UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the quarterly period ended June 30, 2004
[_] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission file number: 000-31863
COMPUTER ACCESS TECHNOLOGY CORPORATION
(exact name of registrant as specified in its charter)
Delaware 77-0302527
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
3385 Scott Boulevard, Santa Clara
California 95054
(Address of principal executive offices) (Zip Code)
(408) 727-6600
(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 [_]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act.)
Yes [_] No [X]
As of July 31, 2004, there were 19,672,151 shares of the registrant's
Common Stock outstanding.
1
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
COMPUTER ACCESS TECHNOLOGY CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED, IN THOUSANDS)
JUNE 30, DECEMBER 31,
2004 2003
-------- ------------
ASSETS
Current assets:
Cash and cash equivalents ................... $ 18,176 $ 34,116
Short-term investments ...................... 2,617 1,055
Trade accounts receivable, net .............. 3,000 3,180
Inventories ................................. 1,592 907
Other current assets ........................ 615 675
-------- --------
Total current assets .................... 26,000 39,933
Long-term investments ............................ 24,779 9,367
Property and equipment, net ...................... 980 768
Purchased intangibles ............................ 98 167
Other assets ..................................... 135 114
-------- --------
$ 51,992 $ 50,349
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................ $ 795 $ 393
Accrued expenses ............................ 3,131 2,921
Accrued restructuring ....................... 15 29
Deferred revenue ............................ 581 535
-------- --------
Total current liabilities .............. 4,522 3,878
Stockholders' equity:
Common stock ................................ 20 19
Additional paid-in capital .................. 54,008 53,643
Treasury stock .............................. (1,048) (1,048)
Deferred stock-based compensation ........... -- (32)
Unrealized loss on investments .............. (312) --
Accumulated deficit ......................... (5,198) (6,111)
-------- --------
Total stockholders' equity .............. 47,470 46,471
-------- --------
$ 51,992 $ 50,349
======== ========
See accompanying notes.
2
COMPUTER ACCESS TECHNOLOGY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
----------------------- -----------------------
2004 2003 2004 2003
-------- -------- -------- --------
Revenue .................................. $ 4,896 $ 3,856 $ 9,541 $ 7,118
Cost of revenue .......................... 862 800 1,686 1,473
-------- -------- -------- --------
Gross profit ............................. 4,034 3,056 7,855 5,645
-------- -------- -------- --------
Operating expenses:
Research and development ............ 1,569 1,302 3,191 2,642
Sales and marketing ................. 1,515 1,214 2,798 2,377
General and administrative .......... 590 592 1,277 1,276
Amortization of purchased intangibles 26 26 52 52
-------- -------- -------- --------
Total operating expenses ....... 3,700 3,134 7,318 6,347
-------- -------- -------- --------
Income (loss) from operations ............ 334 (78) 537 (702)
Other income, net ........................ 218 198 376 359
-------- -------- -------- --------
Income (loss) before income taxes ........ 552 120 913 (343)
Income taxes ............................. -- -- -- --
-------- -------- -------- --------
Net income (loss) ........................ $ 552 $ 120 $ 913 $ (343)
======== ======== ======== ========
Net income (loss) per share:
Basic ............................... $ 0.03 $ 0.01 $ 0.05 $ (0.02)
======== ======== ======== ========
Diluted ............................. $ 0.03 $ 0.01 $ 0.04 $ (0.02)
======== ======== ======== ========
Weighted average shares outstanding:
Basic ............................... 19,551 19,442 19,509 19,411
======== ======== ======== ========
Diluted ............................. 20,718 19,980 20,688 19,411
======== ======== ======== ========
See accompanying notes.
3
COMPUTER ACCESS TECHNOLOGY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED, IN THOUSANDS)
SIX MONTHS
ENDED JUNE 30,
------------------------
2004 2003
-------- --------
Cash flows from operating activities:
Net income (loss) ............................................................... $ 913 $ (343)
Adjustments to reconcile net income (loss) to net cash from operating activities:
Depreciation and amortization ................................................ 316 397
Amortization of acquired developed technology ................................ 17 18
Amortization of purchased intangibles ........................................ 52 52
Amortization of deferred stock-based compensation ............................ 32 158
Amortization of premium on investments ....................................... 160 262
Changes in assets and liabilities:
Trade accounts receivable ................................................ 180 (600)
Inventories .............................................................. (685) 206
Other assets ............................................................. 60 962
Accounts payable ......................................................... 402 (1,100)
Accrued expenses ......................................................... 197 (46)
Accrued restructuring .................................................... (14) (229)
Deferred revenue ......................................................... 46 7
Deferred rent ............................................................ 13 --
-------- --------
Net cash provided by (used in) operating activities ............... 1,689 (256)
-------- --------
Cash flows from investing activities:
Purchase of short-term investments .............................................. (2,633) (4,392)
Sale of short-term investments .................................................. 1,053 4,900
Acquisition of property and equipment ........................................... (528) (270)
Purchase of long-term investments ............................................... (15,866) --
Other long-term assets .......................................................... (21) 120
-------- --------
Net cash provided by (used in) investing activities ............... (17,995) 358
-------- --------
Cash flows from financing activities:
Proceeds from exercise of stock options ......................................... 239 145
Proceeds from employee stock purchase plan ...................................... 127 70
Repurchases of common stock ..................................................... -- (465)
-------- --------
Net cash provided by (used in) financing activities ............... 366 (250)
-------- --------
Net decrease in cash and cash equivalents ........................................... (15,940) (148)
Cash and cash equivalents at beginning of period .................................... 34,116 30,846
-------- --------
Cash and cash equivalents at end of period .......................................... $ 18,176 $ 30,698
======== ========
See accompanying notes
4
COMPUTER ACCESS TECHNOLOGY CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE DATA)
COMMON STOCK
-------------------------- ADDITIONAL DEFERRED
TREASURY PAID-IN STOCK-BASED
SHARES AMOUNT STOCK CAPITAL COMPENSATION
----------- ----------- ----------- ----------- -----------
Balance as of December 31, 2002 ......... 19,425,625 $ 19 $ -- $ 53,210 $ (324)
Exercise of common stock options ........ 159,543 -- -- 145 --
Issuance of common stock through employee
stock purchase plan ................ 32,890 -- -- 70 --
Stock repurchase ........................ (164,420) -- (448) -- --
Deferred stock-based compensation ....... -- -- -- (36) 16
Amortization of deferred stock-based
compensation ....................... -- -- -- -- 178
Net loss ................................ -- -- -- -- --
----------- ----------- ----------- ----------- -----------
Balance as of June 30, 2003 ............. 19,453,638 $ 19 $ (448) $ 53,389 $ (130)
=========== =========== =========== =========== ===========
ACCUMULATED RETAINED
OTHER EARNINGS
COMPREHENSIVE (ACCUMULATED
INCOME (LOSS) DEFICIT) TOTAL
------------- ----------- -----------
Balance as of December 31, 2002 ......... $ -- $ (5,703) $ 47,202
Exercise of common stock options ........ -- -- 145
Issuance of common stock through employee
stock purchase plan ................ -- -- 70
Stock repurchase ........................ -- (17) (465)
Deferred stock-based compensation ....... -- -- (20)
Amortization of deferred stock-based
compensation ....................... -- -- 178
Net loss ................................ -- (343) (343)
----------- ----------- -----------
Balance as of June 30, 2003 ............. $ -- $ (6,063) $ 46,767
=========== =========== ===========
COMMON STOCK
-------------------------- ADDITIONAL DEFERRED
TREASURY PAID-IN STOCK-BASED
SHARES AMOUNT STOCK CAPITAL COMPENSATION
----------- ----------- ----------- ----------- -----------
Balance as of December 31, 2003 ......... 19,409,529 $ 19 $ (1,048) $ 53,643 $ (32)
Exercise of common stock options ........ 120,096 1 -- 238 --
Issuance of common stock through employee
stock purchase plan ................ 56,174 -- -- 127 --
Amortization of deferred stock-based
compensation ....................... -- -- -- -- 32
Net Income .............................. -- -- -- -- --
Change in unrealized loss on investments -- -- -- -- --
Comprehensive income .................... -- -- -- -- --
----------- ---------- ---------- ----------- -----------
Balance as of June 30, 2004 ............. 19,585,799 $ 20 $ (1,048) $ 54,008 $ --
=========== ========== ========== =========== ===========
ACCUMULATED RETAINED
OTHER EARNINGS
COMPREHENSIVE (ACCUMULATED
INCOME (LOSS) DEFICIT) TOTAL
------------- ---------- ----------
Balance as of December 31, 2003 ......... $ -- $ (6,111) $ 46,471
Exercise of common stock options ........ -- -- 239
Issuance of common stock through employee
stock purchase plan ................ -- -- 127
Amortization of deferred stock-based
compensation ....................... -- -- 32
Net Income .............................. -- 913 913
Change in unrealized loss on investments (312) -- (312)
Comprehensive income .................... -- -- 601
------------- ---------- ----------
Balance as of June 30, 2004 ............. $ (312) $ (5,198) $ 47,470
============= ========== ==========
See accompanying notes.
5
NOTE 1 - BUSINESS
Business
Computer Access Technology Corporation is a provider of advanced
verification systems for existing and emerging digital communications standards.
Our products are used by semiconductor, system and software companies at each
phase of their products' lifecycles from development through production and
market deployment.
We have expertise in the Bluetooth, Fibre Channel, 1394, InfiniBand, PCI
Express, SCSI, Serial ATA, Serial Attached SCSI and USB standards and are
actively engaged with our customers throughout their development and production
processes in order to deliver solutions that meet their needs. Utilizing our
easy to use, color-coded expert analysis software, the CATC Trace(TM), our
development products generate, capture, filter and analyze high-speed
communications traffic, allowing our customers to quickly discover and correct
persistent and intermittent errors and flaws in their product designs. Our
production products are used during the manufacturing process to ensure that our
customers' products comply with standards and operate with other devices, as
well as assist system manufacturers to download software onto new computers.
We have two reportable operating segments: development products and
production products. Further segment and geographic information is included in
Note 7 of the Notes to Condensed Consolidated Financial Statements included in
this report.
Computer Access Technology Corporation was incorporated in California in
1992 and reincorporated in Delaware in 2000. Our headquarters are located at
3385 Scott Boulevard, Santa Clara, California 95054. We maintain a World Wide
Web site at www.catc.com. The reference to this World Wide Web site address does
not constitute incorporation by reference of the information contained therein.
