===============================================================================================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
[X][ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED: FEBRUARY 28,AUGUST 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM
_____________ TO ____________
COMMISSION FILE NUMBER: 1-13402
INPUT/OUTPUT, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 22-2286646
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
11104 WEST AIRPORT BLVD., STAFFORD, TEXAS 77477
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Registrant's telephone number, including area code: (281) 933-3339
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][ X ] No [ ]
At February 28,August 31, 1999 there were 50,499,89850,669,031 shares of common stock, par value $0.01
per share, outstanding.
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INPUT/OUTPUT, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q
FOR THE QUARTER ENDED FEBRUARY 28,AUGUST 31, 1999
PART I. Financial Information. PagePAGE
----
Item 1. Financial Statements.
Consolidated Balance Sheets
February 28,August 31, 1999 and May 31, 1998...............................................1999................................................................. 2
Consolidated Statements of Operations
Three and nine months ended February 28,August 31, 1999 and 1998..........................1998..................................................... 3
Consolidated Statements of Cash Flows
NineThree months ended February 28,August 31, 1999 and 1998....................................1998..................................................... 4
Notes to Consolidated Financial Statements......................................... 6Statements......................................................... 5
Item 2. Management's Discussion and Analysis of Results of Operations and
Financial Condition..................................................... 11Condition..................................................................... 12
Item 3. Quantitative and Qualitative Disclosures about Market Risk................ 21Risk.................................. 22
PART II. Other Information.
Item 1. Legal Proceedings......................................................... 212. Changes in Securities and Use of Proceeds................................................... 22
Item 6. Exhibits and Reports on Form 8-K.......................................... 218-K............................................................ 24
1
INPUT/OUTPUT, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
ASSETS FEBRUARY 28, MayAUGUST 31, MAY 31,
1999 1998
----------- ---------1999
---------- --------
Current assets:
Cash and cash equivalents..........................................equivalents................................................. $ 36,85986,240 $ 72,27575,140
Trade accounts receivable, net..................................... 54,369 68,257net............................................ 19,247 21,617
Trade notes receivable, net........................................ 26,456 38,987net............................................... 20,882 21,907
Income taxes receivable............................................ 14,245 --receivable................................................... 11,223 15,000
Inventories, net................................................... 99,591 120,206net.......................................................... 90,582 95,825
Deferred income tax asset, net............................................ 25,751 27,568
Prepaid expenses................................................... 1,156 2,649expenses.......................................................... 1,993 1,495
-------- --------
Total current assets....................................... 232,676 302,374assets.............................................. 255,918 258,552
Long-term trade notes receivable................................... 20,051 32,487receivable, net..................................... 14,065 17,616
Deferred income tax asset, net..................................... 26,032 2,896net............................................ 23,364 18,739
Property, plant and equipment, net................................. 68,789 69,303net........................................ 62,347 62,979
Goodwill, net...................................................... 94,136 68,414net............................................................. 85,878 87,558
Other assets....................................................... 14,165 14,189assets.............................................................. 5,901 6,304
-------- --------
$455,849 $489,663
-------- --------
-------- --------Total assets...................................................... $447,473 $451,748
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable, principally trade................................trade.......................................... $ 9,0886,702 $ 33,10710,526
Current installments of long-term debt....................................... 1,046 9861,088 1,067
Accrued expenses .................................................. 28,559 20,521
Income taxes payable............................................... -- 8,139............................................................ 26,247 33,347
-------- --------
Total current liabilities.................................. 38,693 62,753liabilities........................................... 34,037 44,940
Long-term debt..................................................... 9,222 10,011debt............................................................... 8,667 8,947
Other liabilities.................................................. 838 1,199liabilities............................................................ 1,013 887
Commitments and contingencies
Stockholders' equity:
PreferredCumulative convertible preferred stock, $.01 par value; authorized
5,000,000 shares, none issued...................................................... --issued and outstanding 55,000 shares at August 31,
1999 and 40,000 shares at May 31, 1999 (liquidation value of
$55.1 million)......................................................... 1 --
Common stock, $.01 par value; authorized 100,000,000 shares;
issued 50,499,89850,669,031 shares at February 28,August 31, 1999 and 44,584,63450,663,358
shares at May 31, 1998........................................... 505 4461999................................................... 507 507
Additional paid-in capital......................................... 287,489 240,746capital................................................... 343,697 327,845
Retained earnings.................................................. 122,713 177,885earnings............................................................ 63,134 72,455
Accumulated other comprehensive earnings (loss).................... (2,764) (2,063)loss......................................... (3,327) (3,549)
Unamortized restricted stock compensation.......................... (847) (1,314)compensation.................................... (256) (284)
-------- --------
Total stockholders' equity................................. 407,096 415,700equity........................................ 403,756 396,974
-------- --------
$455,849 $489,663
-------- --------
-------- --------Total liabilities and stockholders' equity........................ $447,473 $451,748
======== ========
See accompanying notes to consolidated financial statements.
2
INPUT/OUTPUT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
(UNAUDITED)
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED
ENDED
FEBRUARY 28, FEBRUARY 28,
-------------------------- --------------------------AUGUST 31,
-------------------------
1999 1998
1999 1998
----------- ----------- ----------- --------------- ----
Net salessales.......................................................................... $ 37,75529,979 $ 95,266 $ 178,668 $ 281,91966,995
Cost of sales............................... 83,649 54,455 174,617 166,003
----------- -----------sales 23,994 44,716
----------- -----------
Gross profit (loss)............... (45,894) 40,811 4,051 115,916
----------- -----------profit............................................................. 5,985 22,279
----------- -----------
Operating expenses:
Research and development................. 12,493 8,122 31,606 23,738development........................................................ 7,203 9,242
Marketing and sales...................... 3,247 4,160 11,171 10,751sales............................................................. 2,881 4,013
General and administrative............... 29,963 6,572 44,398 21,082administrative...................................................... 6,914 6,419
Amortization of intangibles.............. 3,771 1,628 7,857 4,044
----------- -----------intangibles..................................................... 1,925 1,860
----------- -----------
Total operating expenses.......... 49,474 20,482 95,032 59,615
----------- -----------expenses................................................. 18,923 21,534
----------- -----------
Earnings (loss) from operations............ (95,368) 20,329 (90,981) 56,301operations.................................................... (12,938) 745
Interest expense............................ (229) (262) (688) (842)expense................................................................... (212) (242)
Other income ............................... 1,824 2,204 6,789 5,576
----------- -----------...................................................................... 1,034 2,843
----------- -----------
Earnings (loss) before income taxes......... (93,773) 22,271 (84,880) 61,035taxes................................................ (12,116) 3,346
Income taxes................................ (32,553) 7,127 (29,708) 19,532
----------- -----------tax (benefit) expense....................................................... (3,877) 1,071
----------- -----------
Net earnings (loss)......................... $ (61,220) $ 15,144 $ (55,172) $ 41,503 earnings................................................................ (8,239) 2,275
----------- -----------
Preferred stock dividend........................................................... 1,081 --
----------- -----------
----------- ----------- ----------- -----------Net (loss) earnings applicable to common
stockholders....................................................................... $ (9,320) $ 2,275
=========== ===========
Basic (loss) earnings (loss) per common share.......................................share............................................. $ (1.21)(0.18) $ 0.34 $ (1.15) $ 0.95
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------0.05
=========== ===========
Weighted average number of common
shares outstanding.......................... 50,499,898 44,157,319 47,848,166 43,758,807
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------outstanding................................................................. 50,667,007 44,585,501
=========== ===========
Diluted (loss) earnings (loss) per common share....share........................................... $ (1.21)(0.18) $ 0.34 $ (1.15) $ 0.94
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------0.05
=========== ===========
Weighted average number of diluted
common shares outstanding................... 50,499,898 44,564,745 47,848,166 44,257,576
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------outstanding.......................................................... 50,667,007 44,702,268
=========== ===========
See accompanying notes to consolidated financial statements.
3
INPUT/OUTPUT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINETHREE MONTHS ENDED
FEBRUARY 28,
-----------------------AUGUST 31,
---------------------
1999 1998
-------- ------------- ----
Cash flows from operating activities:
Net (loss) earnings (loss)....................................................... $(55,172)..................................................................... $ 41,503(8,239) $ 2,275
Adjustments to reconcile net (loss) earnings (loss) to net cash (used in)
provided byused in operating
activities:
Depreciation and amortization............................................. 15,662 12,096amortization ........................................................ 5,332 4,706
Amortization of restricted stock compensation............................. 467 154compensation ........................................ 28 156
Deferred income taxes..................................................... (23,416) 865
Pension costs............................................................. (347) 277
Provision for inventory obsolescense...................................... 48,834 930
Provision for receivables................................................. 19,147 2,850
Provision for cancellation of redundant facility lease.................... 943tax benefit .......................................................... (2,808) (823)
Inventory obsolescense expense ....................................................... 340 415
Bad debt expense and loan losses ..................................................... -- Impairment of fixed assets................................................ 1,874 --
Impairment of intangibles and other assets................................ 2,365 --
-------- ---------
10,357 58,675800
Changes in assets and liabilities, net of effect of acquisitions and
above provisions:
Receivables............................................................... 26,144 (22,908)
Inventories............................................................... (14,451) (8,874)Accounts and notes receivable ........................................................ 6,946 10,022
Inventories .......................................................................... 4,903 (5,597)
Leased equipment.......................................................... 1,837 3,355equipment ..................................................................... -- 335
Accounts payable and accrued expenses..................................... (20,257) 18,016expenses ................................................ (10,998) (15,216)
Income taxes payable...................................................... (22,384) 5,059
Other..................................................................... 44 (569)payable/receivable ...................................................... 3,777 (3,454)
Other ................................................................................ 273 (645)
-------- -----------------
Net cash (used in) provided byused in operating activities............... (18,710) 52,754activities .......................................... (446) (7,026)
Cash flows from investing activities:
Purchases of property, plant and equipment................................ (9,446) (4,363)
Acquisitionequipment ........................................... (3,046) (5,145)
Recovery of netother assets and business, net of cash acquired.............. (6,432) (10,803)
Investment in other assets................................................ (1,092) (324)............................................................. -- 146
-------- -----------------
Net cash used in investing activities............................. (16,970) (15,490)
- continued -
4
INPUT/OUTPUT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
activities .......................................... (3,046) (4,999)
Cash flows from financing activities:
Payments on debt......................................................... $ (729) $ (675)long-term debt ........................................................... (259) (237)
Proceeds from exercise of stock options.................................. 495 10,857
Proceedsoptions .............................................. 101 19
Preferred stock dividends ............................................................ (60) --
Net proceeds from issuance ofpreferred stock for the
Employee Stock Purchase Plan......................................... 534 465offering ........................................... 14,804 --
-------- -----------------
Net cash provided by (used in) financing activities........................ 300 10,647activities ............................ 14,586 (218)
Effect of change in foreign currency exchange rates ............................... (36) (137)on
cash and cash equivalents ............................................................ 6 (33)
-------- -----------------
Net increase (decrease) increase in cash and cash equivalents..................... (35,416) 47,774equivalents ................................. 11,100 (12,276)
Cash and cash equivalents at beginning of year...........................period ..................................... 75,140 72,275
2,573
-------- -----------------
Cash and cash equivalents at end of period.......................period ..................................... $ 36,85986,240 $ 50,347
-------- ---------
-------- ---------59,999
======== ========
See accompanying notes to consolidated financial statements.
54
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) GENERAL
The consolidated financial statements included herein have been
prepared by the Company, without audit, pursuant to the rules and regulations
of the Securities and Exchange Commission. The financial statements reflect
all adjustments (consisting of normal recurring accruals and the charges
described in Note 2) which are, in the opinion of management, necessary to
fairly present such information. Certain amounts previously reported in the
consolidated financial statements have been reclassified to conform to the
current year presentation. Although the Company believes that the disclosures
are adequate to make the information presented not misleading, certain
information and footnote disclosures, including significant accounting
policies, normally included in financial statements prepared in accordance
with generally accepted accounting principles have been omitted pursuant to
such rules and regulations. It is suggested that these financial statements
be read in conjunction with the consolidated financial statements and the
notes thereto, as well as Item 7. "Management's Discussion and Analysis of
Results of Operations and Financial Condition," included in the Company's
Annual Report on Form 10-K for the year ended May 31, 1998,1999, as filed with the
Securities and Exchange Commission.
