine months ended September 30, 2000, we
raised $25.2 million through the sale of common stock and received $8.9 million
in proceeds from warrant exercises, all of which were received in the first
quarter. We also obtained a secured line of credit for up to $10 million. At
September 30 we borrowed $4.5 million on the line of credit, all of which was
repaid subsequent to the quarter.
As part of the acquisition of the Cray Research business unit, we paid
SGI $15 million and issued a nine-month non-interest bearing promissory note in
the amount of $35.2 million, of which we repaid $23.5 million by September 30,
2000. Over the next twelve months our significant cash requirements relate to
the payment of the remainder of the SGI note and acquisition-related expenses;
operational expenses consisting primarily of personnel costs, costs of inventory
and third-party engineering expenses; and acquisition of capital goods. We
expect that anticipated product sales and maintenance services over the next
twelve months will generate positive cash flow. At any particular time, given
the high average selling price of our products, our capital position is impacted
by the timing of particular product sales and the receipt of prepaid
maintenance. In addition delays in the enhancement to the SV1 system and the
development of the MTA2 system, all planned to be completed in the next twelve
months, may require additional capital earlier than planned. In order to provide
sufficient working capital and enhance our capital position, we plan to raise
additional equity and/or debt capital through utilization of our recently filed
shelf registration statement covering $20 million of common stock, private
placements and/or enhanced credit facilities. Financings may not be available to
us when needed or, if available, may not be available on satisfactory terms and
may be dilutive to our shareholders. See "Risk Factors - Additional Financings
May Be Dilutive to Existing Shareholders."
12
<PAGE> 13
RISK FACTORS
The following factors should be considered in evaluating our business,
operations and prospects and may affect our future results and financial
condition.
A FAILURE TO INTEGRATE THE CRAY RESEARCH BUSINESS UNIT COULD COMPROMISE
OUR GROWTH STRATEGY AND ADVERSELY AFFECT OUR BUSINESS. With the acquisition of
the Cray Research business unit from Silicon Graphics, Inc. ("SGI"), the size
and geographic dispersion of our workforce and operations increased
significantly. These increases have placed a significant strain on our
management, financial and other resources and have required us to attract
additional management talent, implement new financial, budgeting and management
information systems; retain, motivate and effectively manage our employees;
enhance internal control systems; increase our sales force; establish overseas
sales and service subsidiaries; receive appropriate governmental security
clearances; renovate existing and find new facilities; and successfully separate
the Cray operations from those of SGI and combine them with our existing
operations. We have not yet completed all of these tasks. We may experience
difficulties in integrating Cray's personnel, operations and technologies and
managing this sudden growth and these integration challenges could divert our
management's time and resources. Our success will depend on our ability to make
these changes and to manage our operations effectively over the long term.
LACK OF CUSTOMER ORDERS FOR OUR EXISTING SV1 AND T3E PRODUCTS AND OUR INABILITY
TO SELL OUR PRODUCTS AT EXPECTED PRICES WOULD ADVERSELY AFFECT OUR PROSPECTS. We
will depend on sales of our current products, the Cray SV1 and T3E, including
enhancements to these products, for significant product revenues in 2000 and
2001. To obtain these sales, we need to assure our customers of product
performance and our ability to service these products. Most of our potential
customers already own or lease very high-performance computer systems. Some of
our competitors may offer trade-in allowances or substantial discounts to
potential customers, and we may not be able to match these sales incentives. We
may be required to provide discounts to make sales or to provide lease financing
for our products, which would result in a deferral of our receipt of cash for
such systems. These developments would limit our revenues and resources and
would adversely affect our profitability and operations.
FAILURE TO OBTAIN RENEWAL OF SERVICE CONTRACTS WOULD ADVERSELY AFFECT OUR
REVENUES AND EARNINGS. High-performance computer systems are typically sold with
maintenance service contracts. These contracts generally are for annual periods,
although some are for multi-year periods. We currently are performing most of
the services under the existing SGI maintenance contracts as a sub-contractor to
SGI until we are able to novate these contracts and receive appropriate
governmental security clearances. As these contracts expire, we need to sell new
maintenance service contracts to these customers. A significant portion of these
contracts include prepaid service amounts. If customers do not renew their
maintenance service contracts with us, our revenues, earnings and cash resources
would be adversely affected.
