UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
☒ | ||
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended
OR
☐ | |
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from
to000-32743
(Commission File Number)
DASAN ZHONE SOLUTIONS, INC.
(Exact name of registrant as specified in its charter)
Delaware | 22-3509099 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) | |
1350 South Loop Road, Suite 130 Alameda, California | 94502 | |
(Address of principal executive offices) | (Zip code) |
(510) 777-7000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of each exchange on which registered |
Common stock, $0.001 par value | DZSI | The Nasdaq Stock Market LLC |
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒x No ☐¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒x No ☐¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,”filer”, “accelerated filer,”filer”, “smaller reporting company,”company”, and “emerging growth company” in Rulerule 12b-2 of the Exchange Act (Check one
Large accelerated filer | ☐ | Accelerated filer | ☒ | |
Non-accelerated filer | ☐ | Smaller reporting company | ☒ | |
Emerging growth company | ☐ |
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes☐¨ No ☒x
As of May 5, 2020 there were 21,513,373 shares outstanding of the registrant’s common stock, $0.001 par value. |
TABLE OF CONTENTS
Page | ||||
PART I. FINANCIAL INFORMATION | ||||
Item 1. | 3 | |||
3 | ||||
4 | ||||
5 | ||||
6 | ||||
7 | ||||
Item 2. | 23 | |||
Item 3. | 32 | |||
Item 4. | 32 | |||
PART II. OTHER INFORMATION | ||||
Item 1. | 33 | |||
Item 1A. | 33 | |||
Item | 50 | |||
Item 6. | 50 | |||
52 |
PART I. FINANCIALFINANCIAL INFORMATION
DASAN ZHONE SOLUTIONS, INC. AND SUBSIDIARIES
(In thousands, except par value)
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
Assets |
|
|
|
|
|
|
|
|
Current assets: |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
| $ | 26,437 |
|
| $ | 28,747 |
|
Restricted cash |
|
| 9,281 |
|
|
| 4,646 |
|
Accounts receivable - trade, net of allowance for doubtful accounts of $417 as of March 31, 2020 and $393 as of December 31, 2019 |
|
| 86,270 |
|
|
| 96,865 |
|
Other receivables |
|
| 10,020 |
|
|
| 8,124 |
|
Contract assets |
|
| 3,128 |
|
|
| 16,680 |
|
Inventories |
|
| 39,912 |
|
|
| 35,439 |
|
Prepaid expenses and other current assets |
|
| 5,974 |
|
|
| 4,185 |
|
Total current assets |
|
| 181,022 |
|
|
| 194,686 |
|
Property, plant and equipment, net |
|
| 6,716 |
|
|
| 6,769 |
|
Right-of-use assets from operating leases |
|
| 18,778 |
|
|
| 20,469 |
|
Goodwill |
|
| 3,977 |
|
|
| 3,977 |
|
Intangible assets, net |
|
| 11,464 |
|
|
| 12,381 |
|
Deferred tax assets |
|
| 2,364 |
|
|
| 1,622 |
|
Other assets |
|
| 5,053 |
|
|
| 6,243 |
|
Total assets |
| $ | 229,374 |
|
| $ | 246,147 |
|
Liabilities and Stockholders’ Equity |
|
|
|
|
|
|
|
|
Current liabilities: |
|
|
|
|
|
|
|
|
Accounts payable - trade |
| $ | 35,634 |
|
| $ | 38,427 |
|
Short-term debt - bank and trade facilities |
|
| 12,323 |
|
|
| 17,484 |
|
Other payables |
|
| 1,966 |
|
|
| 3,278 |
|
Contract liabilities - current |
|
| 3,305 |
|
|
| 3,567 |
|
Operating lease liabilities - current |
|
| 4,005 |
|
|
| 4,201 |
|
Accrued and other liabilities |
|
| 10,203 |
|
|
| 12,844 |
|
Total current liabilities |
|
| 67,436 |
|
|
| 79,801 |
|
Long-term debt |
|
|
|
|
|
|
|
|
Bank and trade facilities |
|
| — |
|
|
| 9,937 |
|
Related party |
|
| 27,348 |
|
|
| 9,096 |
|
Contract liabilities - non-current |
|
| 3,152 |
|
|
| 3,230 |
|
Operating lease liabilities - non-current |
|
| 16,667 |
|
|
| 18,154 |
|
Pension liabilities |
|
| 15,768 |
|
|
| 17,671 |
|
Other long-term liabilities |
|
| 1,714 |
|
|
| 1,710 |
|
Total liabilities |
|
| 132,085 |
|
|
| 139,599 |
|
Commitments and contingencies (Note 15) |
|
|
|
|
|
|
|
|
Stockholders’ equity: |
|
|
|
|
|
|
|
|
Common stock, authorized 36,000 shares, 21,513 and 21,419 shares outstanding as of March 31, 2020 and December 31, 2019, respectively, at $0.001 par value |
|
| 21 |
|
|
| 21 |
|
Additional paid-in capital |
|
| 141,191 |
|
|
| 139,700 |
|
Accumulated other comprehensive loss |
|
| (5,918 | ) |
|
| (3,939 | ) |
Accumulated deficit |
|
| (38,005 | ) |
|
| (29,234 | ) |
Total stockholders’ equity |
|
| 97,289 |
|
|
| 106,548 |
|
Total liabilities and stockholders’ equity |
| $ | 229,374 |
|
| $ | 246,147 |
|
September 30, 2017 | December 31, 2016 | ||||||
Assets | |||||||
Current assets: | |||||||
Cash and cash equivalents | $ | 10,145 | $ | 17,893 | |||
Restricted cash | 13,058 | 6,650 | |||||
Short-term investments | — | 993 | |||||
Accounts receivable, net of allowances for sales returns and doubtful accounts of $2,095 as of September 30, 2017 and $1,143 as of December 31, 2016: | |||||||
Trade receivables | 43,478 | 38,324 | |||||
Related parties | 12,941 | 13,311 | |||||
Other receivables: | |||||||
Others | 13,851 | 12,068 | |||||
Related parties | 22 | 171 | |||||
Inventories | 31,966 | 31,032 | |||||
Prepaid expenses and other current assets | 3,198 | 4,131 | |||||
Total current assets | 128,659 | 124,573 | |||||
Property and equipment, net | 5,812 | 6,288 | |||||
Goodwill | 3,977 | 3,977 | |||||
Intangible assets, net | 7,174 | 8,767 | |||||
Other assets | 1,536 | 1,842 | |||||
Total assets | $ | 147,158 | $ | 145,447 | |||
Liabilities, Stockholders’ Equity and Non-controlling Interest | |||||||
Current liabilities: | |||||||
Accounts payable: | |||||||
Others | $ | 35,224 | $ | 30,681 | |||
Related parties | 106 | 430 | |||||
Short-term debt: | |||||||
Others | 18,382 | 17,599 | |||||
Related parties | 3,544 | — | |||||
Other payables: | |||||||
Others | 1,691 | 2,040 | |||||
Related parties | 210 | 6,940 | |||||
Deferred revenue | 2,073 | 1,901 | |||||
Accrued and other liabilities | 10,108 | 8,163 | |||||
Total current liabilities | 71,338 | 67,754 | |||||
Long-term debt - related parties | 5,000 | 6,800 | |||||
Deferred revenue | 1,875 | 1,674 | |||||
Other long-term liabilities | 2,581 | 2,351 | |||||
Total liabilities | 80,794 | 78,579 | |||||
Commitments and contingencies (Note 11) | |||||||
Stockholders’ equity and non-controlling interest: | |||||||
Common stock, authorized 36,000 shares, 16,387 shares and 16,375 shares outstanding as of September 30, 2017 and December 31, 2016 at $0.001 par value | 16 | 16 | |||||
Additional paid-in capital | 89,873 | 89,174 | |||||
Other comprehensive income (loss) | (1,052 | ) | (2,815 | ) | |||
Accumulated deficit | (23,080 | ) | (19,923 | ) | |||
Total stockholders’ equity | 65,757 | 66,452 | |||||
Non-controlling interest | 607 | 416 | |||||
Total stockholders’ equity and non-controlling interest | 66,364 | 66,868 | |||||
Total liabilities, stockholders’ equity and non-controlling interest | $ | 147,158 | $ | 145,447 |
See accompanying notes to unaudited condensed consolidated financial statements.