Our Annual Report on Form 10-K, quarterly reports on Form 10-Q, current
reports on Form 8-K, all amendments to those reports, and the Proxy Statement
for our annual meeting of stockholders are made available, free of charge, on
our website as soon as reasonably practicable after the reports have been filed
with or furnished to the Securities and Exchange Commission (the "SEC").
Interim Financial Information and Basis of Presentation
The accompanying unaudited condensed consolidated financial statements as
of June 30, 2004, and for the three and six months ended June 30, 2004 and 2003,
respectively, have been prepared in accordance with accounting principles
generally accepted in the United States of America for interim financial
statements and pursuant to the rules and regulations of the SEC and include the
accounts of Computer Access Technology Corporation and its wholly owned
subsidiaries (collectively, "Computer Access Technology Corporation" or the
"Company"). Intercompany accounts and transactions have been eliminated in
consolidation. Certain information and footnote disclosures normally included in
annual consolidated financial statements prepared in accordance with accounting
principles generally accepted in the United States of America have been
condensed or omitted pursuant to SEC rules and regulations. In the opinion of
management, the unaudited condensed consolidated financial statements reflect
all adjustments (consisting only of normal recurring adjustments) necessary for
a fair presentation of the condensed consolidated balance sheet at June 30,
2004, the condensed consolidated operating results for the three and six months
ended June 30, 2004 and 2003, the condensed consolidated cash flows for the six
months ended June 30, 2004 and 2003 and the condensed consolidated statements of
stockholders' equity for the six months ended June 30, 2004 and 2003. Certain
reclassifications have been made to prior year balances in order to conform to
the current year's presentation. These unaudited condensed consolidated
financial statements should be read in conjunction with the Company's audited
consolidated financial statements and notes thereto for the year ended December
31, 2003.
The unaudited condensed consolidated balance sheet at December 31, 2003
has been derived from the audited consolidated financial statements at that date
but does not include all of the information and footnotes required by generally
accepted accounting principles in the United States of America for complete
financial statements.
Concentrations of credit risk
Revenue and accounts receivable from customers comprising more than 10% of
revenue or trade accounts receivable are summarized as follows:
6
SIX MONTHS ENDED
JUNE 30,
----------------
2004 2003
---- ----
Revenue:
Company A ...................................... 17% 18%
Company B ...................................... 14% 17%
JUNE 30, DECEMBER 31,
2004 2003
-------- ------------
Accounts receivable:
Company A ...................................... 17% 15%
Company B ...................................... 14% 13%
Company C ...................................... * 10%
- ---------
*less than 10% of revenue or trade accounts receivable for the period.
NOTE 2 - COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) is defined as changes in equity of a company
from transactions, other events and circumstances, excluding transactions
resulting from investments by owners and distributions to owners.
The following table sets forth comprehensive net income (loss) for the
periods indicated (in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ----------------
2004 2003 2004 2003
----- ----- ----- -----
Net income (loss) ....................... $ 552 $ 120 $ 913 $(343)
===== ===== ===== =====
Other comprehensive income:
Change in unrealized gains and (losses) on
available-for-sale securities ........ (312) -- (312) --
----- ----- ----- -----
Comprehensive income (loss) ............. $ 240 $ 120 $ 601 $(343)
===== ===== ===== =====
NOTE 3 - STOCK-BASED COMPENSATION
Stock-based compensation
In connection with certain stock option grants in 2000, 1999 and 1998, the
Company recorded deferred stock-based compensation totaling $14,393,000 which
represented the difference between the exercise price and the deemed fair value
at the date of grant and is being recognized over the vesting period of the
related options. All amortization of deferred stock-based compensation was
recognized as of March 31, 2004. Accordingly, no amortization of deferred
stock-based compensation was recognized in the three months ended June 30, 2004.
Amortization of deferred stock-based compensation was $32,000 in the six months
ended June 30, 2004, of which $6,000 was included in cost of revenue.
Amortization of deferred stock-based compensation was $96,000 and $158,000 in
the three months ended June 30, 2003 and the six months ended June 30, 2003,
respectively, of which $15,000 and $18,000 was included in cost of revenue in
the three months ended June 30, 2003 and the six months ended June 30, 2003,
respectively.
Fair value disclosures
The Company has adopted the disclosure provisions of Statement of
Financial Accounting Standard ("SFAS") No. 148, "Accounting for Stock-Based
Compensation, Transition and Disclosure." This statement amends SFAS No. 123,
"Accounting for Stock-Based Compensation," to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based compensation and requires prominent disclosure in both the
annual and interim financial statements of the method of accounting used and the
financial impact of stock-based compensation. As permitted by SFAS No. 123, the
Company accounts for stock options granted as prescribed under Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees,"
which recognizes compensation cost based upon the intrinsic value of the award.
7
The weighted-average fair values of options granted during the quarters
ended June 30, 2004 and 2003 were $2.06 and $2.01, and for the six months ended
June 30, 2004 and 2003 were $2.15, and $1.78, respectively. In determining the
fair value of options granted in each of the periods, the Company used the Black
Scholes option pricing model and assumed the following:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------------------------- ----------------------------------------
2004 2003 2004 2003
-------------------- ------------------- -------------------- -------------------
Expected life (in years)............. 5 5 5 5
Risk-free interest rate.............. 3.67% 2.63% 3.01%-3.67% 2.29-2.78%
Volatility........................... 35% 77% 35-42% 53-77%
Dividend yield....................... 0% 0% 0% 0%
Had compensation costs been determined based upon the fair value at the
grant date for awards under the Company's stock option plans, consistent with
the methodology prescribed under SFAS No. 123, the Company's pro forma net
income (loss) and pro forma basic and diluted net income (loss) per share under
SFAS No. 123 would have been (in thousands, except per share data):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------- ----------------------
2004 2003 2004 2003
------- ------- ------- -------
Net income (loss), as reported ....................... $ 552 $ 120 $ 913 $ (343)
Add: Amortization of deferred stock-based
compensation included in as reported net loss .... -- 96 32 158
Deduct: Stock-based employee compensation expense
determined under fair value based method for all
grants ........................................... (524) (472) (1,023) (1,156)
------- ------- ------- -------
Net income (loss), pro forma ..................... $ 28 $ (256) $ (78) $(1,341)
======= ======= ======= =======
Net income (loss) per share, as reported
Basic ............................................ $ 0.03 $ 0.01 $ 0.05 $ (0.02)
======= ======= ======= =======
Diluted .......................................... $ 0.03 $ 0.01 $ 0.04 $ (0.02)
======= ======= ======= =======
Net income (loss) per share, pro forma
Basic and diluted ................................ $ 0.00 $ (0.01) $ (0.00) $ (0.07)
======= ======= ======= =======
NOTE 4 - NET INCOME (LOSS) PER SHARE
The Company computes net income (loss) per share in accordance with SFAS
No. 128, "Earnings per Share," and SEC Staff Accounting Bulletin ("SAB") No. 98.
Under the provisions of SFAS No. 128 and SAB No. 98, basic net income (loss) per
share is computed by dividing net income (loss) for the period by the weighted
average number of shares of common stock outstanding during the period. The
calculation of diluted net loss per share excludes potential common stock if its
effect is anti-dilutive. Potential common stock consists of incremental common
shares issuable upon the exercise of stock options.
8
The following table sets forth the computation of basic and diluted net
income (loss) per share for the periods indicated (in thousands except per share
data):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
----------------------- -----------------------
2004 2003 2004 2003
-------- -------- -------- --------
Numerator:
Net income (loss) ............................... $ 552 $ 120 $ 913 $ (343)
======== ======== ======== ========
Denominator:
Weighted average shares outstanding ............. 19,551 19,442 19,509 19,441
-------- -------- -------- --------
Denominator for basic calculation ............... 19,551 19,442 19,509 19,441
Dilutive effect of stock options ................ 1,167 538 1,179 --
-------- -------- -------- --------
Denominator for diluted calculation ............. 20,718 19,980 20,688 19,441
======== ======== ======== ========
Net income (loss) per share:
Basic ........................................... $ 0.03 $ 0.01 $ 0.05 $ (0.02)
======== ======== ======== ========
Diluted ......................................... $ 0.03 $ 0.01 $ 0.04 $ (0.02)
======== ======== ======== ========
Total common stock equivalents, related to options
outstanding, excluded from the computation of
earnings per share as their effect is antidilutive 2,426 2,813 2,397 2,921
======== ======== ======== ========
NOTE 5 - INVENTORIES
Inventories consist of the following (in thousands):
AS OF JUNE 30, AS OF DECEMBER 31,
2004 2003
-------------- ------------------
Raw materials ................ $ 577 $ 334
Work in progress ............. 624 250
Finished goods ............... 391 323
-------------- ------------------
$1,592 $ 907
============== ==================
NOTE 6 - INCOME TAXES
The Company's effective income tax rate was 0.0% in the quarters and six
months ended June 30, 2004 and June 30, 2003, as the Company provided a full
valuation allowance against its net deferred tax assets through June 30, 2004.
As of June 30, 2004, the Company continued to carry a full valuation against its
net deferred tax assets, as it has determined that it is more likely than not
that such amounts will not be realized through taxable income from future
operations, or by carry-back to prior year's taxable income.
NOTE 7 - REPORTABLE SEGMENTS AND GEOGRAPHIC INFORMATION
The Company has two reportable segments categorized by product type:
development products and production products. Development products are advanced
verification systems that assist product developers to efficiently design
reliable and interoperable systems and devices. Production products are
production verification systems and connectivity solutions designed to assist
manufacturers in the volume production of reliable devices and systems. The
Company has no inter-segment revenue.
The Company analyzes segment revenue and cost of revenue, but does not
allocate operating expenses, including stock-based compensation, or assets to
segments. Accordingly, the Company has presented only revenue and gross profit
by segment.