OUR RELIANCE ON THIRD-PARTY SUPPLIERS POSES SIGNIFICANT RISKS TO OUR BUSINESS
AND PROSPECTS. We subcontract the manufacture of substantially all of our
hardware components for all of our products, including integrated circuits,
printed circuit boards, flex circuits and power supplies, on a sole or limited
source basis to third-party suppliers. In addition we use a contract
manufacturer to manufacture our SVI and T3E components.
13
<PAGE> 14
We are exposed to substantial risks because of our reliance on these and
other limited or sole source suppliers. For example:
- if a reduction or interruption of supply of our components
occurred, it could take us a considerable period of time to
identify and qualify alternative suppliers to redesign our
products as necessary and to recommence manufacture of the
redesigned components;
- if we were ever unable to locate a supplier for a component, we
would be unable to assemble and deliver our products;
- one or more suppliers may make strategic changes in their
product lines, which may result in the delay or suspension of
manufacture of our components or systems; and
- some of our key suppliers are small companies with limited
financial and other resources, and consequently may be more
likely to experience financial difficulties than larger, well-
established companies.
We recently have been put on allocation by IBM for certain ceramic components
used in our SV1 and T3E products that may affect the timing of sales of these
products, particularly in the next three quarters. We may be able to obtain
sufficient parts either from IBM or through reclamation of spare components. If
we are not successful in these efforts, certain anticipated sales may be delayed
or cancelled.
FAILURE TO OBTAIN CREDIT FACILITIES MAY RESTRICT OUR OPERATIONS. While we have
obtained a secured credit facility based on domestic accounts receivables, we
are seeking addition credit facilities, such as bank lines of credit, vendor
credit and capitalized equipment lease lines. The absence of a consistent record
of revenues and earnings makes obtaining such facilities more difficult; if we
obtain such facilities, they may have high interest rates, contain restrictions
on our operations and require security. Failure to obtain such credit facilities
may limit our planned operations and our ability to acquire needed
infrastructure and other capital items and would adversely affect our cash
reserves and increase our need for capital.
OUR QUARTERLY PERFORMANCE MAY VARY SIGNIFICANTLY AND COULD CAUSE OUR STOCK PRICE
TO BE VOLATILE. One or a few system sales may account for a substantial
percentage of our quarterly and annual revenue. This is due to the high average
sales price of our products, particularly the T3E system, and the expected high
average sales prices for our MTA2 and SV2 systems, and the timing of purchase
orders and product acceptances. Because a number of our prospective customers
receive funding from the U.S. or foreign governments, the timing of orders from
such customers may be subject to the appropriation and funding schedules of the
relevant government agencies. The timing of orders and shipments also could be
affected by other events outside our control, such as:
- changes in levels of customer capital spending;
- the introduction or announcement of competitive products;
- the availability of components;
- timing of the receipt of necessary export licenses; or
- currency fluctuations and international conflicts or economic
crises.
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Because of these factors, revenue, net income or loss and cash flow are
likely to fluctuate significantly from quarter to quarter.
THE COST OF SERVICE OF THE T90 INSTALLED BASE WILL ADVERSELY AFFECT OUR
EARNINGS. Certain components in the T90 vector computers sold by Cray prior to
our acquisition have an unusually high failure rate. The cost of servicing the
T90 computers exceeds the related service revenues. We are continuing to take
action that commenced prior to the acquisition to address this problem, and have
on our balance sheets a reserve to account for anticipated losses on the T90
maintenance service contracts.
LACK OF GOVERNMENT SUPPORT FOR SUPERCOMPUTER SYSTEMS WOULD ADVERSELY AFFECT OUR
BUSINESS AND INCREASE OUR CAPITAL REQUIREMENTS. We have targeted U.S. and
foreign government agencies and research laboratories as important sales
prospects for all of our products. In addition, a few of these agencies fund a
portion of our development efforts. The U.S. government historically has
facilitated the development of, and has constituted a market for, new and
enhanced very high-performance computer systems. The failure of U.S. and
foreign government agencies to purchase additional very high-performance
computer systems or to continue to fund these development efforts, due to lack
of funding, change of priorities or for any other reason, would materially and
adversely affect our results of operations and increase our need for capital.