(2) THIRDFIRST QUARTER CHARGES
During the thirdfirst quarter of 1999,fiscal 2000, the Company recorded pretax
charges totaling $85.7$4.7 million ($55.93.2 million after giving effect to income
taxes, or $1.11$0.06 per share) resulting, comprised of $3.3 million primarily related to
employee severance arrangements and the closing of the Company's Ireland
facility (included in general and administrative expenses) and charges of
$1.4 million for product-related warranties (included in cost of sales).
These charges resulted from continued reduced customer demand for the
Company's equipment asdue to the deterioration in energy industry conditions
over the past 12 months and, more specifically, in the seismic services
sector. This deterioration resulted from, among other things, a result of lowerwidespread
downturn in exploration activity due to a decline in energy prices from
October 1997 through February 1999, and consolidation among energy producers.
Despite a recent recovery in commodity prices, and oil company mergersenergy producers' concerns
over the sustainability of higher prices for hydrocarbon production resulted
in lower exploration budgets by energy companies, which have delayedhas resulted in
reduced demand for the Company's seismic data acquisition projects. This reduced demand has
created excess capacity withinequipment. As of
August 31, 1999 there was approximately $1.1 million of accrued severance
costs, all of which will be paid by the Company's installed base, accelerating the
obsolescenceend of certain of its seismic equipment. The total charge of $85.7
million included an impairment of long-lived assets and certain identifiable
intangibles of $4.2 million included in operating expenses; an inventory
write-down of $47.3 million due to the conditions described above and planned
product revisions, included in cost of sales; charges for the early
termination of a facility lease and restructuring costs totaling $2.6
million, included in general and administrative expenses; an accounts and
notes receivable allowance of $17.6 million related to a customer's vessel
seizure followed by filing for creditor protection and management's
assessment of business risk relating to three North American customer notes
as a result of the depressed market environment, included in general and
administrative expenses (see related discussion at Note 10 - Credit Risk);
and a charge for warranty reserves and other product related contingencies of
$14.0 million included in cost of sales.December 2000.
(3) INVENTORIES
Inventories are stated at the lower of cost (primarily first-in,
first-out) or market. A summary of inventories follows (in thousands):
FEBRUARY 28,AUGUST 31, May 31,
1999 1998
------------ ---------1999
---------- -------
Raw materials............................... $ 70,631 $ 68,824
Work-in-process............................. 8,167 25,262materials.................................. $53,442 $54,731
Work-in-process................................ 12,252 8,717
Finished goods.............................. 65,196 32,461
Inventory reserves.......................... (44,403) (6,341)
-------- --------
$ 99,591 $120,206
-------- --------
-------- --------goods................................. 39,329 48,624
------ ------
105,023 112,072
Less inventory reserves........................ 14,441 16,247
------ -------
$90,582 $95,825
======= =======
65
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
(UNAUDITED)
- CONTINUED -
(4) EARNINGS PER SHARE
The Company has adopted the Financial Accounting Standards Board
Statement of Financial Accounting Standards No. 128, "EarningsBasic (loss) earnings per Share". In
accordance with this pronouncement, basic earnings percommon share is computed by dividing net
(loss) earnings availableapplicable to common stockholders by the weighted average
number of common shares outstanding during the period. Diluted (loss)
earnings per common share is determined on the assumption that outstanding
dilutive stock options and other common stock equivalents have been exercised
and the aggregate proceeds as defined were used to reacquire Company common
stock using the average price of such common stock for the period.
The following table summarizes the calculation of net (loss) earnings
(loss) availableapplicable to common stockholders, weighted average number of common shares
outstanding and weighted average number of diluted common shares outstanding
for purposes of the computation of basic (loss) earnings per share.common share and
diluted (loss) earnings per common share (in thousands, except share and per
share amounts):
For the three months ended For the nine months ended
February 28, February 28,FOR THE THREE MONTHS ENDED
AUGUST 31,
-------------------------- ---------------------------
1999 1998 1999 1998
---------- ----------- ----------- ------------
1999 1998
---- ----
Net (loss) earnings........................................... $(8,239) $2,275
Preferred stock dividend...................................... 1,081 --
------- ------
Net (loss) earnings (loss) availableapplicable to common stockholders (in thousands)........................ $ (61,220) $ 15,144 $ (55,172) $41,503
----------- ----------- ----------- ------------
----------- ----------- ----------- ------------stockholders......... $(9,320) $2,275
======= ======
Weighted average number of common shares outstanding................................. 50,499,898 44,157,319 47,848,166 43,758,807outstanding.......... 50,667,007 44,585,501
Stock options......................................options................................................. -- 407,426 -- 498,769
----------- ----------- ----------- ------------116,767
Weighted average number of diluted
common shares outstanding.......................... 50,499,898 44,564,745 47,848,166 44,257,576
----------- ----------- ----------- ------------
----------- ----------- ----------- ------------outstanding..................................... 50,667,007 44,702,268
========== ==========
Basic (loss) earnings (loss) per common share............. $(1.21) $0.34 $(1.15) $0.95
----------- ----------- ----------- ------------
----------- ----------- ----------- ------------share........................ $(0.18) $0.05
======= =====
Diluted (loss) earnings (loss) per common share........... $(1.21) $0.34 $(1.15) $0.94
----------- ----------- ----------- ------------
----------- ----------- ----------- ------------share...................... $(0.18) $0.05
======= =====
At February 28,August 31, 1999 and 1998, there were 3,990,7134,588,813 and 930,000,3,558,393,
respectively, of shares subject to stock options that were not included in the
calculation of diluted (loss) earnings (loss) per common share, because to do so would
have been antidilutive. 7In addition, the cumulative convertible preferred stock
has not been considered in the computation of diluted (loss) earnings per common
share because the effect would be antidilutive.
6
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
(UNAUDITED)
- CONTINUED -
(5) STATEMENTS OF CASH FLOWS
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. The Company
does not use or intend to use derivative instruments. Exchange rate fluctuations
have not had a material effect on the Company's Consolidated Statements of Cash
Flows. As of August 31, 1999 and May 31, 1999, the Company had approximately
$8.2 million and $2.3 million, respectively, of certificates of deposit with one
month original maturities that were used to secure standby and commercial
letters of credit.
Supplemental disclosures of cash flow information for the ninethree months
ended February 28,August 31, 1999 and 1998 follow (in thousands):
1999 1998
---- ----
Cash paid (received) during the periods for:
Interest...................................Interest..................................... $ 688212 $ 892
------- ------
------- ------242
========= ======
Income taxes............................... $16,207 $7,947
------- ------
------- ------taxes................................. $ (3,352) $5,313
========= ======
Non-cash financing activities:
Dividends on preferred stock................. $ 1,021 $ --
========= ======
(6) LONG TERM DEBT
A Company subsidiary has a $12.6 million original principal amount,
ten-year term loan secured by certain of its land and buildings located in
Stafford, Texas which includes the Company's executive offices, research and
development headquarters, and electronics manufacturing facility. The term loan,
which the Company has guaranteed under a Limited Guaranty, bears interest at a
fixed rate of 7.875% per annum. The Company leases all of the property from its
subsidiary under a master lease, which lease has been collaterally assigned to
the lender as security for the term loan. The term loan provides for penalties
for prepayment prior to maturity.
(7) COMPREHENSIVE EARNINGS
Effective June 1, 1998, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income",
which establishes standards for reporting and display of comprehensive income
and its components in a full set of financial statements. Comprehensive
income(loss) earnings includes all changes in a company's
equity (except those resulting from investments by and distributions to owners), including, among other
things,.
With respect to the Company, comprehensive (loss) earnings includes net (loss)
earnings, foreign currency translation adjustments and unrealized gains
(losses) on marketable securities classified as available-for-sale.minimum pension
liabilities. Total comprehensive (loss) earnings (loss) for the ninethree months ended
February 28,August 31, 1999 and 1998 follow (in thousands):
1999 1998
---- ----
Net earnings (loss).............................. $(55,172) $41,503 earnings................................ $(8,239) $2,275
Foreign currency translation adjustments......... (701) (595)
--------adjustments........... 222 (118)
------- ------
Total comprehensive earnings (loss).............. $(55,873) $40,908 earnings................ $(8,017) $2,157
======= ======
7
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
-CONTINUED-
(8) SEGMENT AND GEOGRAPHIC INFORMATION
Late in fiscal 1999, the Company initiated a fundamental reorganization
of its internal structure. As a result of this reorganization, the Company's
management now evaluates and reviews results based on two segments, Land and
Marine. This segment structure permits increased visibility and accountability
of costs and more focused customer service and product development. Prior to
such time, the Company's management made business decisions using consolidated
financial information. The Company has determined that it is impracticable to
obtain all of the applicable information for the first quarter of fiscal year
1999 to report its operating segments for that period in accordance with the new
internal reporting structure. However, in order to provide meaningful
information available for the first quarter of fiscal 1999, the Company is able
to disclose a measure of results of operations utilizing a gross profit measure
based on its current land and marine segments. Commencing in the first quarter
of fiscal year 2000, the Company is reporting operating segment information by
the Land and Marine segments, and is measuring the operating results of these
segments based on a measure of earnings (loss) from operations excluding
unallocated corporate expenses and is able to provide asset information at
August 31, 1999 and May 31, 1999 based on the current land and marine segments.
The following summarizes this information (in thousands):
THREE MONTHS ENDED
AUGUST 31,
----------------------------
1999 1998
--------- ----------
Net sales:
Land................................................................. $ 22,692 $ 41,203
Marine............................................................... 7,287 25,792
--------- ----------
$ 29,979 $ 66,995
========= ==========
Gross profit:
Land................................................................. $ 4,996 $ 15,428
Marine............................................................... 989 6,851
--------- ----------
$ 5,985 $ 22,279
========= ==========
Loss from operations:
Land................................................................. $ (2,683)
Marine............................................................... (4,515)
Corporate expenses................................................... (5,740)
---------
$ (12,938)
=========
AUGUST 31, May 31,
1999 1999
---------- --------
-------
Total assets:
Land................................................................. $ 133,131 $141,510
Marine............................................................... 115,822 116,203
Corporate............................................................ 198,520 194,035
---------- --------
-------$ 447,473 $451,748
========== ========
8
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
(UNAUDITED)
(8) ACQUISITION-CONTINUED-
Intersegment revenues are insignificant for all periods presented.
Corporate expenses not allocated to the operating segments include costs
related to corporate general and administrative personnel and activities and
costs related to certain research and development personnel and activities
not specifically identified with land or marine products. Corporate assets
include all assets specifically related to corporate personnel and
operations, substantially all cash and cash equivalents, all facilities and
manufacturing machinery and equipment that are jointly utilized by segments
and all income taxes receivable and deferred income tax assets. The
depreciation expense and facility expense related to all jointly utilized
facilities and machinery and equipment are allocated based on each segment's
use of those assets.