9
Segment information (in thousands):
UNALLOCATED
DEVELOPMENT PRODUCTION STOCK-BASED
PRODUCTS PRODUCTS COMPENSATION EXPENSE TOTAL
-------- ----------- -------------------- ---------
Three Months Ended June 30, 2004
Segment revenue from external customers $4,654 $ 242 $ -- $4,896
Segment gross profit .................. $3,882 $ 152 $ -- $4,034
Three Months Ended June 30, 2003
Segment revenue from external customers $3,571 $ 285 $ -- $3,856
Segment gross profit .................. $2,901 $ 170 $ (15) $3,056
Six Months Ended June 30, 2004
Segment revenue from external customers $9,070 $ 471 $ -- $9,541
Segment gross profit .................. $7,565 $ 296 $ (6) $7,855
Six Months Ended June 30, 2003
Segment revenue from external customers $6,370 $ 748 $ -- $7,118
Segment gross profit .................. $5,231 $ 432 $ (18) $5,645
Geographic information (in thousands):
LONG-LIVED
REVENUE ASSETS
------- ----------
Three Months Ended June 30, 2004
North America ........................... $ 2,811 $25,992
Europe .................................. 519 --
Asia .................................... 1,566 --
Rest of world ........................... -- --
------- -------
Total ............................... $ 4,896 $25,992
======= =======
Three Months Ended June 30, 2003
North America ..................... $ 1,907 $ 872
Europe ............................ 525 --
Asia .............................. 1,424 --
Rest of world ..................... -- --
------- -------
Total ......................... $ 3,856 $ 872
======= =======
Six Months Ended June 30, 2004
North America ........................... $ 4,931 $25,992
Europe .................................. 1,083 --
Asia .................................... 3,527 --
Rest of world ........................... -- --
------- -------
Total ............................... $ 9,541 $25,992
======= =======
Six Months Ended June 30, 2003
North America ..................... $ 3,167 $ 872
Europe ............................ 965 --
Asia .............................. 2,980 --
Rest of world ..................... 6 --
------- -------
Total ......................... $ 7,118 $ 872
======= =======
The increases in long-lived assets held in North America for the three and six
months ended June 30, 2004 reflect the increases in the Company's long-term
investments. Revenues are attributed to regions based on delivery locations.
Sales to international customers accounted for 42.6% and 50.5% of revenue during
the quarters ended June 30, 2004 and 2003, respectively, and 48.3% and 55.5% for
the six months ended June 30, 2004 and 2003, respectively.
10
NOTE 8 - WARRANTIES
The Company offers warranties on certain products and records at the time
of shipment an estimate for the future costs associated with warranty claims.
The Company accrues these costs based upon historical experience and its
estimate of the level of future warranty costs. The Company assesses the
adequacy of its warranty reserve on a quarterly basis and makes adjustments, if
needed.
The following table reconciles the changes in our warranty reserve for the
six months ended June 30, 2004 (in thousands):
Balance as of December 31, 2003 ............................ $ 125
Accrual for warranty for sales made during
the six months ended June 30, 2004 182
Warranty costs for the six months ended June 30, 2004 ...... (1)
Warranty expirations during the six months ended
June 30, 2004 ............................................ (181)
-----
Total ...................................................... $ 125
=====
NOTE 9 - RECENT ACCOUNTING PRONOUNCEMENTS
On March 31, 2004, the Financial Accounting Standards Board ("FASB")
issued a proposed Statement, "Share-Based Payment, an amendment of FASB
Statements Nos. 123 and 95," that addresses accounting for share-based payment
transactions in which an enterprise receives employee services in exchange for
either equity instruments of the enterprise or liabilities that are based on the
fair value of the enterprise's equity instruments or that may be settled by the
issuance of such equity instruments. The proposed statement would eliminate the
ability to account for share-based compensation transactions using Accounting
Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to
Employees," and generally would require that such transactions be accounted for
using a fair-value-based method and recognized as expenses in our consolidated
statement of operations. The proposed standard would require that the modified
prospective method be used, which requires that the fair value of new awards
granted from the beginning of the year of adoption, plus unvested awards at the
date of adoption, be expensed over the vesting period. In addition, the proposed
statement encourages companies to use the "binomial" approach to value stock
options, which differs from the Black-Scholes option pricing model that we
currently use. The recommended effective date of the proposed standard for
public companies is for fiscal years beginning after December 15, 2004.
Should this proposed statement be finalized in its current form, it will
have a significant impact on our consolidated statement of operations as we will
be required to expense the fair value of our stock option grants and stock
purchases under our employee stock purchase plan rather than disclose the impact
on our consolidated net income (loss) within our footnotes, as is our current
practice. In addition, the proposed standard will have a significant impact on
our consolidated cash flows from operations, as we will be required to
reclassify our tax benefit on the exercise of employee stock options from cash
flows from operating activities to cash flows from financing activities.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Quarterly Report and certain information incorporated herein by
reference contain forward-looking statements within the "safe harbor" provisions
of the Private Securities Litigation Reform Act of 1995. All statements
contained in this Quarterly Report that are not purely historical are
forward-looking statements, including, without limitation, statements regarding
our expectations, objectives, anticipations, plans, hopes, beliefs, intentions,
or strategies regarding the future. Forward-looking statements are not
guarantees of future performance and are subject to risks and uncertainties that
could cause actual results to differ materially from the results contemplated by
the forward-looking statements. Forward-looking statements include, without
limitation, the statements regarding:
o Our anticipation that revenue from sales of our Universal Serial Bus
(USB) products will decrease as the markets for our USB products
mature;
o Our belief that the development of emerging communications standards
and technological change has influenced and is likely to continue to
influence our quarterly and annual revenue and results of
operations;
o Our expectation that our operating cash flow requirements will
increase in the future in connection with the expanding scope and
level of our activities;
o Our belief that our current cash, cash equivalents and short-term
investments together with funds generated from operations will be
sufficient to meet our working capital and capital expenditure
requirements for the next 12 months;
o Our belief that our quarterly and annual operating results are
likely to fluctuate significantly in the future;
o Our belief that our future revenue growth relies on our ability to
successfully design, manufacture and sell new products into new and
established markets;
o Our belief that we must work closely with core or promoter companies
in our target markets to gain valuable insights into new market
demands, obtain early access to standards as they develop and help
us design new or enhanced products;
o Our expectation that we will encounter increased competition as we
expand our product portfolio into new and existing markets;
o Our anticipation that the average selling prices of our products
will decrease in the future in response to such things as product
introductions or enhancements by us or our competitors, product
discounting on volume purchase orders or additional pricing
pressures;
o Our belief that we must continue to develop and introduce on a
timely basis new products that can be sold at higher average selling
prices;
o Our belief that developments related to the Sarbanes-Oxley Act of
2002 will increase our legal compliance and financial reporting
costs, make it more difficult and more expensive for us to obtain
director and officer liability insurance, and may cause us to accept
reduced coverage or incur substantially higher costs to obtain
coverage;
o Our expectations to continue to review opportunities to acquire
other businesses or technologies that complement our current
products, expand our markets, enhance our technical capabilities or
otherwise offer growth opportunities;
o Our intent to continue the development and expansion of our direct
sales organization and our indirect distribution channels
domestically and internationally;
o Our anticipation that revenue from international operations will
continue to represent a substantial portion of our revenue;
o Our belief that our products do not infringe any other party's
intellectual property rights in any way that would have a material
adverse effect on our operations;
12
o Our anticipation that all of our earnings, if any, will be retained
for development and expansion of our business;
o Our belief that as the economy expands the demand for certain key
components used in our products will increase such that we may need
to order larger quantities of these components earlier than
forecasted or risk delays in product shipments to our customers;
o Our anticipation that we will not pay any cash dividends on our
common stock in the foreseeable future; and
o Our belief that the amount of ultimate liability, if any, for legal
proceedings and claims will not materially affect our financial
position, results of operations, or liquidity.
These forward-looking statements are subject to risks and uncertainties
that could cause actual results to differ materially from those stated or
implied by the forward-looking statements. For a detailed description of the
risks associated with our business that could cause actual results to differ
from those stated or implied in such forward-looking statements, see the
disclosure contained under the heading "Risk Factors" in this Quarterly Report
as well as such other risks and uncertainties as are detailed in our Securities
and Exchange Commission reports and filings. All forward-looking statements
included in this quarterly Report are based on information available to us on
the date of this Quarterly Report, and we assume no obligation to update the
forward-looking statements, or to update the reasons why actual results could
differ from those projected in the forward-looking statements.
The following "Management's Discussion and Analysis of Financial Condition
and Results of Operations" should be read in conjunction with the unaudited
condensed consolidated financial statements and notes thereto included in Item 1
of this Quarterly Report and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contained in our Form 10-K filed with the
Securities and Exchange Commission on February 20, 2004, as amended by our Form
10-K/A filed on March 3, 2004.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of our consolidated financial
statements in conformity with generally accepted accounting principles requires
our management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the consolidated financial statements and reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from those estimates. We base our estimates on historical
experience and on various other assumptions that we believe to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. We believe the following critical
accounting policies, among others, affect the more significant judgments and
estimates used in the preparation of our consolidated financial statements.
REVENUE RECOGNITION. Due to the significant software content of our
products, we have adopted Statement of Position ("SOP") 97-2, Software Revenue
Recognition. Under SOP 97-2, we recognize revenue on sales to distributors,
resellers and direct customers upon shipment, provided that there is persuasive
evidence of an arrangement, the product has been delivered and title has passed,
the fee is fixed or determinable and collection of the resulting receivable is
reasonably assured. We do not provide distributors, resellers or direct
customers price protection, and only provide limited rights of return or
exchange. Generally, our distributors do not maintain inventory; however, to the
extent they do, we have the right, but not the obligation, under the terms of
our distributor agreements to repurchase inventory at the sales price upon
termination of the relationship. We review distributor inventory levels, if any,
quarterly to ensure that any potential repurchases are not material. When we
have shipped products, but some elements essential to the functionality of the
products have not been completed, revenue and associated cost of revenue are
deferred until all essential elements have been delivered. Software maintenance
support revenue is deferred and recognized ratably over the maintenance support
period. Provisions for warranty costs are recorded at the time products are
shipped.
13
CASH EQUIVALENTS, SHORT-TERM INVESTMENTS AND LONG-TERM INVESTMENTS. Our
cash equivalents, short-term investments and long-term investments are placed in
portfolios managed by professional money management firms under investment
guidelines we have established. These guidelines address the critical objectives
of preservation of principal, avoiding inappropriate concentrations, meeting
liquidity requirements and maximizing after-tax returns. We classify all highly
liquid investments with original maturities from the date of purchase of 90 days
or less as cash equivalents. Those with original maturities greater than 90 days
but less than one year are classified as short-term investments, and those with
an original maturity greater than one year are classified as long-term
investments. Our cash equivalents short-term investments and long-term
investments consist principally of investments in commercial paper, investment
quality corporate and municipal bonds, money market funds, collateralized
mortgage obligations and U.S. government agency securities.