PROPOSALS AND PURCHASES BASED ON THEORETICAL PEAK PERFORMANCE ADVERSELY AFFECT
OUR PROSPECTS. Our high-performance systems are designed to provide high actual
sustained performance on difficult computational problems. Many of our
competitors offer systems with higher theoretical peak performance numbers,
although their actual sustained performance frequently is a small fraction of
their theoretical peak performance. Nevertheless, many requests for proposals,
primarily from governmental agencies in the U.S. and elsewhere, have criteria
based on theoretical peak performance. Until these criteria are changed, we are
foreclosed from bidding or proposing our systems, on such proposals, which
adversely affects our revenue potential.
OUR UNCERTAIN PROSPECTS FOR EARNINGS COULD ADVERSELY AFFECT AN INVESTMENT IN US.
While we have had a substantial increase in revenues with the acquisition of the
Cray business operations, whether we will continue to achieve earnings will
depend upon a number of factors, including:
- our ability to market and sell our existing products, the SV1
and T3E, and complete the development of the MTA2 and SV2
systems;
- the level of revenue in any given period;
- our ability to integrate the operations of the former Cray
business unit;
- the cost of servicing the T90 installed base;
- the terms and conditions of sale or lease for our products; and
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- our expense levels, particularly for research and development and
manufacturing and service costs.
OUR INABILITY TO OVERCOME THE TECHNICAL CHALLENGES OF COMPLETING THE DEVELOPMENT
OF OUR SYSTEMS COULD CAUSE OUR BUSINESS TO FAIL. We are involved in significant
development efforts, including system upgrades to our existing SV1 product, in
order to add capabilities and features to extend its product life. Our success
over the next few years depends upon completing the development of the MTA2 and
the SV2 systems. We also have commenced initial work on development of the MTA3
and SV3 systems. These development efforts are lengthy and technically
challenging processes, and require a significant investment of capital,
engineering and other resources. Delays in completing the design of the hardware
components or software of these systems or in integrating the full systems could
materially and adversely affect our business and results of operations. We are
dependent on our vendors to manufacture components for our systems, and few
companies can meet our design requirements. Their inability to manufacture our
components to our designs will adversely affect the completion of these
products. From time to time during the development process we have had, and in
the future we may have, to redesign certain components because of previously
unforeseen design flaws. We also may find certain flaws, or "bugs," in our
system software which require correction. Redesign work may be costly and cause
delays in the development of these systems, and could affect adversely their
success as commercial products.
THE ABSENCE OF THIRD-PARTY APPLICATION SOFTWARE COULD ADVERSELY AFFECT OUR
ABILITY TO MAKE COMMERCIAL SALES OF OUR NEW SYSTEMS. In order to make sales in
the automotive, aerospace, chemistry and other engineering and commercial
markets, we must be able to attract independent software vendors to port their
software application programs so that they will run on our systems. The
relatively low volume of supercomputer sales may make it difficult for us to
attract these vendors. We also plan to modify and rewrite third-party software
applications to run on our systems and so facilitate the expansion of our
potential markets. There can be no assurance that we will be able to induce
independent software vendors to rewrite their applications, or that we will
successfully rewrite third-party applications for use on our systems.
U.S. EXPORT CONTROLS COULD HINDER OUR ABILITY TO MAKE SALES TO FOREIGN CUSTOMERS
AND OUR FUTURE PROSPECTS. The U.S. government regulates the export of
high-performance computer systems such as our products. Delay or denial in the
granting of any required licenses could adversely affect our ability to make
sales to certain foreign customers, thereby eliminating an important source of
potential revenue.
A SUBSTANTIAL NUMBER OF OUR SHARES ARE ELIGIBLE FOR FUTURE SALE AND COULD
DEPRESS MARKET PRICES OF OUR STOCK AND HINDER OUR ABILITY TO OBTAIN ADDITIONAL
FINANCING. Sale of a substantial number of our shares of common stock in the
public market or the prospect of such sales could materially and adversely
affect the market price of our common stock. As of September 30, 2000, we had
outstanding:
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- 33,609,691 shares of common stock;
- warrants to purchase 14,815,846 shares of common stock;
- 8% Convertible Promissory Notes in the principal amount of
$494,291, convertible at $5.00 per share into 98,858 shares of
common stock; and
- stock options to purchase an aggregate of 8,417,158 shares of
common stock, of which 2,362,635 options were then exercisable.