(9) CHANGES IN CAPITAL STRUCTURE
On September 30, 1998,August 17, 1999, SCF-IV, L.P., a Delaware limited partnership
("SCF-IV"), exercised its option to purchase 15,000 shares of Series C Preferred
Stock, par value $0.01 per share (the "Series C Preferred Stock"), under the
option granted to SCF-IV by the Company andin connection with SCF-IV's purchase of
40,000 shares of Series B Preferred Stock in a privately negotiated transaction
in May 1999. The Laitram Corporation
entered into a definitive merger agreementpurchase price paid for the Series C Preferred Stock was $1,000
per share, resulting in net proceeds of approximately $14.8 million. The net
cash proceeds are to be used to fund the Company's acquisition of
DigiCourse, Inc., a wholly owned subsidiary ofresearch and development
projects, to provide additional working capital and for general corporate
purposes. The Laitram Corporation. Under
the termsissuance of the agreement,Series C Preferred Stock and the Company acquired for 5,794,000underlying shares
of Company common stock, allCommon Stock were exempt from the registration requirements of Section 5 of
the capital stockSecurities Act of DigiCourse, Inc.1933 in accordance with Section 4(2) of that Act. The
Company closedSeries C Preferred Stock has substantially the transaction on November 16, 1998. As a resultsame terms and conditions as the
Series B Preferred Stock, except that the fixed conversion price for the Series
C Preferred Stock is $8.50 per share, compared to $8.00 per share for the Series
B Preferred Stock.
The holders of Series C Preferred Stock are entitled to receive
cumulative cash dividends of $10.00 per share, per annum (1% of the transaction,liquidation
preference) for each share of Series C Preferred Stock. Each share of Series C
Preferred Stock is entitled to a liquidation preference of $1,000 per share,
plus all accrued and unpaid dividends.
The Laitram Corporation beneficially owns approximately 11.7%Series C Preferred Stock is convertible at the holder's option after
the first to occur of any of the outstanding common stockfollowing (the "Initial Conversion Date"): (i)
May 7, 2002, (ii) the approval by the Board of the Company. The transaction was accounted
for as a purchase business combination. The proforma effects of the
acquisition are immaterial.
(9) NEW ACCOUNTING PRONOUNCEMENTS
In March 1998, the AICPA issued Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" (SOP 98-1), establishing accounting standards for such costs,
as defined therein. Accordingly, certain costs of computer software developed
or obtained for internal use will be capitalized and amortized over the
estimated useful life of the software. Effective June 1, 1998, the Company
adopted SOP 98-1.
The FASB issued SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information" ("SFAS No. 131"), in June 1997 which
establishes standards for reporting information about operating segments in
annual financial statements and requires that enterprises report selected
information about operating segments in interim reports issued to
shareholders. SFAS No. 131 is effective for financial statements for fiscal
years beginning after December 15, 1997. The adoption of SFAS No. 131 is not
expected to have a material impact on the Company's financial condition or
results of operations.
(10) COMMITMENTS AND CONTINGENCIES
LEGAL PROCEEDINGS. On September 24, 1997, a purported class action
lawsuit was filed against the Company, the former president and chief
executive officerDirectors of the Company andof an
executive vice presidentagreement relating to a Business Combination (as defined) or the consummation of
a Business Combination, (iii) a tender offer for Common Stock is approved or
recommended by the Board of Directors of the Company inor (iv) the U.S. District Court forredemption,
repurchase or reacquisition by the Southern DistrictCompany of Texas,
Houston Division. The action, styled NORMAN TOCK V. INPUT/OUTPUT, INC., GARY
D. OWENS AND ROBERT P. BRINDLEY, alleged violations of Sections 10(b) and
20(a)rights issued pursuant to the
Company's Stockholder Rights Plan or any waiver of the Securities Exchange Actapplication of 1934,the
Company's Stockholder Rights Plan to any beneficial owner other than SCF-IV or
its affiliates (except as approved by SCF-IV's representative on the Board of
Directors of the Company). After the Initial Conversion Date and state statutoryprior to the
Mandatory Conversion Date (defined below), the holders of Series C Preferred
Stock will be entitled to convert their shares into a number of fully paid and
common
law fraud provisions. By Memorandum Opinion issuednonassessable shares of Common Stock per share equal to, at the option of the
holder, one of, or if not specified by the holder, at the greater of, the
following (such amount being referred to as the "Conversion Ratio Amount"): (a)
the quotient of $1,000 (plus any accrued and Final Judgment entered
on December 31, 1998,unpaid dividends through the U.S. District Courtrecord
date for determining stockholders entitled to vote) divided by the Southern Districtfixed
conversion price of Texas, Houston Division, ordered that$8.50 (as adjusted from time to time in accordance with
certain anti-dilution provisions) or (b) the defendants' motion to dismissquotient of $1,000 increased at a
rate of eight percent per annum from August 17, 1999, compounded quarterly, less
the amended complaint be granted, ordered that the federal securities fraud
claims be dismissed with prejudice, and denied the plaintiff's request for
leave to further amend the complaint. The period for appealamount of this judgment
has expired. The state law claims were dismissed without prejudice to their
being refiled in the appropriate state court.cash dividends
9
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
(UNAUDITED)
-CONTINUED-
actually paid through the applicable conversion date (the "Adjusted Stated
Value"), divided by the average market price for the Common Stock during the
ten trading day period prior to the date of conversion.
On May 7, 2004 (the "Mandatory Conversion Date"), each outstanding
share of Series C Preferred Stock shall, without any action on the part of the
holder, be converted automatically into a number of fully paid and nonassessable
shares of Common Stock equal to the Conversion Ratio Amount, provided that a
shelf registration statement to be filed with the Securities and Exchange
Commission ("SEC") covering those shares of Common Stock has been declared
effective.
In the event of a conversion of Series C Preferred Stock pursuant to
which the Conversion Ratio Amount is determined using clause (b) above, then,
provided that full cumulative dividends have been paid or declared and set apart
for payment upon all outstanding shares of Series C Preferred Stock for all past
dividend periods, the Company may redeem for cash up to 50% (or such greater
percentage as the holders shall agree) of the shares of Series C Preferred Stock
surrendered for conversion at a redemption price per share equal to the Adjusted
Stated Value , in lieu of conversion.
For financial accounting purposes, based on the terms of the Series C
Preferred Stock, dividends will be recognized as a charge to retained earnings
at the rate of 8% per annum, compounded quarterly. Such preferred dividends will
reduce net earnings applicable to common stockholders accordingly. The Company
is permitted to pay dividends on Common Stock as long as the Series B and C
Preferred Stock dividends are current.
(10) COMMITMENTS AND CONTINGENCIES
LEGAL PROCEEDINGS. The Company, along with one of its subsidiaries, a
current executive officer and a former executive officer, has been named a
defendant in an action filed on December 28, 1998, in State District Court in
Fort Bend County, Texas styled Geoview, Inc., Geoview Services, Inc. and Ralph
E. Clements vs. Input/Output, Inc., et al. The plaintiffs' petition alleges a
number of causes of action in tort and contract arising out of a purchase of
certain assets by a subsidiary of the Company in 1996. The plaintiffs have
claimed actual damages of $60 million and exemplary damages of $180 million. The
Company plans to vigorously defend against the plaintiffs' claims.
In the ordinary course of business, the Company has been named in
other various lawsuits. While the final resolution of these matters may have an
impact on the Company's consolidated financial results for a particular
reporting period, management believes that the ultimate resolution of these
matters will not have a material adverse impact on the Company's financial
position, results of operations or liquidity.
CREDIT RISK. The Company sells to many customers on extended-term
arrangements. In connection with certain sales of its systems and equipment, the
Company has also guaranteed loans from unaffiliated parties to purchasers of
such systems and equipment. In addition, the Company has sold contracts and
leases to third party financing sources, the terms of which often obligate the
Company to repurchase the contracts and leases in the event of a customer
default or upon certain other occurrences. At August 31, 1999 and May 31, 1999,
the Company had guaranteed approximately $813,000 and $948,000, respectively, of
trade notes receivable sold with recourse and loans from unaffiliated parties to
purchasers of the Company's seismic equipment. Continued depressed seismic
market demand could accelerate the
10
INPUT/OUTPUT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
-CONTINUED-
deterioration of the financial condition of certain customers. A number of
significant payment defaults by customers could have an adverse effect on the
Company's financial position and results of operations. All loans guaranteed
are collateralized by the seismic equipment. Due to the inherent
uncertainties of guaranty agreements, the Company cannot estimate the fair
value of the guaranties as of August 31, 1999.
Sales outside the United States have historically accounted for a
significant part of the Company's net sales. Foreign sales are subject to
special risks inherent in doing business outside of the United States, including
the risk of war, civil disturbances, embargo, and government activities, which
may disrupt markets and affect operating results.
Demand for the Company's products from customers in developing
countries is difficult to predict and can fluctuate significantly from year to
year. The Company believes that these changes in demand result primarily from
the instability of economies and governments in certain developing countries,
changes in internal laws and policies affecting trade and investment, and
because those markets are only beginning to adopt new technologies and establish
purchasing practices. These risks may adversely affect the Company's future
operating results and financial position. In addition, sales to customers in
developing countries on extended terms can present heightened credit risks for
the Company, for the reasons discussed above.
11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
RESULTS OF OPERATIONS
INTRODUCTION. The Company's net sales are directly related to the level
of worldwide oil and gas exploration activity and the profitability and cash
flows of oil and gas companies and seismic contractors, which in turn are
affected by expectations regarding the supply and demand for oil and natural
gas, energy prices and finding and development costs. Oil and gas supply and
demand and pricing are influenced by numerous factors including, but not limited
to those described in "Cautionary Statement for Purposes of Forward-Looking
Statements" - "Continuation in Downturn in Energy Industry and Seismic Services
Industry Conditions Will Adversely Affect Results of Operations and Financial
Condition", "Significant Payment Defaults under Sales Arrangements Could
Adversely Affect the Company" and "Risk from Significant Amount of Foreign Sales
Could Adversely Affect Results of Operations". During fiscal 1999 and the first
quarter of fiscal 2000, our financial performance was adversely impacted by the
deterioration in energy industry conditions over the past 12 months and, more
specifically, in the seismic services sector. This deterioration resulted from,
among other things, a widespread downturn in exploration activity due to a
decline in energy prices from October 1997 to February 1999 and consolidation
among energy producers. Despite a recent recovery in commodity prices, energy
producers' continued concerns over the sustainability of higher prices for
hydrocarbon production resulted in lower exploration budgets by energy
companies, which has resulted in reduced demand for the Company's seismic data
acquisition equipment. As a result of these continuing prevailing conditions, we
recorded operating losses and pre-tax charges totaling $4.7 million ($3.2
million after giving effect to income taxes, or $0.06 per share) during the
first quarter of fiscal 2000.
In response to these industry conditions, we have concentrated on
lowering our cost structure, consolidating our product offerings and
reorganizing into a divisional structure to allow increased visibility and
accountability of costs and more focused customer service and product
development. We have also revised our credit policies and are implementing other
processes to better position the Company to manage through the downturn and
minimize the effects of future industry volatility on our business.
We currently believe that industry conditions will continue to
adversely impact demand for our products during the next 12 months. However, we
also believe that the initiatives discussed above will better position the
Company to return to profitability once industry conditions improve.
NET SALES. The Company's first quarter fiscal 2000 land division net
sales decreased $18.5 million, or 44.9%, to $22.7 million as compared to the
prior year's first quarter land division net sales of $41.2 million. The
Company's first quarter fiscal 2000 marine division net sales decreased $18.5
million, or 71.7%, to $7.3 million as compared to the prior year's first
quarter marine division net sales of $25.8 million. The decline in both the
land and marine division net sales is primarily attributable to the
deterioration in the seismic service industry over the past 12 months,
resulting in reduced demand for the Company's seismic data acquisition
equipment. See "Introduction" above.
GROSS PROFIT MARGIN. The Company's land division gross profit margin
decreased for the first quarter of fiscal 2000 compared to the prior year's
first quarter, from 37.4% in 1999 to 22.0% in 2000. The Company's marine
division gross profit margin decreased for the first quarter of fiscal 2000
compared to the prior year's first quarter, from 26.6% in 1999 to 13.6% in
2000. The decrease in both the land and marine division gross profit margin
was primarily due to reduced customer demand for the Company's products as a
result of prevailing industry conditions; the marine division gross profit
margin decrease also reflected charges of $1.4 million for product-related
warranties incurred during the first quarter of fiscal 2000. The marine
division gross profit margin for the first quarter of fiscal 2000 excluding
these special
12
charges would have been 33.2% as compared to 26.6% in the prior year; this
increase is due to higher margins from sales of products manufactured by
DigiCourse, Inc., which was acquired during the second quarter of fiscal
1999. The Company's gross profit margin for any particular reporting period
is dependent on the product mix sold and the pricing scheme for the products
sold for that period, and may vary materially from period to period.