(In thousands, except per share data)
|
| Three Months Ended |
| |||||
|
| March 31, |
| |||||
|
| 2020 |
|
| 2019 |
| ||
Net revenue: |
|
|
|
|
|
|
|
|
Third parties |
| $ | 47,318 |
|
| $ | 73,234 |
|
Related parties |
|
| 162 |
|
|
| 855 |
|
Total net revenue |
|
| 47,480 |
|
|
| 74,089 |
|
Cost of revenue: |
|
|
|
|
|
|
|
|
Products and services - third parties |
|
| 30,956 |
|
|
| 48,172 |
|
Products and services - related parties |
|
| 133 |
|
|
| 639 |
|
Amortization of intangible assets |
|
| 396 |
|
|
| 408 |
|
Total cost of revenue |
|
| 31,485 |
|
|
| 49,219 |
|
Gross profit |
|
| 15,995 |
|
|
| 24,870 |
|
Operating expenses: |
|
|
|
|
|
|
|
|
Research and product development |
|
| 9,600 |
|
|
| 10,184 |
|
Selling, marketing, general and administrative |
|
| 13,617 |
|
|
| 15,039 |
|
Amortization of intangible assets |
|
| 372 |
|
|
| 472 |
|
Total operating expenses |
|
| 23,589 |
|
|
| 25,695 |
|
Operating loss |
|
| (7,594 | ) |
|
| (825 | ) |
Interest income |
|
| 70 |
|
|
| 88 |
|
Interest expense |
|
| (643 | ) |
|
| (871 | ) |
Loss on extinguishment of debt |
|
| (1,369 | ) |
|
| — |
|
Other income, net |
|
| 760 |
|
|
| 228 |
|
Loss before income taxes |
|
| (8,776 | ) |
|
| (1,380 | ) |
Income tax (benefit) provision |
|
| (5 | ) |
|
| 77 |
|
Net loss |
|
| (8,771 | ) |
|
| (1,457 | ) |
Net income attributable to non-controlling interest |
|
| — |
|
|
| 181 |
|
Net loss attributable to DASAN Zhone Solutions, Inc. |
|
| (8,771 | ) |
|
| (1,638 | ) |
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustments |
|
| (3,435 | ) |
|
| (1,124 | ) |
Actuarial gain |
|
| 1,456 |
|
|
| — |
|
Comprehensive loss |
|
| (10,750 | ) |
|
| (2,581 | ) |
Comprehensive loss attributable to non- controlling interest |
|
| — |
|
|
| 180 |
|
Comprehensive loss attributable to DASAN Zhone Solutions, Inc. |
| $ | (10,750 | ) |
| $ | (2,761 | ) |
|
|
|
|
|
|
|
|
|
Net loss per share attributable to DASAN Zhone Solutions, Inc. |
|
|
|
|
|
|
|
|
Basic |
| $ | (0.41 | ) |
| $ | (0.10 | ) |
Diluted |
| $ | (0.41 | ) |
| $ | (0.10 | ) |
Weighted average shares outstanding used to compute basic net loss per share |
|
| 21,474 |
|
|
| 16,593 |
|
Weighted average shares outstanding used to compute diluted net loss per share |
|
| 21,474 |
|
|
| 16,593 |
|
Three Months Ended | Nine Months Ended | ||||||||||||||
September 30, | September 30, | ||||||||||||||
2017 | 2016 | 2017 | 2016 | ||||||||||||
Net revenue: | |||||||||||||||
Net revenue | $ | 60,513 | $ | 24,772 | $ | 150,834 | $ | 68,424 | |||||||
Net revenue - related parties | 5,925 | 6,468 | 27,657 | 22,408 | |||||||||||
Total net revenue | 66,438 | 31,240 | 178,491 | 90,832 | |||||||||||
Cost of revenue: | |||||||||||||||
Products and services | 38,643 | 16,483 | 96,127 | 48,750 | |||||||||||
Products and services - related parties | 5,569 | 5,406 | 22,851 | 19,118 | |||||||||||
Amortization of intangible assets | 153 | 51 | 459 | 51 | |||||||||||
Total cost of revenue | 44,365 | 21,940 | 119,437 | 67,919 | |||||||||||
Gross profit | 22,073 | 9,300 | 59,054 | 22,913 | |||||||||||
Operating expenses: | |||||||||||||||
Research and product development | 8,804 | 5,885 | 27,028 | 15,583 | |||||||||||
Selling, marketing, general and administrative | 11,454 | 8,278 | 32,506 | 16,691 | |||||||||||
Amortization of intangible assets | 154 | 251 | 1,191 | 259 | |||||||||||
Total operating expenses | 20,412 | 14,414 | 60,725 | 32,533 | |||||||||||
Operating income (loss) | 1,661 | (5,114 | ) | (1,671 | ) | (9,620 | ) | ||||||||
Interest income | 36 | 31 | 82 | 137 | |||||||||||
Interest expense | (263 | ) | (204 | ) | (793 | ) | (600 | ) | |||||||
Other income (loss), net | 60 | (112 | ) | 43 | (41 | ) | |||||||||
Income (loss) before income taxes | 1,494 | (5,399 | ) | (2,339 | ) | (10,124 | ) | ||||||||
Income tax expense (benefit) | 107 | (610 | ) | 646 | (1,041 | ) | |||||||||
Net income (loss) | 1,387 | (4,789 | ) | (2,985 | ) | (9,083 | ) | ||||||||
Net income (loss) attributable to non-controlling interest | (12 | ) | (56 | ) | 172 | (17 | ) | ||||||||
Net income (loss) attributable to DASAN Zhone Solutions, Inc. | $ | 1,399 | $ | (4,733 | ) | $ | (3,157 | ) | $ | (9,066 | ) | ||||
Foreign currency translation adjustments | (284 | ) | 2,291 | 1,782 | 2,690 | ||||||||||
Comprehensive income (loss) | 1,103 | (2,498 | ) | (1,203 | ) | (6,393 | ) | ||||||||
Comprehensive income (loss) attributable to non-controlling interest | (14 | ) | (54 | ) | 191 | 48 | |||||||||
Comprehensive income (loss) attributable to DASAN Zhone Solutions, Inc. | $ | 1,117 | $ | (2,444 | ) | $ | (1,394 | ) | $ | (6,441 | ) | ||||
Basic and diluted net income (loss) per share attributable to DASAN Zhone Solutions, Inc. | $ | 0.09 | $ | (0.42 | ) | $ | (0.19 | ) | $ | (0.90 | ) | ||||
Weighted average shares outstanding used to compute basic and diluted net income (loss) per share | 16,382 | 11,139 | 16,380 | 10,046 | |||||||||||
See accompanying notes to unaudited condensed consolidated financial statements.