Almost all of our outstanding shares of common stock may be sold without
substantial restrictions. All of the shares purchased under the options are
available for sale in the public market, subject in some cases to volume and
other limitations.
Sales in the public market of substantial amounts of our common stock,
including sales of common stock issuable upon the exercise of warrants and
options, could depress prevailing market prices for the common stock. Even the
perception that such sales could occur may impact market prices.
In addition, the existence of outstanding warrants and options may prove
to be a hindrance to our future equity financings. Further, the holders of the
warrants and options may exercise them at a time when we would otherwise be able
to obtain additional equity capital on terms more favorable to us. Such factors
could materially and adversely affect our ability to meet our capital needs.
ADDITIONAL FINANCINGS MAY BE DILUTIVE TO EXISTING SHAREHOLDERS. Over the next
twelve months our significant cash requirements relate to the payment of the
remainder of the SGI note and acquisition-related expenses; operational expenses
consisting primarily of personnel costs, costs of inventory and third-party
engineering expenses; and acquisition of capital goods. We expect that
anticipated product sales and maintenance services over the next twelve months
will generate positive cash flow. At any particular time, given the high average
selling price of our products, our capital position is impacted by the timing of
particular product sales, and the receipt of prepaid maintenance. In addition
delays in the enhancements to the SV1 system and the development of the MTA2
systems, all planned to be completed in the next twelve months, may require
additional capital earlier than planned. In order to provide sufficient working
capital and enhance our capital position, we likely will raise additional equity
and/or debt capital through utilization of our recently filed shelf registration
statement covering $20 million of common stock, private placements and/or
enhanced credit facilities. Financings may not be available to us when needed
or, if available, may not be available on satisfactory terms and may be dilutive
to our shareholders.
WE MAY BE UNABLE TO ATTRACT, RETAIN AND MOTIVATE KEY PERSONNEL, AND AS A RESULT
WE MAY NOT BE ABLE TO GROW AS WE EXPECT OR EFFECTIVELY IMPLEMENT OUR BUSINESS
PLAN. Our success also depends in large part upon our ability to attract, retain
and motivate highly skilled management, technical and marketing and sales
personnel, particularly in light of the acquisition of the Cray business unit.
Competition for highly skilled management, technical, marketing and sales
personnel is intense, and we may not be successful in attracting and retaining
such personnel. We have no employment contracts with any of our employees.
OUR STOCK PRICE MAY BE VOLATILE. The trading price of our common stock is
subject to significant fluctuations in response to, among other factors:
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- changes in analysts' estimates;
- our future capital raising activities;
- announcements of technological innovations by us or our
competitors; and
- general conditions in the high-performance computer industry.
In addition, the stock market is subject to price and volume
fluctuations that particularly affect the market prices for small
capitalization, high technology companies like us.
WE MAY NOT BE ABLE TO KEEP UP WITH RAPID TECHNOLOGICAL CHANGE. Our market is
characterized by rapidly changing technology, accelerated product obsolescence
and continuously evolving industry standards. Our success will depend upon our
ability to enhance our current products, to complete development of the MTA2 and
the SV2 systems and to develop MTA3 and SV3 systems in the future. We will need
to introduce new products and features in a timely manner to meet evolving
customer requirements. We may not succeed in these efforts. Our business and
results of operations will be materially and adversely affected if we incur
delays in developing our products or if such products do not gain broad market
acceptance. In addition, products or technologies developed by others may render
our products or technologies noncompetitive or obsolete.
WE MAY BE UNABLE TO COMPETE SUCCESSFULLY IN THE HIGH-PERFORMANCE COMPUTER
MARKET. The performance of our products may not be competitive with the computer
systems offered by our competitors, and we may not compete successfully over
time against new entrants or innovative competitors at the lower end of the
market. Furthermore, periodic announcements by our competitors of new
high-performance computer systems and price adjustments may materially and
adversely affect customer demand for our products.
Our competitors are established companies that are well known in the
high-performance computer market, including IBM, Sun Microsystems, Compaq
Computer, Hewlett-Packard and Silicon Graphics in the U.S. and Japanese
companies such as NEC Corporation, Fujitsu and Hitachi. Each of these
competitors has broader product lines and substantially greater research,
engineering, manufacturing, marketing and financial resources than we do.