OPERATING EXPENSES. Operating expenses decreased $2.6 million, or
12.1%, for the first quarter of fiscal 2000 over the prior year's first quarter
operating expenses. Research and development expenses decreased $2.0 million, or
22.1%, compared to the prior year's first quarter, primarily due to reduced
salaries and other payroll related expenses, reduced contract labor and reduced
product development expenses attributable to the Company's efforts to lower its
cost structure. Marketing and sales expenses decreased $1.1 million, or 28.2%,
compared to the prior year's first quarter, primarily due to reduced salaries,
employee commissions and other payroll related expenses; reduced advertising
expenditures; and reduced convention and exhibit expenses. General and
administrative expenses increased $495,000, or 7.7%, compared to the prior
year's first quarter, primarily due to $3.3 million of charges related to
employee severance arrangements and the closing of the Company's Ireland
facility; these charges were offset in part by reduced bad debt expense and loan
losses, reduced insurance costs and reduced state and local taxes. Amortization
of intangibles increased $65,000, or 3.5%, compared to the prior year's first
quarter.
INTEREST EXPENSE. Interest expense for the first quarter of fiscal 2000
(related to the ten-year term facilities financing) was $212,000. See "Note (6)
- - Long Term Debt" of the Notes to Consolidated Financial Statements. Interest
expense for the prior year's first quarter was $242,000, also representing
interest on this facility.
INCOME TAXES. The Company's effective income tax rate was approximately
32%, for both the first quarter of fiscal 2000 and fiscal 1999.
In assessing the realizability of deferred income tax assets,
management considers whether it is more likely than not that some portion or all
of the deferred income tax assets will be realized. The ultimate realization of
deferred income tax assets is dependent upon the generation of future taxable
income during the periods in which those deferred income tax assets become
deductible. Management considers the scheduled reversal of deferred income tax
liabilities and projected future taxable income in making this assessment. In
order to fully realize the deferred income tax assets, the Company will need to
generate future taxable income of approximately $153 million over the next 20
years. Although the Company experienced a significant loss in fiscal 1999 and
the first quarter of fiscal 2000, the Company's taxable income for the fiscal
years 1996 through 1998 aggregated approximately $128 million. Based on the
level of historical income prior to fiscal 1999 and the Company's projections of
future taxable income over the periods that the deferred income tax assets are
deductible and the expiration date of the net operating loss carryforward,
management believes it is more likely than not that the Company will realize the
benefits of the deferred income tax assets, net of the valuation allowance at
August 31, 1999. The amount of deferred income tax asset considered realizable,
however, could be reduced in the near term if estimates of future taxable income
during the carryforward period are reduced.
PREFERRED STOCK DIVIDENDS. Preferred stock dividends for the first
quarter of fiscal 2000 are related to the Series B and C Preferred Stock. Based
on the terms of the Series B and C Preferred Stock, the dividends are recognized
as a charge to retained earnings at the rate of 8% per annum, compounded
quarterly. The preferred stock dividend charge for the first quarter of fiscal
2000 was $1.1 million. There were no preferred stock dividends for fiscal 1999.
See "Note (9) - Changes in Capital Structure" of the Notes to Consolidated
Financial Statements.
13
LIQUIDITY AND CAPITAL RESOURCES
GENERAL. The Company has traditionally financed its operations from
internally generated cash flows, funds from equity financings and its credit
facilities. The Company's cash and cash equivalents were $86.2 million at
August 31, 1999, an increase of $11.1 million, or 14.8%, as compared to May
31, 1999. The increase is primarily due to the August 1999 sale of 15,000
shares of Series C Preferred Stock in a privately negotiated transaction to
SCF-IV LP, for which the Company received net proceeds of approximately $14.8
million. The increase in cash attributable to the preferred stock offering
was offset in part by the purchase of property, plant and equipment and the
first quarter 2000 operating losses.
Cash flows used in operating activities were $446,000 for the first
quarter ended August 31, 1999, primarily due to decreases in accounts payable
and accrued expenses and first quarter 2000 operating losses, offset in part
by decreased accounts and notes receivable, decreased inventories and income
tax refunds.
The Company had outstanding indebtedness of $9.8 million as of
August 31, 1999 under a mortgage loan secured by the land, buildings and
improvements housing the Company's executive offices, research and
development headquarters and electronics manufacturing facility in Stafford,
Texas. The loan bears interest at the rate of 7.875% per annum and is
repayable in equal monthly installments of principal and interest of
$151,439. The promissory note, which matures on September 1, 2006, contains
prepayment penalties. See "Note (6) -Long-term Debt" of the Notes to
Consolidated Financial Statements.
Capital expenditures for property, plant and equipment totaled $3.0
million for the first quarter of fiscal 2000. Total capital expenditures are
currently expected to aggregate $29.5 million for fiscal 2000, which includes
an estimated $23.7 million of additions to the Company's rental equipment
fleet, a portion of which will come from on-hand inventories. The Company
believes that the combination of its existing working capital, current cash
balances and access to other financing sources will be adequate to meet its
anticipated capital and liquidity requirements for the foreseeable future.
See however "-Cautionary Statement for Purposes of Forward-Looking
Statements" - "Continuation in Downturn in Energy Industry and Seismic
Services Industry Conditions Will Adversely Affect Results of Operations and
Financial Condition".
CREDIT AGREEMENT. The Company terminated its credit facility during
the first quarter of fiscal 2000. While the Company believes that it would be
able to negotiate a credit facility or facilities with similar lenders, the
Company believes that the terms currently available would not be as
advantageous as future terms may be when the Company may require a credit
facility. The Company does not anticipate the need for a credit facility at
the present time, but anticipates securing a facility or facilities in the
future at a time when the proposed terms are more likely to be more
advantageous for the Company.
YEAR 2000.2000
Many currently installed computer systems and software products are
coded to accept only two-digit entries in the date code field and cannot
distinguish 21st century dates from 20th century dates. These date code
fields will need to distinguish 21st century dates from 20th century dates
and, as a result, many companies' software and computer systems may need to
be upgraded or replaced in order to comply with such "Year 2000"
requirements. The Company is currently working to resolve the potential
impact of the Year 2000 issue on the computerized systems it utilizes
internally, and with regard to its products, suppliers and customers.
To date, the Company has not incurred any material expenditures in
connection with identifying, evaluating or remediating Year 2000 compliance
issues. A portion of the Company's Year 2000 compliance expenditures
expected to be incurred relate to the Company's limited warranty coverage. As
of February 28, 1999, no specific amounts have been accrued to the warranty
reserve for such costs, since the Company has not yet been able to make a
firm estimate of such costs.
CREDIT RISK. The Company sells to many customers on extended-term
arrangements. Significant payment defaults by customers could have a material
adverse effect on the Company's financial position and results of operations.
Moreover, in connection with certain sales of its systems and equipment, the
Company has guaranteed certain loans from unaffiliated parties to purchasers
of such systems and equipment. At May 31, 1998, the Company had guaranteed
approximately $11,140,000 of trade notes receivable sold with recourse and
loans from unaffiliated parties to purchasers of the Company's seismic
equipment; however, at February 28, 1999, the amount of these guaranties
outstanding was only approximately $1,128,000. In January 1999, the Company
paid $1,661,000 to a creditor of a customer in satisfaction of the Company's
obligations under a guaranty with respect to a defaulted equipment lease
between the customer and that creditor. The $1,661,000 was billed to the
customer and was fully reserved as of February 28, 1999. All loans guaranteed
are collateralized by the seismic equipment.
10
In October 1998, the Company made a significant sale of marine
seismic equipment to a customer for installation on two vessels; a
substantial portion of this sale was financed by the Company. In late
December 1998, one of the vessels on which a majority of this equipment was
installed was seized by a creditor of the customer. The
Company has reservedadopted the $13,800,000 receivable to its net realizable value which is approximately
the Company's original costBritish Standards Institute "Definition of the equipment.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
RESULTS OF OPERATIONS
INTRODUCTION. The Company's net sales are directly related toYear
2000 Requirements." BSI DISC PD 2000-1 states the level of worldwide oil and gas exploration activities and the profitability
and cash flows of oil and gas companies and seismic contractors, which in
turn arefollowing: "Year 2000
conformity shall mean that neither performance or functionality is affected
by expectations regardingdates prior to, during, and after the supply and demand for oil and
natural gas, energy prices and finding and development costs. Oil and gas
supply and demand and pricing, in turn, are influenced by numerous factors
including, but not limited to, those described below in "Cautionary Statement
for Purposes of Forward-Looking Statements - Risk from Downturn in Energy
Industry Conditions" and "Risk From Significant Amount of Foreign Sales.Year 2000." The Company
believes that when worldwide oil production had not significantly
decreased by the summer of 1998, the Company's customers anticipated a
continuation of low prices for an extended period and began to reduce their
intended14
has developed two levels of expendituresreadiness for seismicits equipment. Consolidation withinThe Company's "Year
2000 Compliant" products will perform as per the oil industry has also negatively affected demand for theBritish Standards
Guidelines. The Company's products.
Until confidence in future oil prices above current levels is
restored, orders for the Company's equipment are expected to remain at
significantly lower levels than experienced in fiscal 1998. As a result, this
reduced demand has created excess capacity within the Company's installed
customer base, which, coupled with planned product revisions, has accelerated
the obsolescence of certain of its seismic equipment. Accordingly, the
Company has recognized special charges"Year 2000 Assessed" products have been assessed in
the third quarter of $85.6 million
($55.7 million after federal income taxes) related to asset, inventorysame manner as "Year 2000 Compliant" products and receivable write-downs; early termination of a facility lease; warranty
reserveissues found and
other product related contingencies and restructuring costs. See
"Note (2) - Third Quarter Charges" of Notes to Consolidated Financial
Statements. Additional declines in oil prices, or prolonged expectations for
little or no improvement in prices, could cause the Company's customers to
further reduce their spending and further adversely affect the Company's
results of operation and financial condition. Furthermore, future order
cancellations and additional customer defaults on Company financed sales
could further deteriorate the Company's anticipated performance and future
financial condition. In response to these trends, the Company has initiated
cost reduction and containment programs since the beginning of fiscal 1999,
including personnel reductions in force. Management plans to continue to seek
ways to reduce its costs as industry conditions dictate.
Most of the changes in the Company's financial condition and balance
sheet items as of February 28, 1999, compared to that of May 31, 1998, have
resulted from the reduced levels of net sales during fiscal 1999 and the
resulting decreases in cash and cash equivalents, receivables, inventories
and payables, in addition to the write-downs discussed in this quarterly
report. See "Net Sales", "- Gross Profit Margin" and "- Operating Expenses"
below. No assurances can be given that if industry conditions do not improve,
additional special charges and write-downs will not be incurred in the future.
11
NET SALES. The Company's third quarter net sales decreased $57.5
million, or 60.4%, to $37.8 million as compared to the prior year's third
quarter net sales of $95.3 million. The decline in sales of systems and
components is primarily attributable to the decrease in oil prices resulting
in delayed or reduced exploration spending by oil and gas companies during
the quarter, which caused several projects to be postponed or canceled. See
"INTRODUCTION" above. During fiscal 1999's third quarter, four of the
Company's new System 2000 land systems were sold along with other seismic
data acquisition recording equipment and components (representing a total
channel count of 2,034 land and 304 marine); the prior year's third quarter
sales consisted of six I/O SYSTEM TWO-Registered Trademark- land systems
and two MSX marine system and other recording equipment and components (for a
total channel count of 25,356 land and 7,712 marine).