INCOME TAXES. We account for income taxes under the liability method,
which requires, among other things, that we record deferred tax assets and
liabilities for temporary differences between the tax bases of our assets and
liabilities and their financial statement reported amounts. In addition,
deferred tax assets are recorded for the future benefit of utilizing net
operating losses and research and development credit carry-forwards. A full
valuation allowance is provided against deferred tax assets unless it is more
likely than not that they will be realized. In the three months ended December
31, 2002, we provided a full valuation allowance for our net deferred tax
assets. As of June 30, 2004, we continue to maintain a full valuation allowance
against our net deferred tax assets.
INTANGIBLE ASSETS. Our purchased intangible assets total $98,000 as of
June 30, 2004. We are required to reduce the carrying value of these assets
whenever events or changes in circumstances indicate that the carrying value of
these assets may not be recoverable. In order to make such adjustments, we are
required to make assumptions about the value of these assets in the future
including future prospects for earnings and cash flows of the businesses
underlying these investments. Judgments and assumptions about the future are
complex, subjective and can be affected by a variety of factors including
industry and economic trends, our market position and the competitive
environment in which we operate. Although we believe our judgments and
assumptions are reasonable and appropriate, different judgments and assumptions
could materially impact our reported financial results.
OVERVIEW
We are a provider of advanced verification systems for existing and
emerging digital communications standards such as Bluetooth, Fibre Channel,
1394, InfiniBand, PCI Express, SCSI, Serial ATA, Serial Attached SCSI and USB.
Our products are used by semiconductor, computer systems, software, data
storage, communications, automotive and aerospace companies at each phase of
their products' lifecycles from development through production and market
deployment. Our verification systems consist of development and production
products that accurately monitor communications traffic and diagnose operational
problems to ensure that products comply with standards and operate with other
devices. We currently outsource most of the manufacturing of our products so
that we may concentrate our resources on the design, development and marketing
of our existing and new products.
We report our revenue and gross profit in two business segments:
development products and production products. In the three months ended June 30,
2004, revenue from our development products was $4.7 million and revenue from
our production products was $242,000. Historically, we have generated a majority
of our revenue from products for the USB standard. We anticipate that revenue
from sales of our USB products will decrease as the markets for our USB products
mature. Consequently, we rely on our ability to generate growth in revenue with
our new product offerings in other communications standards in order to offset
any decreases in revenues from the USB standard.
We sell our products to technology, infrastructure and application
companies through our direct sales force and indirectly through our distributors
and manufacturers' representatives. Historically, a substantial portion of our
revenue has been derived from customers outside of North America. In the three
months ended June 30, 2004, 42.6% of our revenue was derived from international
customers, of which 12.8% was derived from customers in Japan, 19.1% from
customers in other parts of Asia, and 10.6% from customers in Europe. All of our
revenue and accounts receivable are denominated in U.S. dollars. Although
seasonality affects many of our target markets, to date our revenue and
financial condition as a whole have not been materially impacted by seasonality.
However, as we continue to expand our product offerings into new markets,
seasonality effects may become material.
14
The development of emerging communications standards and technological
change has influenced and is likely to continue to influence our quarterly and
annual revenue and results of operations. Our future revenue is dependent upon
the continued growth in capital spending by our existing and potential customers
for our types of products. Our product development and marketing strategies are
focused on working closely with promoter companies and communications standards
groups to gain early access to new communications standards and technologies. We
invest heavily in the research, development and marketing of our products for
emerging communications standards, often before these standards have gained
widespread industry acceptance and before we generate revenue related to these
investments. Additionally, the adoption rates for our new products by customers
in our target markets are unpredictable and subject to substantial risks, most
of which are beyond our control. Accordingly, if the markets for our new
products do not materialize or materialize later than we expect, our ability to
sustain or increase revenue may be harmed.
RESULTS OF OPERATIONS
The following table presents selected consolidated financial data for the
periods indicated as a percentage of revenue:
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
----------------- -----------------
2004 2003 2004 2003
---- ---- ---- ----
Consolidated Statement of Operations Data:
Revenue .................................. 100.0% 100.0% 100.0% 100.0%
Cost of Revenue .......................... 17.6 20.7 17.7 20.7
----- ----- ----- -----
Gross profit ...................... 82.4 79.3 82.3 79.3
----- ----- ----- -----
Operating expenses:
Research and development ............... 32.0 33.8 33.4 37.1
Sales and marketing .................... 30.9 31.5 29.3 33.4
General and administrative ............. 12.1 15.4 13.4 17.9
Amortization of purchased intangibles .. 0.5 0.7 0.5 0.7
----- ----- ----- -----
Total operating expenses .......... 75.5 81.4 76.6 89.1
----- ----- ----- -----
Income (loss) from operations ............ 6.9 (2.0) 5.7 (9.8)
Other income, net ........................ 4.4 5.1 3.9 5.0
----- ----- ----- -----
Income (loss) before income taxes ........ 11.3 3.1 9.6 (4.8)
Income taxes ............................. 0.0 0.0 0.0 0.0
----- ----- ----- -----
Net income (loss) ........................ 11.3% 3.1% 9.6% (4.8)%
===== ===== ===== =====
RESULTS OF OPERATIONS IN THE QUARTERS ENDED JUNE 30, 2004 AND 2003
Revenue. Our revenue was $4.9 million in the three months ended June 30,
2004, compared to $3.9 million in the three months ended June 30, 2003, an
increase of 27.0%. New product revenue increases of $1.5 million were partially
offset by decreases in sales of certain existing products of $442,000. The
decrease in sales of existing products was primarily the result of decreased
sales of certain InfiniBand products and reduced demand for certain SCSI
development products due to the maturity and stability of the protocol. Going
forward, we expect continuing declines in certain USB and SCSI development and
USB production product revenues as these communication standards continue to
mature. Revenue from international customers represented 42.6% of revenue in the
three months ended June 30, 2004 and 50.5% of revenue in the three months ended
June 30, 2003.
Cost of Revenue and Gross Profit. Our gross profit was $4.0 million in the
three months ended June 30, 2004 compared to $3.1 million in the three months
ended June 30, 2003, an increase of 32.0%. Our gross margin percentage was 82.4%
in the three months ended June 30, 2004 and 79.3% in the three months ended June
30, 2003. The increase in gross margin percentage was primarily the result of an
increase in development product sales as a percentage of total revenue and
reduced manufacturing costs of certain products. Our higher margin business
segment, development products, increased as a percentage of total revenue by
2.4%.
15
Research and Development. Our research and development expenses were $1.6
million in the three months ended June 30, 2004 compared to $1.3 million in the
three months ended June 30, 2003, an increase of 20.5%. Research and development
expenses represented 32.0% of revenue in the three months ended June 30, 2004
and 33.8% of revenue in the three months ended June 30, 2003. Research and
development expenses for the three months ended June 30, 2003 include $53,000 of
amortization of deferred stock-based compensation. There were no similar
expenses in the three months ended June 30, 2004. The increase in expenses was
primarily due to increased personnel and related costs of approximately
$253,000. In addition, as a result of a reorganization of our technical services
department approximately $120,000 for certain customer service costs were
included in research and development expenses for the three months ended June
30, 2004. Such customer service costs were included in sales and marketing
expenses prior to the first three months of 2004. The percentage of revenue
decrease for the three months ended June 30, 2004 was primarily due to increased
revenues partially offset by the increase in expenses noted in this paragraph
when compared to the three months ended June 30, 2003.
Sales and Marketing. Our sales and marketing expenses were $1.5 million in
the three months ended June 30, 2004 compared to $1.2 million in the three
months ended June 30, 2003, an increase of 24.8%. Sales and marketing expenses
represented 30.9% of revenue in the three months ended June 30, 2004 and 31.5%
in the three months ended June 30, 2003. Sales and marketing expenses for the
three months ended June 30, 2003 include $21,000 of amortization of deferred
stock-based compensation. There were no similar expenses in the three months
ended June 30, 2004. The increase in expenses was primarily due to an increase
in the commissions earned by our manufacturers' representatives of $189,000 and
increased consulting costs of $115,000, partially offset by a reduction of
approximately $120,000 for certain customer service costs that were included in
sales and marketing expenses prior to the first three months of 2004 and are now
included in research and development expenses.
General and Administrative. Our general and administrative expenses were
$590,000 in the three months ended June 30, 2004 compared to $592,000 in the
three months ended June 30, 2003. General and administrative expenses
represented 12.1% of revenue in the three months ended June 30, 2004 and 15.4%
in the three months ended June 30, 2003. General and administrative expenses for
the three months ended June 30, 2003 include $7,000 of amortization of deferred
stock-based compensation. There were no similar expenses in the three months
ended June 30, 2004. The percentage of revenue decrease for the three months
ended June 30, 2004, when compared to the three months ended June 30, 2003, was
primarily due to the impact of increased revenues.
Other Income. Other income was $218,000 in the three months ended June 30,
2004 compared to $198,000 in the three months ended June 30, 2003, an increase
of 10.1%. This increase resulted from increased interest income earned on the
investment of excess cash balances, primarily associated with higher interest
rates earned on increased investment in instruments with longer maturities.
Income Taxes. We have incurred no provision for income taxes for the
quarters ended June 30, 2004 and June 30, 2003. As of June 30, 2004, we continue
to maintain a full valuation allowance against our net deferred tax assets, as
we have determined that it is more likely than not that such amounts will not be
realized through taxable income from future operations or by carry-back to prior
years' taxable income.
RESULTS OF OPERATIONS IN THE SIX MONTHS ENDED JUNE 30, 2004 AND 2003
Revenue. Our revenue was $9.5 million in the six months ended June 30,
2004, compared to $7.1 million in the six months ended June 30, 2003, an
increase of 34.0%. New product revenue increases of $2.9 million were partially
offset by decreases in sales of certain existing products of $430,000. The
decrease in sales of existing products was primarily the result of decreased
sales of certain InfiniBand products, reduced demand for certain SCSI
development products due to the maturity and stability of the protocol and
reduced demand for USB production products due to the maturity and stability of
the protocol components incorporated into end-user products. Revenue from
international customers represented 48.3% of revenue in the six months ended
June 30, 2004 and 55.5% of revenue in the six months ended June 30, 2003.