In addition we compete with new entrants capitalizing on developments in
parallel processing and increased computer performance through networking and
clustering systems. To date, these products have been limited in applicability
and scalability and can be difficult to program. A breakthrough in architecture
or software technology could make parallel systems more attractive to potential
customers. Such a breakthrough would materially and adversely affect our ability
to sell our products and the receipt of revenue.
MODIFICATION OR ELIMINATION OF CURRENT TARIFFS UNDER THE ANTIDUMPING LAWS WOULD
ADVERSELY AFFECT OUR COMPETITIVE POSITION IN THE UNITED STATES. Significant
duties are imposed on the importation in the U.S. of vector high-performance
computer systems of NEC, Fujitsu and Hitachi under the U.S. antidumping laws.
These duties are subject to review in the second half of 2002. If these
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duties were modified or eliminated, we may face significantly increased
competition in the U.S. high-performance vector computer market from these
companies.
WE MAY NOT BE ABLE TO PROTECT OUR PROPRIETARY INFORMATION AND RIGHTS ADEQUATELY.
We rely on a combination of patent, copyright and trade secret protection,
non-disclosure agreements and licensing arrangements to establish, protect and
enforce our proprietary information and rights. We have a number of issued
patents and have additional applications pending. There can be no assurance,
however, that patents will be issued from the pending applications or that any
issued patents will protect adequately those aspects of our technology to which
such patents will relate. Despite our efforts to safeguard and maintain our
proprietary rights, we cannot be certain that we will succeed in doing so or
that our competitors will not independently develop or patent technologies that
are substantially equivalent or superior to our technologies.
Although we are not a party to any present litigation regarding
proprietary rights, third parties may assert intellectual property claims
against us in the future. Such claims, if proved, could materially and adversely
affect our business and results of operations. In addition, even meritless
claims would require management attention and would cause us to incur
significant expense to defend.
The laws of certain countries do not protect intellectual property
rights to the same extent or in the same manner as do the laws of the United
States. Although we continue to implement protective measures and intend to
defend our proprietary rights vigorously, these efforts may not be successful.
OUR ABILITY TO BUILD CERTAIN PRODUCTS IS LIMITED BY OUR AGREEMENT WITH SGI,
WHICH MAY LIMIT OUR ABILITY TO COMPETE WITH SGI AND OTHER COMPANIES. The
Technology Agreement pursuant to which we acquired and licensed patent, know-how
and other intellectual property rights from SGI contains restrictions on our
ability to develop certain products, including specified successors to the T3E
system, and restrictions on the use of other technology, such as SGI's IRIX
operating system in the SV2.
IT MAY BECOME MORE DIFFICULT TO SELL OUR STOCK IN THE PUBLIC MARKET. Our common
stock is quoted on the Nasdaq National Market. In order to remain listed on this
market, the Company must meet Nasdaq's listing maintenance standards. If the bid
price of our common stock falls below $5.00 for an extended period, or we are
unable to continue to meet Nasdaq's standards for any other reason, our common
stock could be delisted from the Nasdaq National Market. If the common stock
were delisted, we likely would seek to list the common stock on the Nasdaq
SmallCap Market or for quotation on the American Stock Exchange or a regional
stock exchange. However, listing or quotation on these markets or exchanges
could reduce the liquidity for our common stock. If the common stock were not
listed or quoted on another market or exchange, trading of the common stock
would be conducted in the over-the-counter market on an electronic bulletin
board established for unlisted securities or in what are commonly referred to as
the "pink sheets." As a result, an investor would find it more difficult to
dispose of, or to obtain accurate quotations for the price of, the common stock.
In addition, a delisting from the Nasdaq National Market and failure to obtain
listing or quotation on such other market or exchange would subject our
securities to so-called "penny stock" rules
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that impose additional sales practice and market-making requirements on
broker-dealers who sell and/or make a market in such securities. Consequently,
removal from the Nasdaq National Market and failure to obtain listing or
quotation on another market or exchange could affect the ability or willingness
of broker-dealers to sell and/or make a market in the common stock and the
ability of purchasers of the common stock to sell their securities in the
secondary market. In addition, if the market price of the common stock falls to
below $5.00 per share, we may become subject to certain penny stock rules even
if our common stock is still quoted on the Nasdaq National Market. While such
penny stock rules should not affect the quotation of our common stock on the
Nasdaq National Market, such rules may further limit the market liquidity of the
common stock and the ability of investors to sell the common stock in the
secondary market.