(In thousands)thousands, except per share data)
|
| Common stock |
|
| Additional paid-in |
|
| Accumulated other comprehensive |
|
| Accumulated |
|
| Total stockholders' |
|
| Non- controlling |
|
| Total stockholders' equity and non- controlling |
| |||||||||||
|
| Shares |
|
| Amount |
|
| capital |
|
| income (loss) |
|
| deficit |
|
| equity |
|
| interest |
|
| interest |
| ||||||||
For the Three-Month Period Ended March 31, 2020: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2019 |
|
| 21,419 |
|
| $ | 21 |
|
| $ | 139,700 |
|
| $ | (3,939 | ) |
| $ | (29,234 | ) |
| $ | 106,548 |
|
| $ | — |
|
| $ | 106,548 |
|
Exercise of stock options and restricted stock grant |
|
| 94 |
|
|
| — |
|
|
| 709 |
|
|
| — |
|
|
| — |
|
|
| 709 |
|
|
| — |
|
|
| 709 |
|
Stock-based compensation |
|
| — |
|
|
| — |
|
|
| 782 |
|
|
| — |
|
|
| — |
|
|
| 782 |
|
|
| — |
|
|
| 782 |
|
Net loss |
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| (8,771 | ) |
|
| (8,771 | ) |
|
| — |
|
|
| (8,771 | ) |
Other comprehensive loss |
|
| — |
|
|
| — |
|
|
| — |
|
|
| (1,979 | ) |
|
| — |
|
|
| (1,979 | ) |
|
| — |
|
|
| (1,979 | ) |
Balance as of March 31, 2020 |
|
| 21,513 |
|
| $ | 21 |
|
| $ | 141,191 |
|
| $ | (5,918 | ) |
| $ | (38,005 | ) |
| $ | 97,289 |
|
| $ | — |
|
| $ | 97,289 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three-Month Period Ended March 31, 2019: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2018 |
|
| 16,587 |
|
| $ | 16 |
|
| $ | 93,192 |
|
| $ | (192 | ) |
| $ | (15,777 | ) |
| $ | 77,239 |
|
| $ | 615 |
|
| $ | 77,854 |
|
Stock-based compensation |
|
| 9 |
|
|
| — |
|
|
| 825 |
|
|
| — |
|
|
| — |
|
|
| 825 |
|
|
| — |
|
|
| 825 |
|
Net loss |
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| (1,638 | ) |
|
| (1,638 | ) |
|
| 181 |
|
|
| (1,457 | ) |
Other comprehensive loss |
|
| — |
|
|
| — |
|
|
| — |
|
|
| (1,124 | ) |
|
| — |
|
|
| (1,124 | ) |
|
| (1 | ) |
|
| (1,125 | ) |
Balance as of March 31, 2019 |
|
| 16,596 |
|
| $ | 16 |
|
| $ | 94,017 |
|
| $ | (1,316 | ) |
| $ | (17,415 | ) |
| $ | 75,302 |
|
| $ | 795 |
|
| $ | 76,097 |
|
Nine Months Ended | |||||||
September 30, | |||||||
2017 | 2016 | ||||||
Cash flows from operating activities: | |||||||
Net loss | $ | (2,985 | ) | $ | (9,083 | ) | |
Adjustments to reconcile net loss to net cash provided by (used in) operating activities: | |||||||
Depreciation and amortization | 3,105 | 1,164 | |||||
Stock-based compensation | 670 | 128 | |||||
Unrealized gain (loss) on foreign currency transactions | (185 | ) | 1,655 | ||||
Deferred taxes | — | (1,069 | ) | ||||
Changes in operating assets and liabilities: | — | ||||||
Accounts receivable | (2,948 | ) | 14,450 | ||||
Inventories | (578 | ) | (4,107 | ) | |||
Prepaid expenses and other assets | (101 | ) | 2,320 | ||||
Accounts payable | 6,713 | (5,814 | ) | ||||
Accrued expenses | (4,314 | ) | 13,598 | ||||
Net cash provided by (used in) operating activities | (623 | ) | 13,242 | ||||
Cash flows from investing activities: | |||||||
Cash increase through Merger | — | 7,013 | |||||
Increase in restricted cash | (6,061 | ) | (947 | ) | |||
Decrease in short-term and long-term loans to others | — | 1,891 | |||||
Increase in short-term and long-term loans to others | — | (1,386 | ) | ||||
Proceeds from sale of short-term investments | 1,463 | — | |||||
Purchase of short-term investments | (430 | ) | — | ||||
Proceeds from disposal of property and equipment and other assets | 6 | 98 | |||||
Purchase of property and equipment | (840 | ) | (370 | ) | |||
Purchase of intangible asset | (72 | ) | (92 | ) | |||
Net cash provided by (used in) investing activities | (5,934 | ) | 6,207 | ||||
Cash flows from financing activities: | |||||||
Repayments of borrowings | (15,627 | ) | (23,088 | ) | |||
Proceeds from short-term borrowings | 13,778 | 19,769 | |||||
Proceeds from long-term borrowings | — | 6,800 | |||||
Proceeds from issuance of common stock | 28 | — | |||||
Net cash provided by (used in) financing activities | (1,821 | ) | 3,481 | ||||
Effect of exchange rate changes on cash | 630 | 1,538 | |||||
Net increase (decrease) in cash and cash equivalents | (7,748 | ) | 24,468 | ||||
Cash and cash equivalents at beginning of period | 17,893 | 9,095 | |||||
Cash and cash equivalents at end of period | $ | 10,145 | $ | 33,563 |
See accompanying notes to unaudited condensed consolidated financial statements.
DASAN ZHONE SOLUTIONS, INC. AND SUBSIDIARIES
Unaudited Condensed Consolidated Statements of Cash Flows
(In thousands)
|
| Three Months Ended |
| |||||
|
| March 31, |
| |||||
|
| 2020 |
|
| 2019 |
| ||
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
Net loss |
| $ | (8,771 | ) |
| $ | (1,457 | ) |
Adjustments to reconcile net loss to net cash Provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
| 1,256 |
|
|
| 1,417 |
|
Loss on extinguishment of debt |
|
| 1,343 |
|
|
| — |
|
Amortization of deferred financing costs |
|
| 141 |
|
|
| 73 |
|
Bargain purchase gain on acquisition |
|
| — |
|
|
| (334 | ) |
Stock-based compensation |
|
| 782 |
|
|
| 825 |
|
Provision for inventory write-down |
|
| 1,421 |
|
|
| 14 |
|
Allowance for doubtful accounts |
|
| 24 |
|
|
| 223 |
|
Provision for sales returns |
|
| (231 | ) |
|
| 218 |
|
Unrealized gain on foreign currency transactions |
|
| (1,983 | ) |
|
| (95 | ) |
Deferred taxes |
|
| (820 | ) |
|
| 19 |
|
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
Accounts receivable |
|
| 9,109 |
|
|
| 7,930 |
|
Contract assets |
|
| 14,129 |
|
|
| (6,967 | ) |
Inventories |
|
| (7,048 | ) |
|
| 3,828 |
|
Prepaid expenses and other assets |
|
| (3,285 | ) |
|
| (207 | ) |
Accounts payable |
|
| (1,261 | ) |
|
| (3,966 | ) |
Contract liabilities |
|
| (275 | ) |
|
| (5,166 | ) |
Accrued and other liabilities |
|
| (3,937 | ) |
|
| (1,331 | ) |
Net cash provided by (used in) operating activities |
|
| 594 |
|
|
| (4,976 | ) |
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
Purchases of property, plant and equipment |
|
| (560 | ) |
|
| (109 | ) |
Acquisition of business, net of cash acquired |
|
| — |
|
|
| (4,697 | ) |
Net cash used in investing activities |
|
| (560 | ) |
|
| (4,806 | ) |
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
Proceeds from short-term borrowings and line of credit |
|
| 1,307 |
|
|
| 4,324 |
|
Repayments of short-term borrowings and line of credit |
|
| (4,167 | ) |
|
| — |
|
Proceeds from long-term borrowings |
|
| — |
|
|
| 25,000 |
|
Repayments of borrowings |
|
| (13,125 | ) |
|
| (17,052 | ) |
Proceeds from related party term loan |
|
| 18,361 |
|
|
| — |
|
Repayments of related party term loan |
|
| — |
|
|
| (5,000 | ) |
Deferred financing costs |
|
| — |
|
|
| (2,184 | ) |
Proceeds from exercise of stock options |
|
| 709 |
|
|
| — |
|
Net cash provided by financing activities |
|
| 3,085 |
|
|
| 5,088 |
|
Effect of exchange rate changes on cash, cash equivalents, and restricted cash |
|
| (873 | ) |
|
| (306 | ) |
Net increase in cash, cash equivalents and restricted cash |
|
| 2,246 |
|
|
| (5,000 | ) |
Cash, cash equivalents and restricted cash at beginning of period |
|
| 33,635 |
|
|
| 35,648 |
|
Cash, cash equivalents and restricted cash at end of period |
| $ | 35,881 |
|
| $ | 30,648 |
|
|
|
|
|
|
|
|
|
|
Reconciliation of cash, cash equivalents and restricted cash to statement of financial position |
| $ | 26,437 |
|
| $ | 20,872 |
|
Cash and cash equivalents |
|
| 9,281 |
|
|
| 9,165 |
|
Restricted cash |
|
| 163 |
|
|
| 611 |
|
Long-term restricted cash |
| $ | 35,881 |
|
| $ | 30,648 |
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information: |
|
|
|
|
|
|
|
|
Shares of the Company's common stock held in escrow |
|
| — |
|
|
| — |
|
Cash paid during the period for: |
|
|
|
|
|
|
|
|
Interest - bank and trade facilities |
| $ | 424 |
|
| $ | 642 |
|
Interest - related party |
| $ | 152 |
|
| $ | 173 |
|
Income taxes |
| $ | 1,504 |
|
| $ | 589 |
|
See accompanying notes to unaudited condensed consolidated financial statements.
(1) | Organization and Summary of Significant Accounting Policies |
(a) | Description of Business |
DASAN Zhone Solutions, Inc. (formerly known as Zhone Technologies, Inc. and referred(referred to, collectively with its subsidiaries, as "DZS"“DZS” or the "Company"“Company”) is a global provider of ultra-broadband network access solutions and communications equipment forplatforms deployed by advanced Tier 1, 2 and 3 service providerproviders and enterprise networks.customers. The Company provides a wide array of reliable, cost-effective networking technologies, including broadband access, Ethernet switching, mobile backhaul, Passive Optical LAN and software-defined networks, to a diverse customer base that includes more than 1,0001,200 customers in more than 50120 countries worldwide.
DZS was incorporated under the laws of the state of Delaware in June 1999. On September 9, 2016,1999, under the Company acquired Dasan Network Solutions, Inc. ("DNS") through the merger of a wholly owned subsidiary of the Company with and into DNS, with DNS surviving as a wholly owned subsidiary of the Company (the "Merger"). At the effective time of the Merger, all issued and outstanding shares of capital stock of DNS held by DASAN Networks, Inc. ("DNI") were canceled and converted into the right to receive shares of the Company's common stock in an amount equal to 58% of the issued and outstanding shares of the Company's common stock immediately following the Merger. In connection with the Merger, the Company changed its name from Zhone Technologies, Inc. to DASAN Zhone Solutions, Inc. For periods through September 8, 2016, Zhone Technologies, Inc. is referred to as "Legacy Zhone." The Company’s common stock continues to be traded on the Nasdaq Capital Market, and the Company’s ticker symbol was changed from "ZHNE" to "DZSI" effective September 12, 2016. The Company is headquartered in Oakland, California.