Cost of Revenue and Gross Profit. Our gross profit was $7.9 million in the
six months ended June 30, 2004 compared to $5.6 million in the six months ended
June 30, 2003, an increase of 39.1%. Our gross margin percentage was 82.3% in
the six months ended June 30, 2004 and 79.3% in the six months ended June 30,
2003. The increase in gross margin percentage was primarily the result of an
increase in development product sales as a percentage of total revenue and
reduced manufacturing costs of certain products. Our higher margin business
segment, development products, increased as a percentage of total revenue by
5.6%.
16
Research and Development. Our research and development expenses were $3.2
million in the six months ended June 30, 2004 compared to $2.6 million in the
six months ended June 30, 2003, an increase of 20.8%. Research and development
expenses represented 33.4% of revenue in the six months ended June 30, 2004 and
37.1% of revenue in the six months ended June 30, 2003. Research and development
expenses for the six months ended June 30, 2004 and June 30, 2003 include
$19,000 and $85,000 of amortization of deferred stock-based compensation,
respectively. The increase in expenses was primarily due to increased personnel
and related costs of approximately $537,000. In addition, as a result of a
reorganization of our technical services department approximately $230,000 for
certain customer service costs were included in research and development
expenses for the six months ended June 30, 2004. Such customer service costs
were included in sales and marketing expenses prior to the first six months of
2004. The percentage of revenue decrease for the six months ended June 30, 2004
was primarily due to the impact of increased revenues partially offset by the
increase in expenses noted in this paragraph when compared to the six months
ended June 30, 2003.
Sales and Marketing. Our sales and marketing expenses were $2.8 million in
the six months ended June 30, 2004 compared to $2.4 million in the six months
ended June 30, 2003, an increase of 17.7%. Sales and marketing expenses
represented 29.3% of revenue in the six months ended June 30, 2004 and 33.4% of
revenue in the six months ended June 30, 2003. Sales and marketing expenses for
the six months ended June 30, 2004 and June 30, 2003 include $2,000 and $40,000
of amortization of deferred stock-based compensation, respectively. The increase
in expenses was primarily due to an increase in the commissions earned by our
manufacturers' representatives of $290,000 and increased personnel and related
costs of approximately $77,000, partially offset by a reduction of approximately
$230,000 for certain customer service costs that were included in sales and
marketing expenses prior to the first three months of 2004 and are now included
in research and development expenses. The percentage of revenue decrease for the
six months ended June 30, 2004 was primarily due to the impact of increased
revenues partially offset by the increase in expenses noted in this paragraph
when compared to the six months ended June 30, 2003.
General and Administrative. Our general and administrative expenses were
$1.3 million in the six months ended June 30, 2004 and in the six months ended
June 30, 2003. General and administrative expenses represented 13.4% of revenue
in the six months ended June 30, 2004 and 17.9% in the six months ended June 30,
2003. General and administrative expenses for the six months ended June 30, 2004
and June 30, 2003 include $5,000 and $15,000 of amortization of deferred
stock-based compensation, respectively The percentage of revenue decrease for
the six months ended June 30, 2004 was primarily due to the impact of increased
revenues when compared to the six months ended June 30, 2003.
Other Income. Other income was $376,000 in the six months ended June 30,
2004 compared to $359,000 in the six months ended June 30, 2003, an increase of
4.7%. This increase resulted from increased interest income earned on the
investment of excess cash balances, primarily associated with higher interest
rates earned on increased investment in instruments with longer maturities.
Income Taxes. We have incurred no provision for income taxes for the six
months ended June 30, 2004 and June 30, 2003. As of June 30, 2004, we continue
to maintain a full valuation allowance against our net deferred tax assets, as
we have determined that it is more likely than not that such amounts will not be
realized through taxable income from future operations or by carry-back to prior
years' taxable income.
LIQUIDITY AND CAPITAL RESOURCES
Generally, we expect our operating cash flow requirements to increase in
the future in connection with the expanding scope and level of our activities.
Since our inception, we have financed our operations primarily through cash
flows from operating activities. In November 2000, we received net proceeds of
$38.3 million from the initial public offering of our Common Stock.
In the six months ended June 30, 2004, cash provided by operating
activities of $1.7 million was primarily the result of net income of $913,000,
non-cash expenses associated with depreciation of $316,000, decreases in related
assets and liabilities for working capital purposes of $199,000, amortization of
premium on investments of $160,000, amortization of acquired intangibles of
$52,000, amortization of deferred stock based compensation of $32,000, and
amortization of other acquired developed technology of $17,000. Cash used in
investing activities was $18.0 million, primarily relating to the purchase of
long-term investments of $15.9 million, the purchase of short-term investments
of $2.6 million and capital expenditures of $528,000, partially offset by the
sale of short-term investments of $1.1 million. Cash provided by financing
activities was $366,000, consisting of proceeds from the exercise of stock
options of $239,000 and the sale of stock pursuant to our employee stock
purchase plan of $127,000.
17
In the six months ended June 30, 2003, cash used in operating activities
of $256,000 was primarily the result of our net loss of $343,000 and a decrease
in related assets and liabilities for working capital purposes of $800,000,
offset by non-cash expenses associated with depreciation expenses of $397,000,
amortization of premium on short-term investments of $262,000, amortization of
deferred stock-based compensation of $158,000, amortization of other purchased
intangibles of $52,000 and the amortization of other acquired developed
technology of $18,000. Cash provided by investing activities was $358,000,
related to the sale of short-term investments of $4.9 million and other
long-term assets of $120,000, offset by the purchase of short-term investments
of $4.4 million and capital expenditures of $270,000. Cash used in financing
activities was $250,000, consisting of repurchases of common stock of $465,000,
offset by the proceeds from the exercise of stock options of $145,000 and the
sale of stock pursuant to our employee stock purchase plan of $70,000.
As of June 30, 2004, we had cash, cash equivalents and investments of
$45.6 million, working capital of $21.5 million and no debt. We have no capital
lease obligations, and we had future minimum lease payments under our operating
leases of approximately $1.5 million.
We believe that our current cash, cash equivalents and short-term
investments, together with funds generated from operations, will be sufficient
to meet our working capital and capital expenditure requirements for the next 12
months. In the future, we may find it necessary to obtain additional equity or
debt financing. If we desire to raise additional funds, we may not be able to do
so on acceptable terms or at all. In addition, if we issue new securities,
stockholders might experience dilution and the holders of the new securities
might have rights, preferences or privileges senior to those of existing
stockholders.
RISK FACTORS
Stated below, elsewhere in this Quarterly Report, and in other documents
we file with the Securities and Exchange Commission (SEC) are risks and
uncertainties that could cause actual results to differ materially from the
results contemplated by the forward-looking statements contained in this report.
The occurrence of any of the developments or risks identified below may make the
occurrence of one or more of the other risk factors below more likely to occur.
RISKS RELATED TO OUR BUSINESS
OUR FUTURE OPERATING RESULTS ARE UNPREDICTABLE AND LIKELY TO FLUCTUATE FROM
QUARTER TO QUARTER. IF WE FAIL TO MEET THE EXPECTATIONS OF SECURITIES ANALYSTS
OR INVESTORS, OUR STOCK PRICE WILL LIKELY DECLINE SIGNIFICANTLY.
Our quarterly and annual operating results have fluctuated in the past and
are likely to fluctuate significantly in the future due to a number of factors,
some of which are wholly or partially outside our control. Accordingly, we
believe that period-to-period comparisons of our results of operations should
not be relied upon as indications of future performance. Some of the factors
that could cause our operating results to fluctuate include:
o changes in the volume of our product sales;
o changes in the average selling prices of our products;
o the timing, reduction, or deferral of customer orders or purchases;
o seasonality in some of our target markets;
o competitive product announcements;
o the amount and timing of our operating expenses and capital
expenditures;
o the effectiveness of our manufacturing cost reduction efforts;
o variability of our customers' product lifecycles;
o shifts in our sales toward lower-margin products; and
o cancellations, changes or delays of deliveries to us by our
manufacturers and suppliers.
If our operating results fall below the expectations of securities
analysts or investors, the trading price of our Common Stock will likely
decline, possibly significantly.
18
WE DEPEND UPON WIDESPREAD MARKET ACCEPTANCE OF OUR PRODUCTS, AND OUR RESULTS OF
OPERATIONS WILL SUFFER IF THE MARKET DOES NOT ACCEPT OUR PRODUCTS.
A significant percentage of our revenue derives from Universal Serial Bus
(USB) product sales. However, we expect a decline in USB product sales, due to
the maturity of the product line, that we expect will continue for the
foreseeable future. Factors that may affect our USB product sales include the
continued growth of markets for the development of USB compliant devices, the
performance and pricing of our USB products, and the availability, functionality
and price of competing products. Many of these factors are beyond our control.
Our future revenue growth relies on our ability to successfully design,
manufacture and sell new products into new and established markets. Competition
for product sales in these markets is typically intense and our competitors are
often firmly established. If we are unable to gain significant market share in
these markets, our ability to increase revenue is likely to be adversely
effected. If we are unable to grow revenue, our operating results will suffer,
and the trading price of our common stock may decline significantly.
IF WE FAIL TO KEEP PACE WITH RAPID TECHNOLOGICAL CHANGE AND EVOLVING INDUSTRY
STANDARDS, OUR PRODUCTS COULD BECOME LESS COMPETITIVE OR OBSOLETE.
The markets for our products are characterized by rapid technological
change, frequent new product introductions, changes in customer requirements and
evolving industry standards. We may cease to be competitive if we fail to timely
introduce new products or product enhancements that address these factors. To
continue to introduce new products and product enhancements on a timely basis,
we must:
o quickly identify emerging technological trends in our target
markets, including new communications standards;
o accurately define and design new products or product enhancements to
meet market needs;
o develop or license the underlying core technologies necessary to
create new products and product enhancements; and
o respond effectively to technological changes and product
introductions by our competitors.
If we fail to timely identify, develop, manufacture, market or support new
or enhanced products successfully, our competitors could gain market share, or
our new or enhanced products might not gain market acceptance.
NEW OR ENHANCED PRODUCT DEVELOPMENT DELAYS COULD HARM OUR OPERATING RESULTS AND
OUR COMPETITIVE POSITION.
The development of new, technologically advanced products is a complex and
uncertain process requiring high levels of innovation, highly skilled
engineering and development personnel and accurate anticipation of technological
and market trends. Consequently, product development delays are typical in our
industry. If we fail to timely introduce a product for an emerging standard,
customers may defer or cancel orders on existing products expecting the release
of a new or enhanced product, and our operating results could suffer. Product
development delays may result from numerous factors, including:
o changing product specifications and customer requirements;
o unanticipated engineering complexities;
o difficulties with or delays by contract manufacturers or suppliers
of key components or technologies;
o difficulties in allocating engineering resources and overcoming
resource limitations; and
o difficulties in hiring and retaining necessary technical personnel.