Net sales for the first nine months of the current year decreased
$103.3 million, or 36.6%, to $178.7 million as compared to the prior year's
first nine months net sales of $281.9 million. The decrease in net sales was
primarily due to lower sales levels of the Company's systems and components,
primarily attributable to the decrease in oil prices resulting in delayed or
reduced exploration spending by oil and gas companies. Sales of 11 I/O SYSTEM
TWO and System 2000 land systems and three MSX marine systems were recorded
during the first nine months of fiscal 1999 (representing a total channel
count of 13,104 land and 7,248 marine) compared to 37 I/O SYSTEM TWO land
systems and four MSX marine systems for the prior year's first nine months
(for a total channel count of 82,872 land and 13,328 marine).
GROSS PROFIT MARGIN. The Company's gross profit margin decreased for
the third quarter and year-to-date compared to the prior year periods, from
42.8% in 1998 to (121.6%) in 1999, and 41.1% in 1998 to 2.3% in 1999. This
decrease was primarily due to the inventory write down totaling $47.3 million
due to reduced customer demand for the Company's products as a result of
prevailing industry conditions and the result of products rendered obsolete
due to planned product revisions. Also in the third quarter, a charge of
$14.0 million relating to certain warranty reserves and other product related
contingencies was incurred. The gross profit margin excluding special charges
for the third quarter and first nine months would have been 40.6% and 36.5%
as compared to 42.8% and 41.1% in the prior year's third quarter and first
nine months, respectively. The Company's gross profit margin for any
particular reporting period is dependent on the product mix sold and the
pricing scheme for the products sold for that period, and may vary materially
from period to period.
OPERATING EXPENSES. Operating expenses increased $29.0 million, or
141.5%, for fiscal 1999's third quarter over the prior year's third quarter
operating expenses. Research and development expenses increased $4.4 million,
or 53.8%, compared to the prior year's third quarter, primarily resulting
from increased contract labor, outside engineering services, product
development expenses and expenses related to recent acquisitions. Marketing
and sales expenses decreased $913,000, or 21.9%, compared to the prior year's
third quarter, primarily due to decreased expenses for third party
commissions on sales, advertising and convention expense, offset in part by
expenses related to recent acquisitions. General and administrative expenses
increased $23.4 million, or 355.9%, compared to the prior year's third
quarter, mostly due to an increase in the allowance for doubtful accounts and
notes receivable of $17.6 million. This increase was primarily attributable
to the seizure of a customer's vessel equippeddetermined by the Company followed by the
creditor's filing for creditor protection and management's assessment of
business risk regarding three North American customer notes as a result of
the depressed market environment; reductions in force (302 employees
worldwide); early termination of a facility lease and impairment of fixed
assets. Amortization of intangibles increased $2.1 million, or 131.6%,
comparedto be detrimental to the prior year's third quarter primarily due to increased
goodwill expense resulting from recent acquisitions and impairmentfunction of goodwill related to acquisitions in previous years.
Operating expenses for the first nine months of the current year
were $35.4 million, or 59.4%, above the operating expenses for the first nine
months of the prior year. Research and development
12
expenses increased $7.9 million, or 33.1%, compared to the prior year's first
nine months, primarily resulting from expenses related to recent acquisitions
and increased product development expenses. Marketing and sales expenses
increased $420,000, or 3.9%, compared to the prior year's first nine months.
General and administrative expenses increased $23.3 million, or 110.6%,
compared to the prior year's first nine months, primarily due to the increase
in allowance for doubtful accounts and notes receivable of $17.6 million, all
as discussed above. Amortization of intangibles increased $3.8 million, or
94.3%, compared to the prior year's first nine months, primarily due to
increased goodwill expense resulting from recent acquisitions and impairment
of goodwill related to acquisitions in previous years.
INTEREST EXPENSE. Interest expense for the third quarter and the
first nine months of the current fiscal year (related to the ten-year term
facilities financing) was $229,000 and $688,000, respectively. See "Note (6)
- - Long-term Debt" of the Notes to Consolidated Financial Statements. Interest
expense for the prior year's third quarter and first nine months was $262,000
and $842,000, respectively, also representing interest on this facility.
INCOME TAXES. The Company's effective income tax rate was
approximately 35% and 32%, for the third quarter and the first nine months of
fiscal 1999 and fiscal 1998, respectively.
LIQUIDITY AND CAPITAL RESOURCES
GENERAL. The Company has traditionally financed its operations from
internally generated cash flows, funds from equity financings and its credit
facilities. Cash flows from operating activities, before changes in working
capital items, were $10.4 million for the nine months ended February 28, 1999
as compared to $58.7 million in the prior year's first nine months. Cash
flows from operating activities, after changes in working capital items, were
a negative $18.7 million for the nine months ended February 28, 1999,
primarily due to decreases in accounts payable and accrued expenses (which
represented a use of cash), increased income tax payments (primarily due to
certain foreign subsidiaries settling prior years' tax liabilities) and
increased inventories (primarily resulting from the lower sales level).
CREDIT AGREEMENT. As of February 28, 1999 the Company was in
violation of certain covenants under its revolving Credit Agreement due to
its third quarter results of operations and requested a waiver from its
lender. On March 16, 1999, the agent for the lenders delivered to the Company
a Notice of Default due to violation of two financial covenants. As of
February 28, 1999, no amounts of indebtedness for borrowed money were
outstanding under the Company's Credit Agreement. However, atrecording
seismic data have been addressed so that date, the
Company had standby and commercial letters of credit issued under the Credit
Agreement outstanding in the aggregate amount of $1.4 million. As a result of
the agent's delivery of the Notice of Default, the Company is currently
unable to draw funds under the Credit Agreement. The Company is currently
negotiating with the agent the terms of a replacement credit facility
appropriate for the Company's current financial condition. The obligations of
the Company under the Credit Agreement are secured by a first lien pledge of
the capital stock of certain wholly owned subsidiaries of the Company.
Additionally, certain of these wholly owned subsidiaries have guaranteed the
Company's obligations under the Credit Agreement.
The Notice of Default from the agent for the lenders provides that
if the defaults are not cured within 30 days, events of default under the
Credit Agreement will exist, and the lenders will have the rights to exercise
their remedies under the Credit Agreement and the collateral documents. The
terms of any new revolving credit arrangement for the Company with its
current lenders or any new lenders will likely not feature as advantageous
terms to the Company as the current Credit Agreement now provides. While no
assurances can be given, the Company believes that it can negotiate a new or
amended revolving credit or
13
working capital facility, but this facility may have a lower maximum credit
amount than the $50 million maximum under the Credit Agreement.
The Company had outstanding long-term indebtedness of $9.2 million
as of February 28, 1999 secured by the land, buildings and improvements
housing the Company's executive offices, research and development
headquarters and electronics manufacturing facilitythese
products will function in Stafford, Texas. The
loan bears interest at the rate of 7.875% per annum and is repayable in equal
monthly installments of principal and interest of $151,439. The promissory
note, which matures on September 1, 2006, contains prepayment penalties. See
"Note (6) - Long-term Debt" of the Notes to Consolidated Financial Statements.
Capital expenditures for plant, property and equipment totaled $9.4
million for the first nine months of fiscal 1999. Total capital expenditures
are currently expected to aggregate $11.0 million for fiscal 1999. The
Company believes that the combination of its existing working capital and
internally generated cash flows will be adequate to meet its anticipated
near-term capital and liquidity needs. The Company also believes that it can
obtain a revolving credit facility or another form of capital infusion to
assist it in meeting its capital and liquidity requirements, which along with
its existing working capital and internally generated cash, should enable it
to meet its capital and liquidity requirements for the next 12 months.
However, no assurances can be given that the Company will be able to obtain a
revolving credit facility or such a capital infusion. In that event, the
Company may be forced to further significantly reduce its operating costs or
sell or restructure its assets. In addition, the Company can give no
assurances as to whether such a facility or infusion will be sufficient to
meet the Company's long-term capital and liquidity needs.
YEAR 2000. Many currently installed computer systems and software
products are coded to accept only two-digit entries in the date code field
and cannot distinguish 21st century dates from 20th century dates. These date
code fields will need to distinguish 21st century dates from 20th century
dates and, as a result, many companies' software and computer systems may
need to be upgraded or replaced in order to comply with such "Year 2000"
requirements. The Company is currently working to resolve the potential
impact of the Year 2000 issue onand after. As used herein, the computerized systems it utilizes
internally, and with regard to its products and customers.terms
"Year 2000 Compliant" or "Year 2000 Compliance" shall mean either "Year 2000
Compliant" and/or "Year 2000 Assessed", each as defined above.
STATE OF READINESS. The Company continues to carry out its Year 2000
compliance program for the hardware and software products sold by it,
("products"), the
information technology systems used in its operations ("IT Systems"), and its
non-IT Systems or embedded technology, such as building security, voice mail
and other systems. The Company's Year 2000 compliance program covers the
following phases: (i) inventory of all products, IT Systems and non-IT
Systems; (ii) assessment of repair or replacement requirements; (iii)
planning and remediation; (iv) testing; and (v) implementation. The Company
has completed the inventory phaseand assessment phases for its products, IT
Systemssystems and non-IT Systems,systems and anticipatesis in the assessment phase
will be completed by April 30, 1999. Its landfinal stages of remediation, testing
and marine product application
inspections are expected to be completed by June 30, 1999.implementation on the IT and non-IT systems and on those products
identified for remediation. The Company's program calls for completion of all
phases by the end of October 1, 1999.
As a result of additionalits planned component testing, the Company decided
that some of its older products in the field, which it no longer manufactures
or sells, will not be made Year 2000 compliant and the Company will not offer
Year 2000 support for these products. These products are no longer covered by
the Company's product warranties. The remainder ofOther Company products in the Company's products,field, some
of which supersede or replace the discontinued products,
either manufactured or in the field, are already Year
2000 compliant,Compliant, or will be made Year 2000 compliantCompliant via remedial patches.
These patches which will be made available at no charge for those products under
warranty coverage and for sale for those products that are no longer under
warranty. The Company is in the process of contacting its customers to customers or users.inform
them of the availability of the Year 2000 remedial patches and encouraging
them to upgrade. All products manufactured for sale by the 14
Company since
January 1, 1999 havehas been tested to be Year 2000 compliant. The Company
expects that a portion of the costs for bringing its products in the field
into Year 2000 compliance will be recorded as warranty expense.Compliant.
The Company relies, both domestically and internationally, upon
various vendors, governmental agencies, utility companies, telecommunications
service companies, delivery service companies and other service providers,
the operations of which are outside of the Company's control. There is no
assurance that such parties will not suffer a Year 2000 business disruption,
which could have a material adverse effect on the Company's financial
condition and results of operations.
COSTS. To date, the Company has not incurred any material
expenditures in connection with identifying, evaluating or remediating Year
2000 compliance issues. The Company has not retained an outside consultant to
assist it in its review and assessment of its Year 2000 issues. Most of its
expenditures to date have related to the opportunity cost of time spent by
employees of the Company in evaluating and remediating the Company's Year
2000 issues for its products, IT Systems and its non-IT Systems. Management
currently believes that Year 2000 expenditures will not have a material
adverse effect on the Company's operations, results of operations or
financial condition.
A portion of the Company's Year 2000 compliance expenditures expected tothat
may ultimately be incurred relate to the Company's limited warranty coverage.
As of February 28,August 31, 1999, no specific amounts havehad been accrued to the warranty
reserve for such costs, as the Company hashad not yet been able to make a firm
estimate of such costs. However, the Company currently estimates that based
on its assessments to date, the Company's total estimated Year 2000
compliance-related expenses will be less than $300,000. These expenses
consist$500,000. This estimate
consists of estimated costs of bringing itsthe Company's European IT systems
into Year 2000 compliance,Compliance, and anticipatedpossible product warranty expense.