(b) |
Basis of Presentation |
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principlesU.S. GAAP for interim financial information and with the instructions to Form 10-Q and Article 108 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principlesU.S. GAAP for complete financial statements.
The unaudited condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) that, in the opinion of management, are necessary for a fair presentation of the results for the interim periods presented. All intercompany transactions and balances have been eliminated in consolidation. The results of operations for the current interim period are not necessarily indicative of results to be expected for
(c) | Risks and Uncertainties |
The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with U.S. GAAP, assuming the Company will continue as a reverse acquisition for accounting purposes, with DNS as the acquirergoing concern.
The Company had net loss of the Company. As such, the consolidated financial results of the Company$8.8 million for the three and nine months ended September 30, 2017 are compared to the financial results for DNSMarch 31, 2020, and its consolidated subsidiariesa net loss of $13.3 million for the year ended December 31, 2019. Additionally, the Company incurred significant losses in years prior year period through September 8, 2016to 2019. As of March 31, 2020, the Company had an accumulated deficit of $38.0 million and working capital of $113.5 million. As of March 31, 2020, the Company had $26.4 million in cash and cash equivalents, which included $8.7 million in cash balances held by its international subsidiaries, and $39.7 million in aggregate principal debt of which $12.3 million was reflected in current liabilities.
The Company’s liquidity could be impacted by:
its vulnerability to adverse economic conditions in its industry or the economy in general;
debt servicing requiring substantial amounts of cash, rather than being available for other purposes, including operations;
its ability to plan for, or react to, changes in its business and industry; and
investor and customer perceptions about its financial stability and limiting its ability to obtain financing or acquire customers.
The Company’s ability to meet its obligations as they become due in the ordinary course of business for the next twelve (12) months will depend on its ability to (i) achieve forecasted results of DZS and its consolidated subsidiaries for the period from September 9, 2016operations, (ii) access funds approved under existing or new credit facilities and/or raise additional capital through September 30, 2016. The balance sheet of the Company reflects the fair value of the assets and liabilities of Legacy Zhone as of the effective date of the Merger. Those assets include the fair value of acquired intangible assets and goodwill. Due to the foregoing, the Company’s financial results for the three and nine months ended September 30, 2017 are not comparable to its financial results for the three and nine months ended September 30, 2016.
In December 2019, a strain of coronavirus, now known as COVID-19, was reduced from approximately 81.9 millionreported to approximately 16.4 million. References to shareshave surfaced in Wuhan, China. Since that time, the widespread and sustained transmission of the virus has reached global pandemic status. In response to the pandemic, many national and international health agencies have recommended, and many countries and state, provincial and local governments have implemented, various measures, including travel bans and restrictions, limitations on public and private gatherings, business closures or operating restrictions, social distancing, and shelter-in-place orders. The health effects of the pandemic and the above measures taken in response thereto have had an effect on the global economy in general and has materially impacted and will likely continue to impact the Company’s financial condition, results of operations and cash flows. Given the ongoing and dynamic nature of the virus and the worldwide response related thereto, it is difficult to predict the full impact of the COVID-19 outbreak on our business. Due to the uncertainty around the future economic impact of the pandemic, the fair value measurements used in the Company’s impairment assessments could be negatively impacted and could result in future impairments of goodwill, intangibles and other long-lived assets. During the quarter ended March 31, 2020, the Company’s revenues declined relative to its prior expectations, in part due to the COVID-19 pandemic. The impact of a continued COVID-19 outbreak or sustained measures taken to limit or contain the outbreak could continue to have a material adverse effect on our business, financial condition, results of operations, and cash flows.
Based on the Company's common stock, stock options (and associated exercise price)current plans and restricted stock units incurrent business conditions, as of the date of this Quarterly Report on Form 10-Q, are providedthe Company believes that its existing cash, cash equivalents and available credit facilities will be sufficient to satisfy its anticipated cash requirements for at least the next twelve months from the date of this Quarterly Report on a post-reverse stock split basis.Form 10-Q.
(d) | Use of Estimates |
The preparation of the condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ materially from those estimates.
(e) | Revenue Disaggregation Information |
The following table presents the revenues by source (in thousands):
|
| Three Months Ended |
| |||||
|
| March 31, |
| |||||
|
| 2020 |
|
| 2019 |
| ||
Revenue by source: |
|
|
|
|
|
|
|
|
Products |
| $ | 40,644 |
|
| $ | 69,582 |
|
Services |
|
| 6,836 |
|
|
| 4,507 |
|
Total |
| $ | 47,480 |
|
| $ | 74,089 |
|
The following summarizes required disclosures about geographical concentrations (in thousands):
|
| Three Months Ended |
| |||||
|
| March 31, |
| |||||
|
| 2020 |
|
| 2019 |
| ||
Revenue by geography: |
|
|
|
|
|
|
|
|
United States |
| $ | 7,598 |
|
| $ | 9,578 |
|
Canada |
|
| 767 |
|
|
| 923 |
|
Total North America |
|
| 8,365 |
|
|
| 10,501 |
|
Latin America |
|
| 2,241 |
|
|
| 6,585 |
|
Europe, Middle East, Africa |
|
| 12,447 |
|
|
| 18,414 |
|
Korea |
|
| 9,624 |
|
|
| 15,851 |
|
Other Asia Pacific |
|
| 14,803 |
|
|
| 22,738 |
|
Total International |
|
| 39,115 |
|
|
| 63,588 |
|
Total |
| $ | 47,480 |
|
| $ | 74,089 |
|
Contract Balances
The Company records contract assets when it has a right to consideration and records accounts receivable when it has an unconditional right to consideration. Contract liabilities consist of cash payments received (or unconditional rights to receive cash) in advance of fulfilling performance obligations.
The opening and closing balances of contract assets and contract liabilities related to contracts with customers are as follows:
|
| Contract Assets |
|
| Contract Liabilities |
| ||
December 31, 2019 |
| $ | 16,680 |
|
| $ | 6,797 |
|
March 31, 2020 |
|
| 3,128 |
|
|
| 6,457 |
|
Decrease |
| $ | (13,552 | ) |
| $ | (340 | ) |
The decrease in contract liabilities during the three months ended March 31, 2020 was primarily due to the revenue recognition criteria being met for previously deferred revenue, partially offset by invoiced amounts that did not yet meet the revenue recognition criteria. The amount of revenue recognized in the three months ended March 31, 2020 that was included in the prior period contract liability balance was $1.7 million. This revenue consists of services provided to customers who had been invoiced prior to the current year.
The decrease in contract assets during the three months ended March 31, 2020 was primarily due to billed products and services during the period.
(f) | Concentration of Risk |
Financial instruments, which potentially subject the Company to concentrations of credit risk, consist primarily of cash, cash equivalents and restricted cash which totaled $35.9 million at March 31, 2020, including $12.9 million held by its international subsidiaries. Cash and cash equivalents consist of financial deposits and money market accounts that are principally held with various domestic and international financial institutions with high credit standing.
The Company’s customers include competitive and incumbent local exchange carriers, competitive access providers, Internetinternet service providers, wireless carriers and resellers serving these markets. The Company performs ongoing credit evaluations of its customers and generally does not require collateral. Allowances are maintained for potential doubtful accounts.
For the three months ended September 30, 2017,March 31, 2020, two customers represented,customer accounted for 14% and 10% and 9% of net revenue, respectively. For the three months ended September 30, 2016, three customers represented 18%, 16% (a related-party) and 12%March 31, 2019, no customer accounted for 10% of net revenue, respectively. For the nine months ended September 30, 2017,revenue.
As of March 31, 2020, two customers each represented 9%19% of net revenue (oneaccounts receivable. As of which was a related-party). For the nine months ended September 30, 2016, threeDecember 31, 2019, two customers represented 23%, 21% (a related-party)18% and 12% of net revenue, respectively.
As of September 30, 2017March 31, 2020 and December 31, 2016,2019, receivables from customers in countries other than the United States represented 84%96% and 87%94%, respectively, of net accounts receivable.
(g) | Business Combinations |
The Company allocates the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2014-09, Revenuefair value of purchase consideration to the tangible and identifiable intangible assets acquired and liabilities assumed based on their estimated fair values. The excess of the fair value of purchase consideration over the fair values of these identifiable assets and liabilities is recorded as goodwill. When determining the fair values of assets acquired and liabilities assumed, management makes significant estimates and assumptions, especially with respect to intangible assets and certain tangible assets such as inventory.