PROVISIONS IN OUR AGREEMENT WITH SILICON GRAPHICS MAKE IT MORE DIFFICULT FOR
SPECIFIED COMPANIES TO ACQUIRE US. The Asset Purchase Agreement with SGI
pursuant to which we purchased the Cray Research business assets contains
provisions restricting our ability to transfer the Cray Research business
assets. Sales of these assets to Hewlett-Packard, Sun Microsystems, IBM, Compaq
Computer, NEC or Gores Technology Group, or their affiliates, are prohibited
until the earlier of March 31, 2003 or if SGI were sold. In addition, we must
give SGI a right of first refusal for any sale of these assets to other
purchasers for such period or earlier, if over a period of four fiscal quarters
the revenue from product sales of Cray products is less than 50% of our total
revenue.
PROVISIONS OF OUR ARTICLES AND BYLAWS COULD MAKE A PROPOSED ACQUISITION THAT IS
NOT APPROVED BY OUR MANAGEMENT MORE DIFFICULT. Provisions of our Restated
Articles of Incorporation and Restated Bylaws could make it more difficult for a
third party to acquire us. These provisions could limit the price that investors
might be willing to pay in the future for our common stock. For example, our
Articles and Bylaws provide for:
- a staggered Board of Directors, so that only three of nine
directors are elected each year;
- removal of a director only for cause and only upon the
affirmative vote of not less than two-thirds of the shares
entitled to vote to elect directors;
- the issuance of preferred stock, without shareholder approval,
with rights senior to those of the common stock;
- no cumulative voting of shares;
- calling a special meeting of the shareholders only upon demand
by the holders of not less than 30% of the shares entitled to
vote at such a meeting;
- amendments to the Restated Articles of Incorporation require the
affirmative vote of not less than two-thirds of the outstanding
shares entitled to vote on the amendment, unless the amendment
was approved by a majority of "continuing directors" (as that
term is defined in our Articles);
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- special voting requirements for mergers and other business
combinations, unless the proposed transaction was approved by a
majority of continuing directors;
- special procedures must be followed in order to bring matters
before our shareholders at our annual shareholders' meeting; and
- special procedures must be followed in order for nominating
members for election to the Board of Directors.
WE DO NOT ANTICIPATE DECLARING ANY DIVIDENDS. We have never paid any dividends
on our common stock and we intend to continue our policy of retaining any
earnings to finance the development and expansion of our business.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For the quarter ended September 30, 2000, substantially all of our cash
equivalents and marketable securities are held in money market funds or
commercial paper of less than 90 days that is held to maturity. Accordingly, we
believe that the market risk arising from our holdings of these financial
instruments is minimal. We sell our products primarily in North America, Asia
and Europe. As a result, our financial results could be affected by factors
such as changes in foreign currency exchange rates or weak economic conditions
in foreign markets. Our products are generally priced is U.S. dollars, and a
strengthening of the dollar could make our products less competitive in foreign
markets. While we commonly sell products with payments in U.S. dollars, our
product sales contracts occasionally call for payment in foreign currencies and
to the extent we do so, we are subject to foreign currency exchange risks. We do
not believe these risks to be material, and we are considering forward currency
contracts to minimize these risks. Our foreign maintenance contracts are paid in
local currencies and provide a natural hedge against local expenses. To the
extent that we wish to repatriate any of these funds to the United States,
however, we are subject to foreign exchange risks. We do not hold any derivative
instruments and have not engaged in hedging transactions.
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule
Reports on Form 8-K
None
ITEMS 1, 2, 3, 4 AND 5 OF PART II ARE NOT APPLICABLE AND HAVE BEEN OMITTED.
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SIGNATURES
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CRAY INC.
November 14, 2000 By: /s/ JAMES E. ROTTSOLK
James E. Rottsolk
Chief Executive Officer
/s/ KENNETH W. JOHNSON
Kenneth W. Johnson
Chief Financial Officer
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