15
RISKS. The Company does not yet possessA survey was sent in November 1998 to customers, various
vendors, governmental agencies, utility companies, telecommunication service
companies, delivery service and other service companies concerning their Year
2000 compliance. Approximately 50% of the information necessary to
estimatesurveys sent were returned and all
of the potential impact ofsurveys received indicated the recipient was already Year 2000
compliant or was currently carrying out a Year 2000 compliance issues relating to its
suppliers or customers' internal systems, if the suppliers or customers are
notprogram and
would be Year 2000 compliant.compliant by August 1999. In August 1999 a survey was sent
to the parties that had not responded to the previous survey sent in November
1998. Approximately 30% of the surveys sent in August 1999 have been returned
and all of the surveys received have indicated the recipient was already Year
2000 compliant or was currently carrying out a Year 2000 compliance program
and would be Year 2000 compliant by October 1999.
CONTINGENCY PLAN. The Company has not yet developed acompleted its Year 2000
specific contingency plan. The Company intends to prepare a contingency plan with respect to its financial and accounting software andfor its products, no
later than mid-calendar 1999.IT systems and non-IT systems. The
Company's contingency plan consists of policies and procedures for addressing
any higher-risk compliance issues discovered and written communication
instructions if compliance problems are actually encountered. Also, starting
in December 1999 the Company will have a 24-hour hotline to assist in
addressing Year 2000 compliance issues that the Company's customers, vendors
or personnel may encounter. In addition, if further Year 2000 compliance
issues are discovered, the Company then will evaluate the need for one or
more contingency plans relating to those particular issues.
OTHER.Due to the highly technical nature of the equipment manufactured and
sold by the Company, it is difficult to predict a "worst case" scenario if
the products provided by the Company experience a pervasive Year 2000
problem. The Company believes that if a pervasive Year 2000 product problem
did occur, it could result in a significant negative impact on the Company's
business reputation and future sales opportunities, which in turn would have
a material adverse effect on the Company's operations, results of operations
and financial position.
RECENT ACCOUNTING PRONOUNCEMENTS
Statement of Financial Accounting Standards No. 133, Accounting for
Derivative Instruments and Hedging Activities ("SFAS 133"), was issued by the
Financial Accounting Standards Board in June 1998. SFAS 133 standardizes the
accounting for derivative instruments, including certain derivative
instruments embedded in other contracts. Under the standard, entities are
required to carry all derivative instruments in the statement of financial
position at fair value. The Company will adopt SFAS 133 beginning in fiscal
year 2002. The Company does not expect the adoption of SFAS 133 to have a
material effect on its financial condition or results of operation because
the Company does not enter into derivative or other financial instruments for
trading or speculative purposes nor does the Company use or intend to use
derivative financial instruments or derivative commodity instruments.
OTHER CONSIDERATIONS
Demand for the Company's products is dependent upon the level of
worldwide oil and gas exploration and development activity. SuchThis activity in
turn is primarily dependent upon oil and gas prices, which have been subject
to wide fluctuation in recent years. SinceDuring the beginningfirst quarter of fiscal 2000,
our financial performance was adversely impacted by the deterioration in
energy industry conditions over the past 12 months and, more specifically, in
the seismic services sector. This deterioration resulted from, among other
things, a widespread downturn in exploration activity due to a decline in
energy prices from October 1997 to February 1999 worldwide oiland consolidation among
energy producers. Despite a recent recovery in commodity prices, have been at their lowest levels since 1986.
Continuing lowenergy
producers' continuing concerns over the sustainability of higher prices for
hydrocarbon production have generally resulted in lower exploration budgets by oil companies. Lower exploration budgets during
the first nine months of fiscal 1999energy
companies, which has resulted in a severe reduction inreduced demand for the Company's seismic
data acquisition equipment and services.equipment.
16
CREDIT RISK. A continuation of depressed prices for hydrocarbon production and reduced demand for the services of
the Company's customers will further strain the revenues and cash resources
of the customers of the Company, thereby resulting in a higher likelihood of
defaults in the customers' timely payment of their 15
obligations under the
Company's financedcredit sales arrangements. Increased levels of payment defaults
with respect to the Company's financedcredit sales arrangements could have a material
adverse effect ofon the Company's results of operations.
In addition, duringDuring fiscal 1999 and the first quarter of fiscal 2000 there has beenwas
considerable turmoil and uncertainty in the Russianforeign financial markets, prompted in large part the
economic and political problems being experienced by a number of Asian
countries.markets. The
Russian ruble has been under significant pressure, requiring the Russian
government to raise interest rates substantially, and to seek special
assistance from the International Monetary Fund in order to defend its
currency. At the present time, it is not possible to predict whether the
Russian government will be successful in avoiding another devaluation of the
ruble, or when stability will return to its financial markets. Any further
devaluation of the ruble could exacerbate existing economic problems in
Russia. Historically, customers in Russia and other Former Soviet Union
countries have accounted for approximately 5-9% of the Company's net sales.
In addition, the Company sells its products to customers in Latin
America,American countries, which have also experienced economic problems and the
effects of devaluations
within the last 12 months.devaluations.
The Company's combined gross trade accounts receivable and trade
notes receivable balance as of February 28,August 31, 1999 from customers in Russia and
other Former Soviet Union countries was approximately $28.1$22.7 million and was
approximately $11.6$10.3 million from customers in Latin America. TheseAmerican countries. As of
August 31, 1999 the total allowance for doubtful accounts (foreign and US)
was $7.8 million and the allowance for loan loss was $41.3 million. During
the first quarter of fiscal 2000, there were $9.3 million of sales to
customers in Russia and other Former Soviet Union countries (essentially all
based on cash sales backed by letters of credit) and $39,000 of sales to
customers in Latin American countries. All terms of sale for these foreign
receivables are denominated in US dollars. To the extent that economic
conditions in the Former Soviet Union, Latin America or in Asiaelsewhere negatively
affect future sales to the Company's customers in those regions or the
collectibility of the Company's existing receivables, these conditions may
adversely affect the Company's future
results of operations, liquidity and financial condition.
In January 1999, the Company paid $1,661,000 to a creditor of a
Company customer in satisfaction of the Company's obligations under a
guaranty with respect to a defaulted equipment lease between the customer and
that creditor. The $1,661,000 was billed to the customer and the total amount
was fully reserved as of February 28, 1999.condition may be adversely
affected.
See "Note 10 - Commitments and Contingencies" toof Notes to
Consolidated Financial Statements and "Cautionary"- Cautionary Statement for Purposes of
Forward-Looking Statements - Risks fromContinuation in Downturn in Energy Industry and
Seismic Services Industry Conditions Will Adversely Affect Results of
Operations and Financial Condition," "- Credit Risks fromSignificant Payment Defaults Under
Sales Arrangements"Arrangements Could Adversely Affect the Company" and "- Risk from
Significant Amount of Foreign Sales"Sales Could Adversely Affect Results of
Operations".
CONVERSION TO THE EURO CURRENCY. On January 1, 1999, somecertain members
of the European Union established fixed conversion rates between their
existing currencies and the European Union's common currency, the euro. The
Company owns facilities and manufactures components for its systems in two
member countries. The transition period for the introduction of the euro is
between January 1, 1999 and June 30, 2002. The Company is addressing the
issues involved with the introduction of the euro. The more important issues
facing the Company include: converting information technology systems;
reassessing currency risk and processing tax and accounting records.
Based on its progress to date in reviewing this matter, and the fact
that all Company sales to customers are denominated in US dollars, the Company
believes that the introduction of the euro will not have a significant impact
on the manner in which it conducts its business affairs and processes its
business and accounting records. Therefore, conversion to the euro should not
have a material effect on the Company's financial condition or results of
operations.
1617
CAUTIONARY STATEMENT FOR PURPOSES OF FORWARD-LOOKING STATEMENTS
Certain information contained in this Quarterly Report on Form 10-Q
as well as other written and oral statements made or incorporated by
reference from time to time by the Company and its representatives in other
reports, filings with the Securities and Exchange Commission, press releases,
conferences, or otherwise, may be deemed to be forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934 and
are subject to the "Safe Harbor" provisions of that section. This information
includes, without limitation, statements concerning future operations,results of
operation, future revenues, future earnings, future costs and expenses, future margins and
future expenses;writedowns and special charges; the length of the period of the
downturn in demand for the Company's products; anticipated product releases
and technological advances; the future mix of business and future asset
recoveries; the realization of deferred tax assets; the resolution of
contingent liabilities; the Company's Year 2000 issues and their resolution;
the inherent unpredictability of adversarial proceedings; and future demand for the
Company's products,products; future capital expenditures and future financial
condition of the Company; energy industry and seismic services industry
conditions; and world economic conditions, including that in Former Soviet
Union, Latin American and Asian countries. These statements are based on
current expectations and involve a number of risks and uncertainties,
including those set forth below and elsewhere in this Quarterly Report on
Form 10-Q. Although the Company believes that the expectations reflected in
such forward-looking statements are reasonable, it can give no assurance that
such expectations will prove to be correct.
When used in this report, the words "anticipate," "estimate,"
"expect," "may," "project" and similar expressions are intended to be among
the statements that identify forward-looking statements. Important factors
which could affect the Company's actual results and cause actual results to
differ materially from those results which might be projected, forecast,
estimated or budgeted by the Company in such forward-looking statements
include, but are not limited to, the following:
RISKS FROMCONTINUATION IN DOWNTURN IN ENERGY INDUSTRY CONDITIONS.AND SEISMIC SERVICES
INDUSTRY CONDITIONS WILL ADVERSELY AFFECT RESULTS OF OPERATIONS AND FINANCIAL
CONDITION. Demand for the Company's products is dependent upon the level of
worldwide oil and gas exploration and development activity. This activity in
turn is primarily dependent upon oil and gas prices, which have been subject
to wide fluctuation in recent years in response to changes in the supply and
demand for oil and natural gas, market uncertainty and a variety of
additional factors that are beyond the control of the Company. Recent worldwideWorldwide oil
prices have beendeclined from October 1997 and remained at their lowestlower levels since 1986. Continuing lowthrough
February 1999. Despite a recent recovery in commodity prices, energy
producers' continuing concerns over the sustainability of higher prices for
hydrocarbon production have resulted in lower exploration budgets by oilenergy
companies, which has resulted in reduced demand for the Company's seismic
data acquisition equipment. Other factors which have negatively impacted
demand for Company products have been the weakened financial condition of
many of the Company's customers, consolidations among energy producers, an
over-supply of current-generation seismic equipment and the destabilized
economies in many developing countries. Despite relatively higher prices for
oil and natural gas in recent months, it is expected that any turnaround for
the seismic equipment market will occur later than for other sectors of the
energy services industry. It is impossible to predict future oil and
natural gas price movements or the durationlength of the
current environment of
lowerdownturn for the seismic equipment market or future oil and natural gas
prices with any certainty. A further prolonged downturn in market demand for
the Company's products will have a material adverse effect on the Company's
results of operation and financial condition. No assurances can be given as
to future levels of worldwide oil and natural gas prices, the future level of
activity in the oil and gas exploration and development industry and their
relationship(s) to the demand for the Company's products. Additionally, no
assurances can be given that the Company's efforts to reduce and contain
costs will be sufficient to offset the effect of thesethe expected continued lower
levels of consolidated revenues.
RISKS RELATEDCompany net sales until industry conditions improve.
18
FAILURE TO DEVELOP PRODUCTS AND KEEP PACE WITH TECHNOLOGICAL CHANGE.CHANGE
WILL ADVERSELY AFFECT RESULTS OF OPERATIONS. The markets for the Company's
product lines are characterized by rapidly changing technology and frequent
product introductions. Whether the Company can develop and produce
successfully, on a timely basis, new and enhanced products that embody new
technology, meet evolving industry standards and practice, and achieve levels
of capability and price that are acceptable to its customers, will be
significant factors in the Company's ability to compete in the future. During the third quarter of fiscal 1999, theThe
Company announced that
it hadhas completed threesix field tests of its new product, aVectorSeis-TM-,
multi-component digital sensor. Further tests are planned and may
increasingly involve potential customers. There can be no assurance that the
Company will not encounter resource constraints or technical or other
difficulties that could delay introduction of this new product or other new
products in the future. No assurances can be given as to whether any products
incorporating the VectorSeis-TM- digital sensor will be commercially feasible
or accepted in the marketplace by the Company's present or future customers.