Critical estimates in valuing certain tangible and intangible assets include but are not limited to future expected cash flows from Contracts with Customers, which requires an entity to recognize the amountunderlying assets and discount rates. Management’s estimates of revenue to which it expectsfair value are based upon assumptions believed to be entitled forreasonable, but which are inherently uncertain and unpredictable and, as a result, actual results may differ from estimates.
(h) | Defined Benefit Plans and Plan Assumptions |
The Company provides certain defined benefit pension plans to employees in Germany and Japan. Pension accounting is intended to reflect the transferrecognition of promised goodsfuture benefit costs over the employees' average expected future service to the Company based on the terms of the plans and investment and funding decisions. To estimate the impact of these future payments and the Company’s decisions concerning funding of these obligations, the Company is required to make assumptions using actuarial concepts within the framework of U.S. GAAP. The critical assumption is the discount rate. Other important assumptions include expected future salary increases, expected future increases to benefit payments, expected retirement dates, employee turnover, retiree mortality rates and portfolio composition. The Company evaluates these assumptions at least annually, or services to customers. The ASU will replace most existing revenue recognition guidance in U.S. GAAPmore frequently when it becomes effective. The standard permits the use of either the retrospective or cumulative effect transition method. certain qualifying events occur.
(i) | Recent Accounting Pronouncements |
In August 2015, theJune 2016, FASB issued ASU 2015-14,2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which defers the effective date of the guidance in ASU No. 2014-09, Revenue from Contracts with Customer, for all entities by one year. With the deferral, the new standard is effective forrequires the Company on January 1, 2018. Early adoption is permitted, butto measure and recognize expected credit losses for financial assets held and not before the original effective date of January 1, 2017.accounted for at fair value through net income. In November 2018, April 2019 and May 2016, the FASB issued ASU 2016-12, Revenue from Contracts with Customers, Narrow-Scope Improvements and Practical Expedients, which provides clarification on how to assess collectibility, present sales tax, treat noncash consideration, and account for completed and modified contracts at the time of transition of ASU 2014-09. The effective date of this updated guidance for the Company is the same as the effective date of ASU 2014-09, which is January 1, 2018. The Company does not plan to early adopt this guidance. The Company is currently assessing the
In May 2017,August 2018, the FASB issued ASU No. 2017-09, Compensation—Stock Compensation (Topic 718): Scope of modification accounting. The purpose of the amendment is to clarify which changes2018-14, Disclosure Framework-Changes to the terms or conditions of a share-based payment award require an entityDisclosure Requirements for Defined Benefit Plans, which amends ASC 715 to apply modification accounting.add, remove, and clarify disclosure requirements related to defined benefit pension and other postretirement plans. The updated guidance is effective
(2) | |
Business Combinations |
Keymile Acquisition
On September 9, 2016, the Company acquired DNS through theJanuary 3, 2019, ZTI Merger ofSubsidiary III Inc., a Delaware corporation and a wholly owned subsidiary of the Company with and into DNS, with DNS surviving as(“ZTI”), acquired all of the outstanding shares of Keymile GmbH (“Keymile”), a limited liability company organized under the laws of Germany, from Riverside KM Beteiligung GmbH (“Riverside”), a limited liability company organized under the laws of Germany, pursuant to a share purchase agreement (the “Keymile Acquisition”) for a final adjusted acquisition price of $9.3 million. Following the closing of the acquisition, Keymile became a wholly owned subsidiary of the Company. The Merger combines leading technology platforms with a broadened customer base.
Shares | Estimated Fair Value | ||||||
Shares of Legacy Zhone stock as of September 8, 2016 | 6,874 | $ | 40,902 | ||||
Legacy Zhone stock options | 198 | 540 | |||||
Total Purchase Consideration | $ | 41,442 |
Cash and cash equivalents | $ | 7,013 | ||
Accounts receivable | 18,510 | |||
Inventory | 16,456 | |||
Prepaid expenses and other current assets | 2,191 | |||
Property and equipment | 4,339 | |||
Other assets | 125 | |||
Identifiable intangible assets | 10,479 | |||
Goodwill | 3,284 | |||
Accounts payable | (11,021 | ) | ||
Accrued and other liabilities | (7,089 | ) | ||
Other long-term liabilities | (2,845 | ) | ||
Total Indicated Fair Value of Assets | $ | 41,442 |
Useful life (in Years) | Fair Value | |||||
Developed technology | 5 | $ | 3,060 | |||
Customer relationships | 10 | 5,240 | ||||
Backlog | 1 | 2,179 | ||||
$ | 10,479 |
September 30, 2016 | |||||||
(in thousands) | Three Months Ended | Nine Months Ended | |||||
Pro forma total net revenue | $ | 39,740 | $ | 142,530 | |||
Pro forma net loss | (15,569 | ) | (25,504 | ) |
The Company utilizes a fair value hierarchy that is intended to increase consistency and comparability in fair value measurements and related disclosures. The fair value hierarchy is based on inputs to valuation techniques that are used to measure fair value that are either observable or unobservable. Observable inputs reflect assumptions market participants would use in pricing an asset or liability based on market data obtained from independent sources while unobservable inputs reflect a reporting entity’s pricing based upon their own market assumptions. The fair value hierarchy consists of the following three levels:
Level 1 | Inputs are quoted prices in active markets for identical assets or liabilities. |
Level 2 | Inputs are quoted prices for similar assets or liabilities in an active market, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable and market-corroborated inputs which are derived principally from or corroborated by observable market data. |
Level 3 | Inputs are derived from valuation techniques in which one or more significant inputs or value drivers are unobservable. |
The following financial instruments are not measured at fair value on the Company’s condensed consolidated balance sheet as of September 30, 2017March 31, 2020 and December 31, 2016,2019, but require disclosure of their fair values: cash and cash equivalents, short-term investments,restricted cash, accounts receivable,and other receivables, accounts payable, accrued liabilities, lease liabilities and debt. The carrying values of financial instruments such as cash and cash equivalents, short-term investments,restricted cash, accounts receivable and other receivables, accounts payable and accrued liabilities approximate their fair values based on their short-term nature. The carrying value of the Company's lease liabilities and debt approximates their fair values based on the current rates available to the Company for debt of similar terms and maturities.
(4) | |
Cash, Cash Equivalents and Restricted Cash |
As of September 30, 2017March 31, 2020 and December 31, 2016 were2019, the Company's cash and cash equivalents consisted of financial deposits. Restricted cash consisted primarily of cash restricted for performance bonds, warranty bonds and collateral for borrowings, and Long term restricted cash is included in other assets. Long term restricted cash was $0.2 million as of March 31, 2020 and December 31, 2019, respectively.
(5) | Balance Sheet Details |
Balance sheet detail as of March 31, 2020 and December 31, 2019 is as follows (in thousands):
Inventories consisted of the following (in thousands):
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
Raw materials |
| $ | 18,695 |
|
| $ | 15,774 |
|
Work in process |
|
| 1,890 |
|
|
| 1,458 |
|
Finished goods |
|
| 19,327 |
|
|
| 18,207 |
|
Total inventories |
| $ | 39,912 |
|
| $ | 35,439 |
|
September 30, 2017 | December 31, 2016 | ||||||
Raw materials | $ | 12,812 | $ | 13,547 | |||
Work in process | 3,004 | 3,705 | |||||
Finished goods | 16,150 | 13,780 | |||||
Total inventories | $ | 31,966 | $ | 31,032 |
Inventories provided as collateral for borrowings from Export-Import Bank of Korea amounted to $18.9$6.4 million and $14.4$6.7 million as of September 30, 2017March 31, 2020 and December 31, 2016,2019, respectively.
Property, plant and equipment asconsisted of
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
Furniture and fixtures |
| $ | 10,370 |
|
| $ | 10,803 |
|
Machinery and equipment |
|
| 2,846 |
|
|
| 2,550 |
|
Leasehold improvements |
|
| 4,231 |
|
|
| 4,267 |
|
Computers and software |
|
| 2,076 |
|
|
| 1,990 |
|
Other |
|
| 644 |
|
|
| 660 |
|
|
|
| 20,167 |
|
|
| 20,270 |
|
Less: accumulated depreciation and amortization |
|
| (13,133 | ) |
|
| (13,130 | ) |
Less: government grants |
|
| (318 | ) |
|
| (371 | ) |
Total property, plant and equipment , net |
| $ | 6,716 |
|
| $ | 6,769 |
|
September 30, 2017 | December 31, 2016 | ||||||
Furniture and fixtures | $ | 21,251 | $ | 20,040 | |||
Machinery and equipment | 4,945 | 4,530 | |||||
Leasehold improvements | 3,386 | 3,573 | |||||
Computers and software | 567 | 411 | |||||
Other | 983 | 922 | |||||
31,132 | 29,476 | ||||||
Less accumulated depreciation and amortization | (25,109 | ) | (22,922 | ) | |||
Less government grants | (211 | ) | (266 | ) | |||
Total property and equipment, net | $ | 5,812 | $ | 6,288 |
Depreciation and amortization expense associated with property, plant and equipment for the three and nine months ended September 30, 2017March 31, 2020 and 2019 was $0.5 million and $1.4 million,for each period, respectively. Depreciation and amortization expense associated with property and equipment for the three and nine months ended September 30, 2016 was $0.4 million and $0.9 million, respectively.