IF WE DEVOTE RESOURCES TO DEVELOPING PRODUCTS FOR EMERGING COMMUNICATIONS
STANDARDS THAT ULTIMATELY ARE NOT WIDELY ACCEPTED, OUR BUSINESS COULD BE HARMED.
Our future growth depends upon our ability to develop, manufacture and
sell in volume advanced verification systems for existing, emerging and yet
unforeseen communications standards. We have little or no control over the
conception, development or adoption of new standards. Moreover, even as it
relates to currently emerging standards, the markets are rapidly evolving and we
have virtually no ability to impact the adoption of those standards.
Consequently, there is significant uncertainty as to whether markets for new and
emerging standards ultimately will develop at all or, if they do develop, their
potential size or future growth rate. We may incur significant expenses and
dedicate significant time and resources to develop products for standards that
fail to gain broad acceptance. For example, we spent four years from 1992 to
1995 developing products for the ACCESS.bus technology, a standard designed to
connect peripheral devices to computers, which did not gain market acceptance.
Failure of a standard for which we devote substantial resources to gain
widespread acceptance would likely harm our business.
19
INCREASED COMPETITION, NEW PRODUCT INTRODUCTIONS BY COMPETITORS, AND OUR ENTRY
INTO NEW AND ESTABLISHED MARKETS MAY DECREASE THE AVERAGE SELLING PRICES OF OUR
PRODUCTS, REVENUE AND MARKET SHARE.
The markets for advanced verification products for emerging communications
standards are highly competitive. We compete with numerous companies in each of
our various markets, and we expect the number of competitors, some of which may
be current customers, and the intensity of competition to increase. Any of these
existing or future competitors may have substantially greater financial,
technical, marketing and distribution resources and brand name recognition. If
companies develop competing products or form alliances with or acquire companies
offering competing products, any of which address our target markets more
effectively or at a lower cost, even if those products do not have capabilities
comparable to our products, they could be formidable competitors.
We continue to experience increased competition in our principal markets
and, as we expand our product portfolio into other new and existing markets, we
expect to encounter similar competitive forces in those markets. Increased
competition could result in significant price erosion, reduced revenue, lower
margins and loss of market share, any of which would significantly harm our
business. As a result, we anticipate that the average selling prices of our
products will decrease in the future in response to such things as product
introductions or enhancements by us or our competitors, product discounting on
volume purchase orders or additional pricing pressures. We believe we must
continue to timely develop and introduce new products that can be sold at higher
average selling prices. Failure to do so would likely cause our revenue and
gross margins to decline.
WE CONTINUE TO FACE UNCERTAINTY RELATING TO ECONOMIC CONDITIONS AFFECTING OUR
CUSTOMERS.
We face uncertainty in the degree to which the current global economic
climate will continue to negatively affect growth and capital spending by our
existing and potential customers. We continue to experience instances of
customers delaying or deferring orders and longer lead times to close sales. If
global economic conditions do not improve, or if they worsen, our business,
operating results and financial condition will be adversely impacted.
VARIATIONS IN OUR REVENUE MAY CAUSE FLUCTUATIONS IN OUR OPERATING RESULTS.
We may experience delays generating or recognizing revenue for a number of
reasons. Historically, we carry little backlog and our revenue in any quarter
has depended upon orders booked and shipped in that quarter. Customers may delay
scheduled delivery dates and cancel orders without significant penalty. In
addition, even if we ship orders, generally accepted accounting principles may
require us to defer recognition of revenue until a later date. Because we budget
our operating expenses on anticipated revenue trends and a high percentage of
our expenses are fixed in the short term, any delay in generating forecasted
revenue could have a significant negative impact on our operating results.
IF WE FAIL TO MAINTAIN AND EXPAND OUR RELATIONSHIPS WITH THE CORE OR PROMOTER
COMPANIES IN OUR TARGET MARKETS, WE MAY HAVE DIFFICULTY DEVELOPING AND MARKETING
OUR PRODUCTS.
It is important to our success to establish, maintain and expand our
relationships with technology and infrastructure leader companies developing
emerging communications standards in our target markets. We believe we must work
closely with these companies to gain valuable insights into new market demands,
obtain early access to standards as they develop and help us design new or
enhanced products. Generally, we do not enter into contracts obligating these
companies to work or share their technology. Industry leaders could choose to
work with other companies in the future. If we fail to establish, maintain and
expand our industry relationships, we could lose first-mover advantage with
respect to emerging standards, and it would likely be more difficult for us to
develop and market products that address these standards.
20
OUR EXECUTIVE OFFICERS, DIRECTORS, PHILIPS SEMICONDUCTORS AND CERTAIN ENTITIES
AFFILIATED WITH THEM OWN A LARGE PERCENTAGE OF OUR VOTING STOCK, WHICH COULD
HAVE THE EFFECT OF DELAYING OR PREVENTING A CHANGE IN OUR CONTROL.
As of July 31, 2004, our executive officers, directors, Philips
Semiconductors and certain entities affiliated with or beneficially controlled
by them owned approximately 7,165,842 shares or approximately 36.41% of our
outstanding shares of common stock, excluding 398,047 shares of common stock
held in our treasury acquired primarily pursuant to our Stock Repurchase
Program. These stockholders, acting together, can exercise significant control
regarding matters requiring stockholder approval, including the election or
removal of directors and the approval of mergers or other business combination
transactions. This concentration of ownership could have the effect of delaying
or preventing a change in our control or otherwise discouraging potential
acquirers from attempting to obtain control, which in turn could have an adverse
effect on the market price of our common stock or prevent our stockholders from
realizing a premium over the market price for their shares of common stock. Our
repurchase of shares of our common stock pursuant to our Stock Repurchase
Program discussed under the caption in "Part I, Item 1, Note 12" in our annual
report on Form 10-K for the year ended December 31, 2003, filed with the
Securities and Exchange Commission (SEC) on February 20, 2004, as amended by our
Form 10-K/A filed with the SEC on March 3, 2004, may increase their control over
us.
A TRANSITION IN OUR MANAGEMENT COULD CAUSE SUBSTANTIAL DISRUPTIONS TO OUR
BUSINESS AND OPERATIONS.
On July 22, 2004, we announced the retirement of one of our co-founders
and our Chief Executive Officer, Dan Wilnai and new appointments to the
executive management team and Board of Directors. President and Chief Financial
Officer, Carmine Napolitano, was promoted and given the additional title of
Chief Executive Officer along with his appointment to the Board of Directors.
Former Director of Finance and Administration, Jason LeBeck was promoted to Vice
President and Chief Financial Officer, and John T. Rossi, Vice President of
Finance and Chief Financial Officer of OmniVision Technologies, Inc. was
appointed to the Board of Directors. Substantial disruptions to our business and
operations may still occur during this transition.
INCREASED COSTS ASSOCIATED WITH CORPORATE GOVERNANCE COMPLIANCE MAY
SIGNIFICANTLY IMPACT OUR RESULTS OF OPERATIONS.
The Sarbanes-Oxley Act of 2002 (the "Act") requires changes in some of our
corporate governance and securities disclosure or compliance practices. That Act
also requires the SEC to promulgate new rules on a variety of subjects, in
addition to rule proposals already made, and Nasdaq has revised and continues to
revise its requirements for Nasdaq-listed companies. We expect these
developments to increase our legal compliance and financial reporting costs. We
also expect these developments to make it more difficult and expensive to obtain
director and officer liability insurance, and may cause us to accept reduced
coverage or incur substantially higher premiums to obtain coverage.
These developments could make it more difficult for us to attract and
retain qualified members on our board of directors, or qualified executive
officers. We are presently evaluating and monitoring regulatory developments and
cannot estimate the timing or magnitude of additional costs. To the extent these
costs are significant, our general and administrative expenses are likely to
increase as a percentage of revenue, which would negatively impact our results
of operations.
THE LOSS OF KEY MANAGEMENT PERSONNEL, ON WHOSE KNOWLEDGE, LEADERSHIP AND
TECHNICAL EXPERTISE WE RELY, COULD CAUSE SIGNIFICANT DISRUPTIONS IN OUR
OPERATIONS AND HARM OUR ABILITY TO EXECUTE OUR BUSINESS PLAN.
Our success depends heavily upon the continued contributions of our key
management personnel, whose knowledge, leadership and technical expertise may be
time-consuming and difficult to replace. Moreover, all of our personnel,
including our executive staff, are employed on an "at will" basis. We do not
maintain key person insurance on any of our personnel. If we were to terminate
or lose the services of any of our key personnel and were unable to timely hire
qualified replacements, our ability to execute our business plan would be
harmed. Even if we were able to hire qualified replacements, we would expect to
experience operational disruptions and inefficiencies. In addition, employees
who leave our company may subsequently compete against us.
OUR PRODUCTS MAY CONTAIN DEFECTS THAT CAUSE US TO INCUR SIGNIFICANT CORRECTIVE
COSTS, DIVERT OUR ATTENTION FROM PRODUCT DEVELOPMENT EFFORTS AND RESULT IN A
LOSS OF CUSTOMERS.
Highly complex products such as our verification systems frequently
contain defects when they are first introduced or as new versions are released.
If any of our products contain defects or have reliability, quality or
compatibility problems, our reputation may be damaged and customers may be
reluctant to buy our products. In addition, these defects could interrupt or
delay sales. We may have to invest significant capital and other resources to
alleviate these problems. If any problem remains undiscovered until after we
have commenced commercial production of a new product, we may be required to
incur additional development costs and product recall, repair or replacement
costs. These problems may also result in claims against us by our customers or
others. In addition, these problems may divert our technical and other resources
from other development efforts.
21
IF OUR DISTRIBUTORS AND MANUFACTURERS' REPRESENTATIVES DO NOT ACTIVELY SELL OUR
PRODUCTS, OUR PRODUCT SALES MAY DECLINE.
Historically, we have relied on manufacturers' representatives to sell our
products domestically and on distributors to sell our products internationally.
A substantial number of our products are sold through our distributors and
manufacturers' representatives. Our distributors and manufacturers'
representatives generally offer products from multiple manufacturers.