If the Company is unable, for technological or other reasons, to
17
develop
competitive products in a timely manner in response to changes in the seismic
data acquisition industry or other technological changes, its business and
operating results will be materially and adversely affected. In addition, the
Company's continuing development of new products inherently carries the risk
of inventory obsolescence with respect to its older products,
which happenedproducts. Changes in the
third quarterCompany's product offerings through newly introduced products and product
lines, whether internally developed or obtained through acquisitions, carry
with them the potential for customer concerns of fiscal 1999 whenproduct reliability, which
may have the Company
wrote down inventory in part due to planned product revisions.
CREDIT RISK FROMeffect of lessening customer demand for those changed products.
SIGNIFICANT PAYMENT DEFAULTS UNDER SALES ARRANGEMENTS.ARRANGEMENTS COULD
ADVERSELY AFFECT THE COMPANY. The Company sells to many customers on
extended-term arrangements. Moreover, in connection with certain
sales of its systems and equipment, the Company has guaranteed certain loans
from unaffiliated parties to purchasers of such systems and equipment. In
addition, the Company has sold contracts and leases to third-party financing
sources, the terms of which often obligate the Company to repurchase the
contracts and leases in the event of a customer default or upon certain other
occurrences. Performance of the Company's obligations under these
arrangements could have a material adverse effect on the Company's financial
condition. Significant payment defaults by customers wouldcould
have a material adverse effect on the Company's financial position and
results of operations.
See also Notes 2 and 10 of Notes to Consolidated Financial Statements and "-
Risk from Significant Amount of Foreign Sales" below.
RELIANCE ON SIGNIFICANT CUSTOMERS. A relatively small number of
customers have accounted for most of the Company's net sales, although the
degree of sales concentration with any one customer has varied from fiscal
year to year. During fiscal 1998, 1997 and 1996 the two largest customers in
each of those years accounted for 35%, 45% and 42%, respectively, of the
Company's net sales. The loss of these customers or a significant reduction
in their equipment needs could have a material adverse effect on the
Company's net sales.
COMPETITION. The design, manufacture and marketing of seismic data
acquisition systems are highly competitive and are characterized by continual
and rapid changes in technology. The Company's current principal competitor
for land seismic equipment is Societe d'Etudes Recherches et Construction
Electroniques, an affiliate of Compagnie General de Geophysique which, unlike
the Company, can sell to its parent, a seismic contractor. The Company's
principal competitor in the marine seismic systems market is GeoScience
Corporation, an affiliate of Tech-Sym Corporation.
Competition in the industry is expected to intensify and could
adversely affect the Company's future results. Several of the Company's
competitors have greater name recognition, more extensive engineering,
manufacturing and marketing capabilities, and greater financial,
technological and personnel resources than those available to the Company. In
addition, certain companies in the industry have expanded their product lines
or technologies in recent years. There can be no assurance that the Company
will be able to compete successfully in the future with existing or new
competitors. Pressures from competitors offering lower-priced products or
products employing new technologies could result in future price reductions
for the Company's products.
A continuing trend toward consolidation, concentrating buying power
in the oil field services industry, may have the effect of adversely
affecting the prices and demand for the Company's products and services.
RISK FROM SIGNIFICANT AMOUNT OF FOREIGN SALES.SALES COULD ADVERSELY AFFECT
RESULTS OF OPERATIONS. Sales outside the United States have historically
accounted for a significant part of the Company's net sales. Foreign sales
are subject to special risks inherent in doing business outside of the United
States, including the risk of war, civil disturbances, embargo, and
government activities, which may disrupt markets and affect operating
results. Foreign sales are also generally subject to the risks of compliance
with additional laws, including tariff regulations and 18
import/export
restrictions. The Company is, from time to time, required to obtain export
licenses and there can be no assurance that it willmay not experience difficulty
in obtaining such licenses as may be required in connection with export sales.
Demand for the Company's products from customers in developing
countries (including Russia and other Former Soviet Union countries as well
as certain Latin American and Asian countries) is difficult to predict and
can fluctuate significantly from year to year. The Company believes that
these changes in demand result primarily from the instability of economies
and governments in certain developing countries, changes in internal laws and
policies affecting trade and investment, and because those markets are only
beginning to adopt new technologies and establish purchasing practices. These
risks may adversely affect the Company's future operating results and
financial position. In addition, sales to customers in developing countries
on extended terms can present heightened credit risks for the Company, for the
reasons discussed above. See, in particular above, "Liquidity and Capital
Resources - Other""Other Factors" for
further information concerning these risks in those countries.
RISKS RELATED TO TIMINGLOSS OF PRODUCT SHIPMENTS. DueSIGNIFICANT CUSTOMERS WILL ADVERSELY AFFECT THE COMPANY. A
relatively small number of customers have accounted for most of the Company's
net sales, although the degree of sales concentration with any one customer
has varied from fiscal year to year. During fiscal 1999, 1998 and 1997 the
three largest customers in each of those years accounted for 52%, 43% and
50%, respectively, of
19
the Company's net sales. The loss of these customers or a significant
reduction in their equipment needs could have a material adverse effect on
the Company's net sales.
PRESSURE FROM COMPETITORS COULD ADVERSELY AFFECT RESULTS OF
OPERATIONS. The market for seismic data acquisition systems and seismic
instrumentation is highly competitive and is characterized by continual and
rapid changes in technology. The Company's principal competitors for land
seismic equipment are, among others, Fairfield Industries; Geo-X Systems,
Limited; JGI, Incorporated; OYO Geospace Corporation; and Societe d'etudes
Recherches et Construction Electroniques, an affiliate of Compagnie General
de Geophysique (Sercel). Unlike the Company, Sercel possesses the advantage
of being able to sell to an affiliated seismic contractor. The Company's
principal marine seismic competitors are, among others, Bolt Technology
Corporation, GeoScience Corporation, an affiliate of Tech-Sym Corporation;
Teledyne Brown Engineering, an affiliate of Allegheny Teledyne Company; and
Thomson Marconi Sonar P/L.
Competition in the industry is expected to intensify and could
adversely affect the Company's future results. Several of the Company's
competitors have greater name recognition, more extensive engineering,
manufacturing and marketing capabilities, and greater financial,
technological and personnel resources than those available to the relatively
high salesCompany. In
addition, certain companies in the industry have expanded their product lines
or technologies in recent years. There can be no assurance that the Company
will be able to compete successfully in the future with existing or new
competitors. Pressures from competitors offering lower-priced products or
products employing new technologies could result in future price reductions
for the Company's products.
A continuing trend toward consolidation, concentrating buying power
in the oil field services industry, will have the effect of adversely
affecting the demand for the Company's products and relatively low unit sales
volume, the timing in the shipment of systems and the mix of products sold
can produce fluctuations in quarter-to-quarter financial performance. One of
the factors which may affect the Company's operating results from time to
time is that a substantial portion of its net sales in any period may result
from shipments during the latter part of a period. Because the Company
establishes its sales and operating expense levels based on its operational
goals, if shipments in any period do not meet goals, net sales and net
earnings may be adversely affected. The Company believes that factors which
could affect such timing in shipments include, among others, seasonality of
end-user markets, availability of purchaser financing, manufacturing lead
times and shortages of system components. In addition, because the Company
typically operates, and expects to continue to operate, without a significant
backlog of orders for its products, the Company's manufacturing plans and
expenditure levels are based principally on sales forecasts, which could
result in inventory excesses and imbalances from time to time.services.
RISKS RELATED TO YEAR 2000 ISSUES. The problems actually encountered
by the Company in addressing its Year 2000 issues may be more pervasive than
anticipated by management, and if so, could have adverse effects on the
Company's operations, results of operations or financial condition. See "-Liquidity and Capital Resources -"-
Year 2000."
RISKS RELATEDFAILURE TO GROSS MARGIN. The Company's gross margin percentage
is a function of the product mix sold in any period. Increased sales of lower
margin equipment and related components in the overall sales mix may result
in lower gross margins. Other factors, such as unit volumes, inventory
obsolescence, increased warranty costs and other product related
contingencies, heightened price competition, changes in sales and
distribution channels, shortages in components due to untimely supplies or
inability to obtain items at reasonable prices, and unavailability of skilled
labor, may also continue to affect the cost of sales and the fluctuation of
gross margin percentages in future periods.
PROTECTION OFPROTECT INTELLECTUAL PROPERTY.PROPERTY WILL ADVERSELY AFFECT THE
COMPANY's Operations. The Company believes that technology is the primary
basis of competition in the industry. Although the Company currently holds
certain intellectual property rights relating to its product lines, there can
be no assurance that these rights will not be challenged by third parties or
that the Company will obtain additional patents or other intellectual
property rights in the future. Additionally, there can be no assurance that
the Company's efforts to protect its trade secrets will be successful or that
others will not independently develop products similar to the Company's
products or design around any of the intellectual property rights owned by
the Company, or that the Company will be 19
precluded by others' patent claims.
DISRUPTION IN VENDOR SUPPLIES.SUPPLIES WILL AFFECT FINANCIAL RESULTS. The
Company's manufacturing process requires a high volume of quality components.
Certain components used by the Company are currently provided by only one
supplier. In the future, the Company may, from time to time, experience
supply or quality control problems with its suppliers, and such problems
could significantly affect its ability to meet production and sales
commitments. The Company's reliance on certain suppliers, as well as industry
supply conditions generally, involve several risks, including the possibility
of a shortage or a lack of availability of key components, suppliers' Year
2000 non-compliance, increases in component costs and reduced control over
delivery schedules, any of which could adversely affect the Company's future
financial results.
20
DEPENDENCE ON PERSONNEL. The Company's success depends upon the
continued contributions of its personnel, many of whom would be difficult to
replace. The success of the Company will depend on the ability of the Company
to attract and retain skilled employees. Changes in personnel, therefore,
could adversely affect operating results.
RISKS RELATED TO GROSS MARGIN. The Company's gross margin percentage
is a function of the product mix sold in any period. Increased sales of lower
margin equipment and related components in the overall sales mix may result
in lower gross margins. Other factors, such as unit volumes, inventory
obsolescence, increased warranty costs and other product related
contingencies, heightened price competition, changes in sales and
distribution channels, shortages in components due to untimely supplies or
inability to obtain items at reasonable prices, and unavailability of skilled
labor, may also continue to affect the cost of sales and the fluctuation of
gross margin percentages in future periods.
RISKS RELATED TO GOVERNMENT REGULATIONS AND PRODUCT CERTIFICATION.
The Company's operations are also subject to laws, regulations, government
policies, and product certification requirements worldwide. Changes in such
laws, regulations, policies, or requirements could affect the demand for the
Company's products or result in the need to modify products, which may
involve substantial costs or delays in sales and could have an adverse effect
on the Company's future operating results. Certain countries are subject to
restrictions, sanctions and embargoes imposed by the US Government. These
restrictions, sanctions and embargoes prohibit or limit the Company and its
domestic subsidiaries from participating in certain business activities in
those countries. These constraints may adversely affect the Company's
opportunities for business in those countries.
RISKS RELATED TO TIMING OF PRODUCT SHIPMENTS COULD RESULT IN
SIGNIFICANT QUARTERLY FLUCTUATIONS. Due to the relatively high sales price of
many of the Company's products and relatively low unit sales volume, the
timing in the shipment of systems and the mix of products sold can produce
fluctuations in quarter-to-quarter financial performance. One of the factors,
which may affect the Company's operating results from time to time, is that a
substantial portion of its net sales in any period may result from shipments
during the latter part of a period. Because the Company establishes its sales
and operating expense levels based on its operational goals, if shipments in
any period do not meet goals, net sales and net earnings may be adversely
affected. In addition, because the Company typically operates, and expects to
continue to operate, without a significant backlog of orders for its
products, the Company's manufacturing plans and expenditure levels are based
principally on sales forecasts, which result in inventory excesses and
imbalances from time to time.