The Company receives grants from thevarious government entities mainly to support capital expenditures. Such grants are deferred and are generally refundable to the extent the Company does not utilize the funds for qualifying expenditures. Once earned, the Company records the grants as a contra amount to the assets and amortizes such amount over the useful lives of the related assets as a reduction to depreciation expense.
(6) | |
Goodwill and Intangible Assets |
Goodwill as of September 30, 2017 and December 31, 2016 was as follows (in thousands):
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
Gross carrying amount |
| $ | 4,980 |
|
| $ | 4,980 |
|
Less: accumulated impairment |
|
| (1,003 | ) |
|
| (1,003 | ) |
Goodwill, net |
| $ | 3,977 |
|
| $ | 3,977 |
|
September 30, 2017 | December 31, 2016 | ||||||
Beginning balance | $ | 3,977 | $ | 693 | |||
Addition from Merger | — | 3,284 | |||||
Less: accumulated impairment | — | — | |||||
Ending balance | $ | 3,977 | $ | 3,977 |
As of March 31, 2020 and December 31, 2019, the net carrying value of goodwill is all attributable to the Company’s US reporting unit. As of March 31, 2020, the Company performed a goodwill impairment assessment for the US reporting unit, due to operating losses incurred by the US reporting unit during the first quarter of 2020 amid the worldwide effects of the COVID-19 pandemic. The fair value of the US reporting unit was estimated using an equal weighting of the guideline company and discounted cash flow methods. During the quarter ended March 31, 2020, the Company also refined its estimated cost allocations between the US reporting unit and the Korea and German reporting units to more appropriately estimate the projected cash flows expected to be generated from each of the Company’s reporting units used in the valuation models. The refinements in cost allocations had no impact on the Company’s segment conclusions and would not have impacted the 2019 annual goodwill impairment conclusions.
During the quarter ended March 31, 2020, the Company also refined its estimated cost allocations between the US reporting unit and the Korea and German reporting units to more appropriately estimate the projected cash flows expected to be generated from each of the Company’s reporting units used in the valuation models. The refinements in cost allocations had no impact on the Company’s segment conclusions and would not have impacted the 2019 annual goodwill impairment conclusions.
The Company did not recognize any impairment loss onof goodwill during the three and nine months ended September 30, 2017 and 2016.
Intangible assets asconsisted of September 30, 2017 and December 31, 2016 were as followsthe following (in thousands):
|
| March 31, 2020 |
| |||||||||
|
| Gross Carrying Amount |
|
| Accumulated Amortization |
|
| Net |
| |||
Developed technology |
| $ | 7,900 |
|
| $ | (3,335 | ) |
| $ | 4,565 |
|
Customer relationships |
|
| 8,727 |
|
|
| (2,642 | ) |
|
| 6,085 |
|
Trade name |
|
| 1,320 |
|
|
| (506 | ) |
|
| 814 |
|
Total intangible assets, net |
| $ | 17,947 |
|
| $ | (6,483 | ) |
| $ | 11,464 |
|
|
| December 31, 2019 |
| |||||||||
|
| Gross Carrying Amount |
|
| Accumulated Amortization |
|
| Net |
| |||
Developed technology |
| $ | 7,994 |
|
| $ | (3,027 | ) |
| $ | 4,967 |
|
Customer relationships |
|
| 8,795 |
|
|
| (2,458 | ) |
|
| 6,337 |
|
Trade name |
|
| 1,346 |
|
|
| (269 | ) |
|
| 1,077 |
|
Total intangible assets, net |
| $ | 18,135 |
|
| $ | (5,754 | ) |
| $ | 12,381 |
|
September 30, 2017 | December 31, 2016 | ||||||
Developed technology | $ | 3,060 | $ | 3,060 | |||
Customer relationships | 5,240 | 5,240 | |||||
Backlog | 2,179 | 2,179 | |||||
Other | 194 | 105 | |||||
Less accumulated amortization | (3,499 | ) | (1,817 | ) | |||
Intangible assets, net | $ | 7,174 | $ | 8,767 |
Amortization expense associated with intangible assets for each of the three and nine months ended September 30, 2016March 31, 2020 and 2019 was $0.3 million.$0.8 million
The following table presents the future amortization expense of the Company’s intangible assets as of March 31, 2020 (in thousands):
|
|
|
|
|
Remainder of 2020 |
| $ | 2,299 |
|
2021 |
|
| 2,862 |
|
2022 |
|
| 2,454 |
|
2023 |
|
| 2,454 |
|
2014 |
|
| 524 |
|
Thereafter |
|
| 871 |
|
Total |
| $ | 11,464 |
|
|
|
|
|
|
Weighted average remaining life: |
|
|
|
|
Developed technology |
| 3.7 years |
| |
Customer relationships |
| 5.7 years |
| |
Trade name |
| 4.3 years |
|
(7) | Debt |
The following tables summarize the Company’s debt (in thousands):
|
| March 31, 2020 |
| |||||||||
|
| Short-term |
|
| Long-term |
|
| Total |
| |||
Bank and Trade Facilities - Foreign Operations |
| $ | 12,323 |
|
| $ | — |
|
| $ | 12,323 |
|
Related Party |
|
| — |
|
|
| 27,348 |
|
|
| 27,348 |
|
|
| $ | 12,323 |
|
| $ | 27,348 |
|
| $ | 39,671 |
|
|
| December 31, 2019 |
| |||||||||
|
| Short-term |
|
| Long-term |
|
| Total |
| |||
PNC Credit Facilities |
| $ | 2,500 |
|
| $ | 10,625 |
|
| $ | 13,125 |
|
Bank and Trade Facilities - Foreign Operations |
|
| 15,779 |
|
|
| — |
|
|
| 15,779 |
|
Related Party |
|
| — |
|
|
| 9,096 |
|
|
| 9,096 |
|
|
| $ | 18,279 |
|
| $ | 19,721 |
|
| $ | 38,000 |
|
Less: unamortized deferred financing costs on the PNC Credit Facilities |
|
| (795 | ) |
|
| (688 | ) |
|
| (1,483 | ) |
|
| $ | 17,484 |
|
| $ | 19,033 |
|
| $ | 36,517 |
|
The future principal maturities of our Term Loans for each of the next five years are as follows (in thousands):
Year ended December 31, 2020 |
| $ | 12,323 |
|
2021 |
|
| — |
|
2022 |
|
| 27,348 |
|
2023 |
|
| — |
|
2024 |
|
| — |
|
Thereafter |
|
| — |
|
Total |
| $ | 39,671 |
|
On February 27, 2019, the Company hadand ZTI (collectively, the “Borrowers”), and certain direct and indirect subsidiaries of the Borrowers, as guarantors, entered into a $25.0 millionRevolving Credit, Term Loan, Guaranty and Security Agreement (the “Domestic Credit Agreement”) and an Export-Import Revolving Credit, Guaranty and Security Agreement (the “Ex-Im Credit Agreement,” and together with the Domestic Credit Agreement, the “Credit Agreements”), in each case with PNC Bank, National Association (“PNC”) and Citibank, N.A. as lenders, and PNC as agent for the lenders (the “PNC Credit Facilities”), which replaced the Company’s former senior secured credit facility (the "WFB Facility")facilities with Wells Fargo Bank ("WFB"(the “Former WFB Facility”). UnderWe refer to such transactions and the WFB Facility,agreements referenced above as the “PNC Credit Facilities.”
The PNC Credit Facilities provided for a $25 million term loan and a $15 million revolving line of credit (including subfacilities for Ex-Im transactions, letters of credit and swing loans) with a $10 million incremental increase option. The amount the Company has the option of borrowing funds at agreed upon interest rates. The amount that the Company iswas able to borrow underon the WFB Facility variesrevolving line of credit at any time was based on eligible accounts receivable and inventory, as defined in the agreement, as long as the aggregate amount outstanding does not exceed $25.0 millionother conditions, less the amount committed as security for letters of credit. To maintain availability of fundscertain reserves. Borrowings under the WFB Facility, the Company pays a commitment fee on the unused portion. The commitment fee is 0.25% per annum and is recorded asPNC Credit Facilities bore interest expense.