Accordingly, there is a risk that our distributors and manufacturers'
representatives may give higher priority to selling products from other
suppliers and reduce their efforts to sell our products. Our distributors and
manufacturers' representatives may not market our products effectively or
continue to devote the resources necessary to successfully sell, market and
support our products. Our distributors may on occasion build inventories in
anticipation of substantial growth in sales and, if growth does not occur as
rapidly as anticipated, they may subsequently decrease their product orders. A
slowdown in orders from our distributors or manufacturers' representatives could
reduce our revenue in any given quarter and cause fluctuations in our operating
results.
In addition, sales to our distributors are initiated by purchase orders
rather than long-term commitments. The loss of any major distributor, the delay
of significant orders from our distributors, or the failure of our distributors
to timely pay for products purchased could result in decreased or deferred
recognition of revenue.
IF WE ARE UNABLE TO EXPAND OUR DIRECT SALES OPERATIONS AND INDIRECT SALES
CHANNELS OR SUCCESSFULLY MANAGE OUR EXPANDED SALES ORGANIZATION, OUR OPERATIONS
MAY BE HARMED.
We intend to continue development and expansion of our direct sales
organization and our indirect distribution channels domestically and
internationally. Managing our sales organization and distribution channels has
become more complex as we have expanded both our product lines and our
geographic presence. As a result, it has also become increasingly critical that
we optimize our sales operations around complementary products and users. We may
be unable to expand our direct sales organization or distribution channels
successfully or manage them optimally, and the cost of any expansion may exceed
the revenue generated.
Moreover, our historical distribution channel strategy may not be
appropriate for the successful sale and marketing of our products in new target
markets. Consequently, in order to increase market share in those markets, we
may have to attempt new, creative and previously untested methodologies. These
new methodologies may be time-consuming to develop, difficult to implement, and
ultimately unsuccessful, which could negatively impact our revenues.
SHIFTS IN OUR PRODUCT MIX MAY RESULT IN DECLINES IN GROSS MARGINS.
Our gross margins vary by product, with gross margins generally higher on
our development products than our production products. Our overall gross margins
might fluctuate from period to period as a result of shifts in product mix and
the channels through which we sell our products, the introduction of new
products and product or changes in costs.
WE DEPEND ON CONTRACT MANUFACTURERS FOR SUBSTANTIALLY ALL OF OUR MANUFACTURING
REQUIREMENTS AND IF THESE MANUFACTURERS FAIL TO PROVIDE US WITH ADEQUATE
SUPPLIES OF HIGH-QUALITY PRODUCTS, OUR COMPETITIVE POSITION, REPUTATION AND
BUSINESS COULD BE HARMED.
We currently rely on four contract manufacturers for all of our
manufacturing requirements other than final assembly, testing and quality
assurance on our lower volume, higher margin products. We do not have long-term
contracts with any of these manufacturers. All purchase commitments and
obligations between us and our contract manufacturers are on a purchase order
basis. As a result, our manufacturers could refuse to continue to manufacture
all or some of our products or attempt to change the terms under which they
manufacture our products. Previously, we experienced delays in product shipments
from some of our manufacturers, which forced us to delay product shipments to
customers. We may experience similar future delays or other problems, such as
inferior quality and insufficient quantity of products, any of which could
significantly harm our business. We intend to introduce new products and product
enhancements regularly, which will require that we rapidly achieve volume
production by coordinating our efforts with those of our suppliers and contract
manufacturers. The inability of our manufacturers to provide adequate supplies
of high quality products or the loss of any manufacturer could cause a delay in
our ability to timely fulfill orders.
22
ANY ACQUISITIONS THAT WE UNDERTAKE COULD BE DIFFICULT TO INTEGRATE, DISRUPT OUR
BUSINESS, DILUTE STOCKHOLDER VALUE AND HARM OUR OPERATING RESULTS.
We expect to continue to review opportunities to acquire other businesses
or technologies that complement our current products, expand our markets,
enhance our technical capabilities or otherwise offer growth opportunities. If
we make any acquisitions, we could issue stock that would dilute the percentage
ownership of our existing stockholders, incur substantial debt or assume
contingent liabilities. For example, we issued 360,000 shares of our common
stock in connection with our acquisition of Verisys in June 2002. In addition,
in the three months ended September 30, 2002, we recorded a goodwill impairment
of $1.4 million, and a partial impairment write-down of $194,000 for purchased
intangible assets from our purchase of Verisys. Moreover, the Verisys
acquisition and other potential acquisitions involve numerous risks, including:
o assimilating the purchased operations, technologies or products;
o costs or accounting charges associated with the acquisition;
o diversion of management's attention from our existing business;
o adverse effects on existing business relationships with suppliers
and customers;
o entering markets in which we have little or no prior experience; and
o potential loss of key employees of purchased businesses.
IF WE FAIL TO ACCURATELY FORECAST OUR SUPPLY NEEDS, OUR COSTS MAY INCREASE OR WE
MAY BE UNABLE TO TIMELY SHIP PRODUCTS.
We purchase components used in the manufacture of our products from
several key sources. We depend on these sources to timely deliver components
based on twelve-month rolling forecasts that we provide. Lead times for
materials and components vary significantly and depend on factors such as
specific supplier requirements, contract terms and current market demand. We
believe that as the economy expands the demand for certain key components used
in our products will increase such that we may need to order larger quantities
of these components earlier than forecasted or risk delays in product shipments
to our customers. If we overestimate our component requirements, we may develop
excess inventory, increasing costs. If we underestimate our requirements, we may
be unable to timely fulfill orders.
WE DEPEND ON SOLE SOURCE SUPPLIERS FOR SEVERAL KEY PRODUCT COMPONENTS, AND WE
MAY LOSE SALES IF THEY FAIL TO TIMELY MEET OUR NEEDS.
We obtain some parts, components and packaging used in our products from
sole sources of supply. If these suppliers are unable to meet our demand for
components at reasonable costs or if we are unable to obtain an alternative
source at an equivalent price, our ability to timely and cost-effectively ship
products will be harmed. In addition, because we rely on purchase orders rather
than long-term contracts with our sole source suppliers, we cannot predict with
certainty our ability to obtain components over the long term. Furthermore,
qualifying additional suppliers could be time-consuming, expensive, and may
increase the likelihood of errors or defects. If we are unable to obtain
components or receive a smaller allocation of components than necessary to meet
demand, customers could choose to purchase competing products.
IF WE ARE UNABLE TO RETAIN AND MOTIVATE OUR PERSONNEL, OUR OPERATIONS WILL BE
IMPAIRED.
To be successful and maintain a high level of quality, we will need to
retain and motivate highly skilled personnel. If we are unable to retain a
sufficient number of qualified employees, our operations may be impaired. We may
have even greater difficulty retaining employees if employees perceive the
equity component of our compensation package to be less valuable as a result of
market fluctuations in the price of our common stock.
23
ECONOMIC, POLITICAL AND OTHER RISKS ASSOCIATED WITH INTERNATIONAL SALES AND
OPERATIONS COULD ADVERSELY AFFECT SALES.
Because we sell our products worldwide, our business is subject to risks
associated with doing business internationally. We recognized 42.6% of our
revenue from sales to international customers in the three months ended June 30,
2004. We anticipate that revenue from international operations will continue to
represent a substantial portion of our revenue. In addition, several of our
manufacturers' facilities and suppliers are located outside the United States of
America. Accordingly, our future results could be harmed by a variety of
factors, including:
o changes in a specific country's or region's political or economic
conditions, particularly in emerging markets;
o trade protection measures and import or export licensing
requirements;
o potentially negative consequences from changes in tax laws;
o difficulty in staffing and managing widespread operations;
o changes in foreign currency exchange rates;
o differing labor regulations;
o war, actual or threatened acts of terrorism, other international
conflicts and the resulting military, economic and political
responses (including, without limitation, war between sovereign
nations) as well as heightened security measures which may cause
significant disruption to commerce worldwide;
o limited protection of intellectual property in some international
markets; and
o unexpected changes in regulatory requirements.
IF WE FAIL TO MANAGE OUR OPERATIONS EFFECTIVELY, OUR BUSINESS COULD SUFFER.
Our ability to offer products and implement our business plan successfully
in a rapidly evolving market requires effective planning and management. Failure
by our management or personnel to properly allocate resources to meet our
current and future needs as well as unforeseen complications and inefficiencies
in planning our operations can adversely impact the morale of our personnel and
lead to further complications and operational inefficiencies. If this were to
occur, our profitability or financial position could be negatively impacted and
our operating results could suffer.
OUR HEADQUARTERS AND OUR CONTRACT MANUFACTURERS ARE LOCATED IN NORTHERN
CALIFORNIA, ASIA AND OTHER AREAS WHERE NATURAL DISASTERS MAY OCCUR.
Currently, our corporate headquarters and some of our contract
manufacturers are located in Northern California and our other contract
manufacturers are located in Asia. Northern California and Asia historically
have been vulnerable to natural disasters and other risks, such as earthquakes,
fires, floods, power loss and telecommunications failure, which at times have
disrupted the local economy and posed physical risks to our and our
manufacturers' properties. We do not have redundant, multiple site capacity in
the event of a natural disaster.
CLAIMS THAT WE INFRINGE THIRD-PARTY INTELLECTUAL PROPERTY RIGHTS COULD RESULT IN
SIGNIFICANT EXPENSES OR RESTRICTIONS ON OUR ABILITY TO SELL OUR PRODUCTS.
Our industry is characterized by uncertain and conflicting intellectual
property claims and frequent litigation, especially regarding patent rights. We
cannot be certain that our products do not or will not infringe issued patents
or the intellectual property rights of others. In fact, we expect that we will
be subject to infringement claims as the number of products and competitors in
our markets grows and the functionality of products further overlap.
Historically, patent applications in the United States of America have not been
publicly disclosed until the patent is issued, and we may not be aware of filed
patent applications that relate to our products or technology. If patents are
later issued in connection with these applications, we may be liable for
infringement. Periodically, other parties, including some of our competitors,
may assert patent, copyright and other rights to technologies in various
jurisdictions that are important to our business. Any claims asserting that our
products infringe or may infringe the rights of third parties, including claims
arising through our contractual indemnification of our customers, regardless of
their merit or resolution, would likely be costly and time-consuming, divert the
efforts of our technical and management personnel, cause product shipment delays
or require us to enter into royalty or licensing agreements. Royalty or
licensing agreements, if required, may not be available on terms acceptable to
us, or at all.