STOCK VOLATILITY AND ABSENCE OF DIVIDENDS.DIVIDENDS MAY ADVERSELY AFFECT THE
COMPANY's Stock Price. In recent years, the stock market in general and the
market for energy and technology stocks in particular, including the
Company's common stock,Common Stock, have experienced extreme price fluctuations. The
sales price for the Company's Common Stock has declined from $21 9/16$22 per share at
February 27,May 29, 1998 to $5 5/$7 3/8 per share at February 26,August 31, 1999 (based on New York Stock
Exchange composite tape closing sales prices). There is a risk that stock
price fluctuation could impact the Company's operations. Changes in the price
of the Company's common stockCommon Stock could affect the Company's ability to
successfully attract and retain qualified personnel, or complete desirable
business combinations or otheraccomplish financing or similar transactions in the
future. The Company has historically not paid, and does not intend to pay in
the foreseeable future, cash dividends on its capital
stock.Common Stock.
RISKS RELATED TO ACQUISITIONS. To implement its business plans, theThe Company may make further
acquisitions in the future. Acquisitions require significant financial and
management resources both at the time of the transaction and during the
process of integrating the newly acquired business into the Company's
operations. The Company's operating results could be adversely affected if it
is unable to successfully integrate these new
21
companies into its operations. Structural changes in the Company's internal
organization, which may result from acquisitions, may not always produce the
desired financial or operational results.
Certain acquisitions or strategic transactions may be subject to
approval by the other party's shareholders, United States or foreign
governmental agencies, or other third parties. Accordingly, there is a risk
that important acquisitions or transactions could fail to be concluded as
planned. Future acquisitions by the Company could also result in issuances of
equity securities or the rights associated with the equity securities, which
could potentially dilute earnings per share. In addition, future acquisitions
could result in the incurrence of additional debt, taxes, or contingent
liabilities, and amortization expenses related to goodwill and other
intangible assets. These factors could adversely affect the Company's future
operating results and financial position.
20
The foregoing review of factors pursuant to the Private Securities
Litigation Reform Act of 1995 should not be construed as exhaustive. In
addition to the foregoing, the Company wishes to refer readers to other
factors discussed elsewhere in this report as well as the Company's other
filings and reports with the Securities and Exchange Commission, including
its most recent Annual Reportannual report on Form 10-K, for a further discussion of risks
and uncertainties which could cause actual results to differ materially from
those contained in forward-looking statements. The Company undertakes no
obligation to publicly release the result of any revisions to any such
forward-looking statements, which may be made to reflect the events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk, which is the potential loss
arising from adverse changes in market prices and rates. The Company does not
yet requiredenter into derivative or other financial instruments for trading or
speculative purposes nor does the Company use or intend to provide the disclosures required
by Regulation S-K Item 305 pursuant to General Instruction 1. to Paragraphs
305(a), 305(b), 305(c), 305(d), and 305(e) of Item 305.use derivative
financial instruments or derivative commodity instruments. The Company's
market risk could arise from changes in foreign currency exchange rates. The
Company's sales and financial instruments are principally denominated in U.S. dollars and the
Company does not use or currently intend to use derivative financial
instruments or derivative commodity instruments.US
dollars.
PART II - OTHER INFORMATION.
ITEM 1. LEGAL PROCEEDINGS2. CHANGES IN SECURITIES AND USE OF PROCEEDS
ISSUANCE OF PREFERRED STOCK. On September 24, 1997,August 17, 1999, SCF-IV, L.P., a
purported class action lawsuit was filed
againstDelaware limited partnership ("SCF-IV), exercised its option to purchase
15,000 shares of Series C Preferred Stock, par value $0.01 per share (the
"Series C Preferred Stock"), under the option granted to SCF-IV by the
Company in connection with SCF-IV's purchase of 40,000 shares of Series B
Preferred Stock in a privately negotiated transaction in May 1999. The
purchase price paid for the Series C Preferred Stock was $1,000 per share,
resulting in net proceeds of approximately $14.8 million. The net cash
proceeds are to be used to fund the Company's research and development
projects, to provide additional working capital and for general corporate
purposes. On or before November 7, 2000, the Company may issue up to 20,000
additional shares of preferred stock ranking in parity to the Series B and
Series C Preferred Stock to other investors at a purchase price of $1,000 per
share ("Permitted Parity Securities"). The Series C Preferred Stock has
substantially the same terms and conditions as the Series B Preferred Stock,
except that the fixed conversion price for the Series C Preferred Stock is
$8.50 per share, compared to $8.00 per share for the Series B Preferred
Stock. The issuance of the Series C Preferred Stock and the former presidentunderlying shares
of Common Stock were exempt from the registration requirements of Section 5
of the Securities Act of 1933 in accordance with Section 4(2) of that Act.
22
VOTING OF PREFERRED STOCK. Holders of the Series B Preferred Stock
and chief executive officer,the Series C Preferred Stock, voting together with any Permitted Parity
Securities, are entitled to elect one member to the Company's Board of
Directors, and have elected David C. Baldwin as their designee. In addition,
the holders of the Series B Preferred Stock and the Series C Preferred Stock
are entitled to vote upon all matters upon which the holders of Common Stock
are entitled to vote. The holders of Series B and Series C Preferred Stock,
when voting together with the holders of Common Stock as a single class, are
entitled to cast a number of votes equal to $1,000 (plus any accrued and
unpaid dividends through the record date for determining shareholders
entitled to vote) divided by the fixed conversion price of $8.00 for the
Series B Preferred Stock and $8.50 for the Series C Preferred Stock (as
adjusted from time to time in accordance with the Certificate of Designation).
Accordingly, SCF-IV may be deemed to beneficially own 6,764,705
shares of Common Stock based on its ownership of 40,000 shares of Series B
Preferred Stock and 15,000 shares of Series C Preferred Stock. The 6,764,705
shares of Common Stock represent shares issuable to SCF-IV upon conversion of
(i) the Series B Preferred Stock based on an executive vice president,$8.00 fixed conversion price and
(ii) the Series C Preferred Stock based on an $8.50 fixed conversion price.
Such 6,764,705 shares of Common Stock would constitute approximately 11.8% of
the issued and outstanding Common Stock of the Company. This amount excludes
an indeterminate number of additional shares of Common Stock that may be
acquired by SCF-IV upon conversion of the Shares pursuant to market price
based conversions, or in respect of accrued and unpaid dividends.
TERMS OF SERIES C PREFERRED STOCK. The holders of Series C Preferred
Stock are entitled to receive cumulative cash dividends of $10.00 per share,
per annum (1% of the liquidation preference) for each share of Series C
Preferred Stock. Each share of Series C Preferred Stock is entitled to a
liquidation preference of $1,000 per share, plus all accrued and unpaid
dividends.
The Series C Preferred Stock is convertible at the holder's option
after the first to occur of any of the following (the "Initial Conversion
Date"): (i) May 7, 2002, (ii) the approval by the Board of Directors of the
Company of an agreement relating to a Business Combination (as defined) or
the consummation of a Business Combination, (iii) a tender offer for Common
Stock is approved or recommended by the Board of Directors of the Company or
(iv) the redemption, repurchase or reacquisition by the Company of rights
issued pursuant to the Company's Stockholder Rights Plan or any waiver of the
application of the Company's Stockholder Rights Plan to any beneficial owner
other than SCF-IV or its affiliates (except as approved by SCF-IV's
representative on the Board of Directors of the Company). After the Initial
Conversion Date and prior to the Mandatory Conversion Date (defined below),
the holders of Series C Preferred Stock will be entitled to convert their
shares into a number of fully paid and nonassessable shares of Common Stock
per share equal to, at the option of the holder, one of, or if not specified
by the holder, at the greater of, the following (such amount being referred
to as the "Conversion Ratio Amount"): (a) the quotient of $1,000 (plus any
accrued and unpaid dividends through the record date for determining
stockholders entitled to vote) divided by the fixed conversion price of $8.50
(as adjusted from time to time in accordance with certain anti-dilution
provisions) or (b) the U.S. District Courtquotient of $1,000 increased at a rate of eight
percent per annum from August 17, 1999, compounded quarterly, less the amount
of cash dividends actually paid through the applicable conversion date (the
"Adjusted Stated Value"), divided by the average market price for the Southern DistrictCommon
Stock during the ten trading day period prior to the date of Texas, Houston Division. Theconversion.
On May 7, 2004 (the "Mandatory Conversion Date"), each outstanding
share of Series C Preferred Stock shall, without any action styled NORMAN
TOCK V. INPUT/OUTPUT, INC., GARY D. OWENS AND ROBERT P. BRINDLEY, alleged
violations of Sections 10(b) and 20(a)on the part of
the Securities Exchange Actholder, be converted automatically into a number of 1934,fully paid and
state statutory and common law fraud provisions. By Memorandum
Opinion issued and Final Judgment entered on December 31, 1998,nonassessable shares of Common Stock equal to the U.S.
District Court forConversion Ratio Amount,
provided that a
23
shelf registration statement to be filed with the Southern DistrictSEC covering those shares
of Texas, Houston Division ordered
that the defendants' motion to dismiss the amended complaint be granted,
ordered that the federal securities fraud claims be dismissed with prejudice,
and denied the plaintiff's request for leave to further amend the complaint.
The period for appeal of this judgmentCommon Stock has expired. The state law claims were
dismissed without prejudice to their being refiled in the appropriate state
court.been declared effective.
In the ordinary courseevent of business,a conversion of Series C Preferred Stock pursuant to
which the Conversion Ratio Amount is determined using clause (b) above, then,
provided that full cumulative dividends have been paid or declared and set
apart for payment upon all outstanding shares of Series C Preferred Stock for
all past dividend periods, the Company has been namedmay redeem for cash up to 50% (or such
greater percentage as the holders shall agree) of the shares of Series C
Preferred Stock surrendered for conversion at a redemption price per share
equal to the Adjusted Stated Value , in other various lawsuits or threatened actions. While the final resolutionlieu of these matters may have an impact on the Company's consolidated financial
results for a particular reporting period, management believes that the
ultimate resolution of these matters will not have a material adverse impact
on the Company's financial position, results of operations or liquidity.conversion.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
List of documents filed as Exhibits.
(a) List of documents filed as Exhibits.
3.1 - Amendment No. 1 to the Amended and Restated Bylaws
of the Company, dated September 13, 1999.
10.1 - Employee Agreement by and between the Company and
Axel M. Sigmar, dated August 17, 1999.
10.2 - Amendment No. 3 to the Input/Output, Inc.
Supplemental Executive Retirement Plan, dated
August 23, 1999.
10.3 - Amendment No. 2 to the Input/Output, Inc. Amended
and Restated 1991 Directors Stock Option Plan,
dated September 13, 1999.
10.4 - Amendment No. 1 to the Input/Output, Inc. Amended
and Restated 1996 Non-Employee Director Stock
Option Plan, dated September 13, 1999.
10.5 - Consulting and Collection Agreement by and
between the Company and Robert P. Brindley, dated
October 7, 1999.
10.6 - Consulting Agreement by and between the Company
and Sam K. Smith, dated August 10, 1999.
27.1 - Financial Data Schedule (included in EDGAR copy
only)
(b) Reports on Form 8-K
No Current Reports on Form 8-K were filed during the
three
monththree-month period ended February 28,August 31, 1999.
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SIGNATURE
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THE
REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE
UNDERSIGNED THEREUNTO DULY AUTHORIZED.
INPUT/OUTPUT, INC.
By: /s/ Ronald A. HarrisSam K. Smith
------------------------------------
Ronald A. Harris
Vice PresidentSam K. Smith
Director and Controller
(Chief Accounting Officer)Chief Executive Officer
Dated: AprilOctober 14, 1999
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