The Company used a portion of the funds borrowed from the term loan under the PNC Credit Facilities to (i) repay $5.0 million of existing related party indebtedness with Dasan Networks, Inc., the Company’s largest stockholder Dasan Networks, Inc. (“DNI”) plus accrued interest, (ii) repay $1.5 million revolving line of credit outstanding balance plus accrued interest and fees and cash collateralize $3.6 million in outstanding letters of credit under the Former WFB Facility). Facility, and (iii) repay $5.6 million in short-term debt in Korea and Japan. The Company’s obligations under the PNC Credit Facilities were secured by substantially all of the personal property assets of the Company and its subsidiaries that were co-borrowers or guarantors under the PNC Credit Facilities, including their intellectual property.
The PNC Credit Facilities had a three-year term and was scheduled to mature on February 27, 2022. The PNC Credit Facilities contemplated repayment of the term loan in quarterly installments over the term of the loan, with the balance of the term loan and revolving line of credit due at maturity.
As of December 31, 2019, the Company had $13.1 million in outstanding term loan borrowings under the PNC term loan, and no outstanding borrowings under the revolving line of credit. The interest rate on the WFB Facilityterm loan was 3.8% 8.12%at September 30, 2017. The maturity date underDecember 31, 2019.
On March 26, 2020, the WFB Facility isCompany paid the outstanding term loan borrowings in full and terminated the PNC Credit Facilities. In association with this debt repayment, the Company recorded a loss on extinguishment of debt of $1.4 million during the three months ended March 31, 2019.
Bank and Trade Facilities - Foreign Operations
Certain of the Company's foreign subsidiaries have entered into various financing arrangements with foreign banks and other lending institutions consisting primarily of revolving lines of credit, trade facilities, term loans and export development loans. These facilities are renewed on an annual basisas they mature and are generally secured by a security interest in certain assets of the applicable foreign subsidiaries.subsidiaries and supported by guarantees given by DNI or third parties. Payments under such facilities are made in accordance with the given lender’s amortization schedules.
As of September 30, 2017March 31, 2020 and December 31, 2016,2019, the Company had an aggregate outstanding balance of $18.4$12.3 million and $17.6$15.8 million, respectively, under such financing arrangements,arrangements. The maturity dates and the interest rates per annum applicable to outstanding borrowings under these financing arrangements were asare listed in the tables below.
|
|
|
| As of March 31, 2020 |
| |||||||||
|
|
|
| Maturity Date |
| Denomination |
| Interest rate (%) |
|
| Amount (in U.S. dollars) |
| ||
The Export-Import Bank of Korea |
| Export development loan |
| 7/1/2020 |
| KRW |
| 2.75 |
|
| $ | 4,908 |
| |
Korea Development Bank |
| General loan |
| 8/8/2020 |
| KRW |
|
| 3.0 |
|
|
| 4,090 |
|
Korea Development Bank |
| Credit facility |
| 8/7/2020 |
| USD |
| 1.80 - 3.05 |
|
|
| 1,689 |
| |
LGUPlus |
| General loan |
| 6/17/2020 |
| KRW |
| 0 |
|
|
| 1,636 |
| |
|
|
|
|
|
|
|
|
|
|
|
| $ | 12,323 |
|
As of September 30, 2017 | ||||||||
Interest rate (%) | Amount | |||||||
Industrial Bank of Korea | Credit facility | 2.8 - 3.0 | $ | 3,235 | ||||
Industrial Bank of Korea | Trade finance | 3.9-5.4 | 2,287 | |||||
Shinhan Bank | General loan | 5.89 | 2,791 | |||||
Shinhan Bank | Trade finance | 3.70 | 1,950 | |||||
NongHyup Bank | Credit facility | 1.7 - 3.0 | 1,841 | |||||
The Export-Import Bank of Korea | Export development loan | 3.1 | 6,278 | |||||
$ | 18,382 |
|
|
| As of December 31, 2019 |
| ||||||||
|
|
|
| Maturity Date |
| Denomination |
| Interest rate (%) |
| Amount (in U.S. dollars) |
| |
NongHyup Bank |
| Credit facility |
| 09/30/2020 |
| USD |
| 3.50 ~ 4.50 |
| $ | 2,091 |
|
The Export-Import Bank of Korea |
| Export development loan |
| 07/01/2020 |
| KRW |
| 2.75 |
|
| 5,182 |
|
Korea Development Bank |
| General loan |
| 08/08/2020 |
| USD |
| 3 |
|
| 4,319 |
|
Korea Development Bank |
| Credit facility |
| 08/07/2020 |
| KRW |
| 3.00 ~ 3.15 |
|
| 2,460 |
|
LGUPlus |
| General loan |
| 06/17/2020 |
| KRW |
| 0 |
|
| 1,727 |
|
|
|
|
|
|
|
|
|
|
| $ | 15,779 |
|
As of December 31, 2016 | ||||||||
Interest rate (%) | Amount | |||||||
Industrial Bank of Korea | Credit facility | 2.16 - 2.76 | $ | 1,106 | ||||
Shinhan Bank | General loan | 4.08 | 3,310 | |||||
Shinhan Bank | Trade finance | 3.28 - 3.44 | 1,752 | |||||
NongHyup Bank | Credit facility | 1.92 - 2.66 | 482 | |||||
KEB Hana Bank | Comprehensive credit loan | 2.79 | 3,501 | |||||
The Export-Import Bank of Korea | Export development loan | 3.10 | 7,448 | |||||
$ | 17,599 |
As of September 30, 2017,March 31, 2020 and December 31, 2019, the Company had $5.0$1.7 million and $4.6 million in outstanding borrowings, respectively, and $6.0$1.2 million and $0.8 million committed as security for letters of credit under the Company's $12.0$19.0 million credit facility with certain foreign banks.
Related Party Debt
In February 2016, DNS California borrowed $1.8 million from DNI for the nine months ended September 30, 2017 and 2016 were as follows (in thousands):
Nine Months Ended September 30, | ||||||||
2017 | 2016 | |||||||
Beginning non-controlling interests | $ | 416 | $ | 138 | ||||
Acquisition of additional interest in a subsidiary | — | 277 | ||||||
Net income (loss) attributable to non-controlling interests | 172 | (17 | ) | |||||
Foreign currency translation adjustments (OCI) | 19 | 66 | ||||||
Ending non-controlling interests | $ | 607 | $ | 464 |
In September 9, 2016, the Companywe entered into a loan agreement with DNI for a $5.0 million unsecured subordinated term loan facility. Under theThe term loan agreement, the Company was permittedscheduled to request drawdowns of one or more term loans in an aggregate principal amount not to exceed $5.0 million. As of September 30, 2017, $5.0 million in term loans was outstanding under the facility. Such term loans mature in September 2021 and arewas pre-payable at any time by the Company without premium or penalty. The interest rate as of September 30, 2017 under this facility was 4.6% per annum.
In March 2018, DNS Korea borrowed $1.8$5.8 million from DNI for capital investment in February 2016,of which amount$4.5 million was outstanding as of September 30, 2017. Thisrepaid on August 8, 2018. The loan matured in March 2017 with an option of renewal by mutual agreement, and borebears interest at a rate of 6.9% per annum, payable annually. Effective4.6%. On February 27, 2017,2019, in connection with the Companyentry into the PNC Credit Facilities, the w amended the terms of this loan to extend the repayment date fromto May 27, 2022. As of March 201731, 2020, $1.3 million remained outstanding.
In December 2018, we entered into a Loan Agreement with DNI for a $6.0 million term loan with an interest rate of 4.6% per annum. On February 27, 2019, in connection with the entry into the PNC Credit Facilities, we amended the terms of the term loan to March 2018,extend the repayment date until May 27, 2022 and to reduceterminate any security granted to DNI with respect to such term loan. As of March 31, 2020, $6.0 million remained outstanding.
The modifications resulting from the interest rate from 6.9%amendments described in the four preceding paragraphs were limited to 4.6% per annum.
On June 23, 2017,March 5, 2020, DNS Korea, the our wholly-owned, indirect subsidiary entered into a Loan Agreement with DNI (the “March 2020 DNI Loan”). The March 2020 DNI Loan was negotiated and approved on behalf of the Company and its subsidiaries by a special committee of the Board of Directors of the Company (the “Special Committee”) consisting of directors determined to be independent from DNI. The March 2020 DNI Loan consists of a term loan in the amount of KRW 22.4 billion ($18.5 million USD) with interest payable semi-annually at an annual rate of 4.6% and maturing on March 11, 2022. No principal payments are due on the March 2020 DNI Loan until the maturity date, but DNS Korea may prepay the loan, or a portion thereof, without penalty.