At present, we do not believe that our products infringe any other party's
intellectual property rights in any way that would have a material adverse
effect on our operations. However, if any material claims arise and if these
claims cannot be resolved through a license or similar arrangement, we could
become a party to litigation. The results of any litigation are inherently
uncertain. In the event of an adverse result in any litigation, we could be
required to pay substantial damages, including treble damages if we are held to
have willfully infringed, to cease the manufacture, use and sale of infringing
products, to expend significant resources to develop non-infringing technology,
or to obtain licenses to the infringing technology. In addition, lawsuits,
regardless of their success, would likely be time-consuming and expensive to
resolve and would divert management time and attention from our business.
24
ANY FAILURE TO PROTECT OUR INTELLECTUAL PROPERTY ADEQUATELY MAY SIGNIFICANTLY
HARM OUR BUSINESS.
We protect our proprietary processes, software, know-how and other
intellectual property and related rights through copyrights, patents, trademarks
and the maintenance of trade secrets, including entering into confidentiality
agreements. Our success and ability to compete depend in part on our proprietary
technology. However, we cannot provide any assurance that other companies will
not develop technologies that are similar to our technology. We currently have
three registered patents and three patent applications pending, although patents
may not issue as a result of these or other patent applications. Any patent may
be successfully challenged or invalidated, or may not provide us with a
significant competitive advantage. Despite our efforts to protect our
intellectual property rights, existing laws in the United States of America and
in differing international jurisdictions and our contractual arrangements
provide only limited protection. Unauthorized parties may attempt to copy or
otherwise obtain and use our products or technology. Third parties may breach
confidentiality agreements or other protective contracts with us, and we may not
be able to enforce our rights in the event of these breaches.
Monitoring the unauthorized use of our products is difficult and may be
expensive, and we cannot be certain that the steps we take will prevent
unauthorized use of our intellectual property, particularly in foreign countries
where the laws may not protect our proprietary rights as fully as in the United
States of America. We may incur substantial costs to protect our intellectual
property rights, including pursuing remedies in court. We may become involved in
legal proceedings against other parties, which may also cause other parties to
assert claims against us. In the future, we may be unable to detect
infringements and may lose competitive position in our markets before we do so.
In addition, competitors may design around our technologies or develop competing
technologies. The laws of other countries in which we market our products might
offer little or no effective protection of our proprietary technology. Reverse
engineering, unauthorized copying or other misappropriation of our proprietary
technology could enable third parties to benefit from our technology without
payment, which could significantly harm our business. Our failure to enforce and
protect our intellectual property rights or any adverse change in the laws
protecting intellectual property rights could harm our business.
CHANGES IN EXISTING LAWS OR REGULATIONS OR THE ENACTMENT OF NEW LAWS OR
REGULATIONS COULD IMPEDE PRODUCT SALES.
We and many of our customers and their products are subject to regulations
and standards set by the Federal Communications Commission (FCC).
Internationally, many of our customers and their products may also be required
to comply with regulations established by authorities in various countries. We
are required to determine to what extent our products may be subject to FCC
standards and regulations and to what extent we are required to obtain
certification from the FCC directly or from authorized third-parties. We are
also required to maintain in good standing any equipment certification we
receive from the FCC or an FCC-approved party. In addition, the regulations in
force both in the United States of America and in foreign jurisdictions may
change. Failure to comply with applicable regulations or to obtain timely
domestic or foreign regulatory approvals or certificates could significantly
harm our business.
RISKS RELATED TO OUR EQUITY
FUTURE SALES OF SUBSTANTIAL AMOUNTS OF OUR COMMON STOCK BY US OR BY OUR EXISTING
STOCKHOLDERS COULD CAUSE OUR STOCK PRICE TO FALL.
Additional equity financings or other share issuances by us could
adversely affect the market price of our common stock. Sales by existing
stockholders of a large number of shares of our common stock in the public
trading market (or in private transactions) including sales by our executive
officers, directors or Philips Semiconductors Inc. and the sale of shares issued
in connection with strategic alliances, or the perception that such additional
sales could occur, could cause the market price of our common stock to drop.
25
LOW DAILY TRADING VOLUMES FOR OUR COMMON STOCK MAY MAKE IT DIFFICULT TO PURCHASE
OR SELL OUR COMMON STOCK AND CAN RESULT IN SIGNIFICANT PRICE VOLATILITY.
The market price of our common stock has been highly volatile and is
likely to continue to be volatile. We receive only limited attention by
securities analysts, and there frequently occurs an imbalance between supply and
demand in the public trading market for our common stock due to limited trading
volumes. Investors should consider an investment in our common stock as risky
and should only purchase our common stock if they can withstand significant
losses. Factors affecting our common stock price include:
o fluctuations in our operating results;
o announcements of technological innovations or new commercial
products by us or our competitors;
o published reports by securities analysts;
o general market conditions;
o announcements by us or our competitors of significant acquisitions,
strategic partnerships or joint ventures;
o our cash position and cash commitments; and
o additions or departures of key personnel.
Additionally, some companies with volatile market prices for their
securities have been subject to securities class action lawsuits filed against
them. If a suit were to be filed against us, regardless of the merits or the
outcome, it could result in substantial costs and a diversion of our
management's attention and resources. This could have a material adverse effect
on our business, results of operations, financial condition and the price of our
common stock.
WE DO NOT ANTICIPATE PAYING DIVIDENDS FOR THE FORESEEABLE FUTURE.
We currently anticipate that all of our earnings, if any, will be retained
for development and expansion of our business. We do not anticipate paying any
cash dividends on our common stock in the foreseeable future.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The primary objectives of our investment activities are to preserve
principal and maximize the after-tax income we receive from our investments
without significantly increasing risk. Some of the securities in which we invest
may be subject to market risk. This means that a change in prevailing interest
rates may cause the principal amount of the investment to fluctuate. For
example, if we hold a security that was issued with an interest rate fixed at
the then-prevailing rate and interest rates later rise, the principal amount of
our investment will probably decline. We have the ability to hold our fixed
income investments until maturity, and therefore we would not expect to
recognize any adverse impact in income or cash flows in the event of rising
interest rates previously mentioned. Cash equivalents short-term investments and
long-term investments consist principally of investments in commercial paper,
investment quality corporate and municipal bonds, money market funds,
collateralized mortgage obligations, and U.S. government agency securities in
which we believe there is no material market risk exposure.
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this quarterly report, we carried
out an evaluation, under the supervision and with the participation of our Chief
Executive Officer (principal executive officer) and Chief Financial Officer
(principal financial officer), of the effectiveness of the design and operation
of our disclosure controls and procedures. Based on this evaluation, our Chief
Executive Officer and Chief Financial Officer concluded that our disclosure
controls and procedures are effective in timely alerting them to material
information required to be included in our periodic SEC filings. It should be
noted that the design of any system of controls is based in part upon certain
assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential
future conditions, regardless of how remote.
There have been no significant changes in our internal controls or in
other factors that could significantly affect internal controls subsequent to
our most recent evaluation of our internal controls.
26
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are not currently party to any material legal proceedings. However, we
are periodically subject to legal proceedings and claims that arise in the
ordinary course of business. While management currently believes the amount of
ultimate liability, if any, with respect to these actions will not materially
affect our financial position, results of operations, or liquidity, the ultimate
outcome of any litigation is uncertain. Were an unfavorable outcome to occur, or
if protracted litigation were to ensue, the impact could be material to the
Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Our 2004 annual meeting of stockholders was held on May 20, 2004. At the
meeting, our stockholders approved the following proposals presented to them
pursuant to the vote totals indicated next to each item:
Vote (No. of Shares)
--------------------
Proposal For Against/Withheld Abstain Broker Non-Votes
-------- --- ---------------- ------- ----------------
Election of Philip Pollok as a Class I Director 18,250,902 67,123 -- --
Ratification of PricewaterhouseCoopers LLP as independent 18,250,957 62,200 4,868 --
public accountants for fiscal year ended
December 31, 2004
As of May 20, 2004, Roger W. Johnson, Andrei Manoliu, Ph.D., Peretz
Tzarnotzky and Dan Wilnai were members of the Board of Directors whose terms of
office continued after the annual meeting of stockholders. On July 20, 2004, the
Board of Directors resolved to increase the size of the Board of Directors by
two additional seats and thereafter appointed John T. Rossi and Carmine J.
Napolitano to fill the vacancies on the Board of Directors.
27
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits.
EXHIBIT INDEX
EXHIBIT NO. DOCUMENT NAME
----------- -------------
3.1* Amended and Restated Certificate of Incorporation of the
Registrant.
3.2* Bylaws of the Registrant.
4.1* Specimen Certificate of the Registrant's common stock.
10.1* Form of Indemnification Agreement entered into between the
Registrant and its directors and executive officers.+
10.2* 1994 Stock Option Plan, as amended.+
10.3* 2000 Stock Option/Stock Issuance Plan.+
10.4* 2000 Stock Incentive Plan.+
10.5* 2000 Employee Stock Purchase Plan.+
10.6* Employment Agreement dated December 5, 1997, between Albert
Lee and the Registrant.+
10.7* Employment Agreement dated April 16, 2002, between Kevin
Fitzgerald and the Registrant.+
10.8* Employment Agreement dated July 22, 2002, between Carmine
Napolitano and the Registrant.+
31.1 Section 302 Certification of Principal Executive Officer.
31.2 Section 302 Certification of Principal Financial Officer.
32.1 Section 906 Certification of Principal Executive Officer.
32.2 Section 906 Certification of Principal Financial Officer.
* Previously filed as an exhibit, with the corresponding exhibit number, to
the Registrant's Registration Statement on Form S-1 (Registration No.
333-43866) as filed with the SEC on August 16, 2000, as subsequently
amended, and incorporated in this quarterly report by reference.
+ Denotes management contract or compensation plan, contract or arrangement.
b. Reports on Form 8-K
On July 22, 2004, we filed a Form 8-K disclosing our earnings for
the three months ended June 30, 2004.
On July 22, 2004, we filed a Form 8-K disclosing the resignation of
our Chief Executive Officer, Dan Wilnai, and new appointments to the
executive management team and Board of Directors.
28
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.
Date: August 13, 2004 COMPUTER ACCESS TECHNOLOGY CORPORATION
By: /s/ JASON B. LEBECK
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Jason B. LeBeck
Vice President, Chief Financial Officer
and Secretary (Principal Financial
Officer and Principal Accounting Officer)
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