As security for the March 2020 DNI Loan (and other existing loans between DNI and DNS Korea and/or DNS California), (i) DNS California, a wholly-owned, direct subsidiary of the Company and the sole stockholder of DNS Korea, agreed to pledge the outstanding shares of DNS Korea to DNI and (ii) DNS Korea granted a security interest in its personal property assets, accounts receivable and intellectual property assets to DNI. The March 2020 DNI Loan includes certain covenants consisting of financial reporting obligations, a maintenance covenant whereby DNS Korea agreed to maintain a minimum stockholders’ equity value in an amount equal to or greater than KRW 43.3 billion ($35.8 million USD), and customary events of default. If an event of default occurs and is not remedied within the applicable cure period, DNI will be entitled to take various actions, including requiring the immediate repayment of all outstanding amounts under the March 2020 DNI Loan and selling the shares or assets of DNS Korea.
DNS Korea loaned the funds borrowed $3.5 million from Solueta, an affiliateunder the March 2020 DNI Loan to the Company, and the Company utilized a portion of DNI. such funds to repay in full and terminate the PNC Credit Facilities.
As of September 30, 2017, the aggregateMarch 31, 2020, we had had borrowings of $27.3 million in outstanding from DN. The outstanding balance under thisat March 31, 2020 consisted of the March 2020 DNI Loan of KRW 22.4 billion ($18.5 million USD), a $6.0 million unsecured subordinated term loan agreement was $1.7 million. This loanfacility which matures in November 2017March 2022, a $1.8 million loan for capital investment which matures in May 2022, and bearsKRW 1.5 billion ($1.3 million) outstanding under a secured loan from DNS Korea which matures in May 2022. All four loans bear interest at a rate of 4.6% per annum, payable monthly.annum.
Interest expense on these related party borrowings was $0.2 million and $0.1 million for the three months ended March 31, 2020 and 2019, respectively.
(8) | Defined Benefit Plans |
The Company sponsors defined benefit plans for its employees in Keymile. Defined benefit plans provide pension benefits based on compensation and years of service. These plans were frozen as of September 30, 2003 and have not been offered to new employees after that date. The Company has recorded the underfunded status as of March 31, 2020 and December 31, 2019, respectively, as a long-term liability on the unaudited condensed consolidated balance sheets. The accumulated benefit obligation for the plans were $15.8 and $17.7 million as of March 31, 2020 and December 31, 2019, respectively.
Periodic benefit costs were as follows (in thousands): |
|
|
|
|
|
|
|
|
|
| March 31, 2020 |
|
| March 31, 2019 |
| ||
Interest costs |
| $ | 38 |
|
| $ | 100 |
|
Net amortization costs |
|
| 5 |
|
|
| — |
|
Period costs |
| $ | 43 |
|
| $ | 100 |
|
During the three months ended March 31, 2020, the Company performed a voluntary interim measurement of the plan obligations, due to a significant increase in the discount rate since the last annual measurement date on December 31, 2019, and recorded an actuarial gain on pension plan of $1.5 million, as reflected on the unaudited condensed consolidated statement of comprehensive loss.
The Company holds life insurance contracts, with the Company as beneficiary, in the amount of $3.3 million as of March 31, 2020, related to individuals under the pension plans. These insurance contracts are classified as other assets on the Company’s consolidate consolidated balance sheet. The Company intends to use any proceeds from these policies to fund the pension plans. However, since the Company is the beneficiary on these policies, these assets have not been designated pension plan assets.
The weighted average assumptions used in determining the benefit obligation related to the plans are as follows:
|
| March 31, 2020 |
|
| December 31, 2019 |
|
Discount rate |
| 1.5% |
|
| 0.9% |
|
Rate of pension increase |
| 1.7% |
|
| 1.7% |
|
(9) | Non-Controlling Interests |
Non-controlling interests were as follows (in thousands):
|
| Three Months Ended March 31, |
| |
|
| 2019 |
| |
Beginning non-controlling interests |
| $ | 615 |
|
Net income (loss) attributable to non-controlling interests |
|
| 181 |
|
Foreign currency translation adjustments (OCI) |
|
| (1 | ) |
Ending non-controlling interests |
| $ | 795 |
|
On July 31, 2019, the Company acquired the remaining 30.94% non-controlling interest of DZS Japan.
Related Party Debt
As of March 31, 2020 and December 31, 2019, the Company had $27.3 million and $9.1 million, respectively, outstanding from related party borrowings from DNI. See Note 7 Debt for further information about the Company’s related party debt.
Other Related-PartyRelated Party Transactions
Sales, and purchases, cost of revenue, manufacturing (included in cost of revenue), research and product development, selling, marketing, general and administrative, interest expense and other expenses to and from related parties for the three and nine months ended September 30, 2017 and 2016 were as follows (in thousands): for the three months ended March 31, 2020 and March 31, 2019:
|
|
|
|
|
| Three Months Ended March 31, 2020 |
| |||||||||||||||||||||||||
Counterparty |
| DNI ownership interest |
|
| Sales |
|
| Cost of revenue |
|
| Manufacturing (cost of revenue)* |
|
| Research and product development |
|
| Selling, marketing, general and administrative |
|
| Interest expense |
|
| Other expenses |
| ||||||||
DNI |
| N/A |
|
| $ | 162 |
|
| $ | 133 |
|
| $ | — |
|
| $ | — |
|
| $ | 571 |
|
| $ | 151 |
|
| $ | 86 |
| |
DASAN Ventures |
| 33% |
|
|
| — |
|
|
| — |
|
|
| 8 |
|
|
| 33 |
|
|
| 38 |
|
|
| — |
|
|
| — |
| |
|
|
|
|
|
| $ | 162 |
|
| $ | 133 |
|
| $ | 8 |
|
| $ | 33 |
|
| $ | 609 |
|
| $ | 151 |
|
| $ | 86 |
|
|
|
|
|
|
| Three Months Ended March 31, 2019 |
| |||||||||||||||||||||||||
Counterparty |
| DNI ownership interest |
|
| Sales |
|
| Cost of revenue |
|
| Manufacturing (cost of revenue)* |
|
| Research and product development |
|
| Selling, marketing, general and administrative |
|
| Interest expense |
|
| Other expenses |
| ||||||||
DNI |
| N/A |
|
| $ | 722 |
|
| $ | 535 |
|
| $ | — |
|
| $ | — |
|
| $ | 998 |
|
| $ | 141 |
|
| $ | 89 |
| |
Tomato Soft Ltd. |
| 100% |
|
|
| — |
|
|
| — |
|
|
| 30 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
| |
Tomato Soft (Xi'an) Ltd. |
| 100% |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| 121 |
|
|
| — |
|
|
| — |
|
|
| — |
| |
CHASAN Networks Co., Ltd |
| 100% |
|
|
| — |
|
|
| — |
|
|
| 278 |
|
|
| 21 |
|
|
| — |
|
|
| — |
|
|
| 161 |
| |
HANDYSOFT, Inc. |
| 18% |
|
|
| 91 |
|
|
| 23 |
|
|
| — |
|
|
| — |
|
|
| 2 |
|
|
| — |
|
|
| — |
| |
J-Mobile Corporation |
| 90% |
|
|
| 42 |
|
|
| 81 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
| |
|
|
|
|
|
| $ | 855 |
|
| $ | 639 |
|
| $ | 308 |
|
| $ | 142 |
|
| $ | 1,000 |
|
| $ | 141 |
|
| $ | 250 |
|
* | Manufacturing costs represent product purchases from and manufacturing activities performed by related parties, and are included in Cost of revenue on the unaudited consolidated statement of comprehensive loss. |
Three Months Ended September 30, 2017 | ||||||||||||||||||||||||||
Counterparty | DNI Ownership Interest | Sales | Cost of revenue | Manufacturing (Cost of revenue) | Research and product development | Selling, marketing, general and administrative | Other Expenses | |||||||||||||||||||
DNI (Parent Company) | N/A | $ | 3,976 | $ | 3,604 | $ | — | $ | — | $ | 1,291 | $ | 51 | |||||||||||||
CHASAN Networks Co., Ltd. | 100% | — | — | 257 | 20 | — | — | |||||||||||||||||||
DASAN FRANCE | 100% | 662 | 576 | — | — | 83 | — | |||||||||||||||||||
DASAN INDIA Private Limited | 100% | — | — | — | — | 30 | — | |||||||||||||||||||
D-Mobile | 100% | 1,233 | 1,077 | — | — | 122 | — | |||||||||||||||||||
HANDYSOFT, Inc. | 17.64% | 54 | 12 | — | — | 6 | 4 | |||||||||||||||||||
Tomato Soft Ltd. | 100% | — | — | 43 | 108 | — | — | |||||||||||||||||||
Tomato Soft (Xi'an) Ltd. | 100% | — | — | — | 144 | — | — | |||||||||||||||||||
$ | 5,925 | $ | 5,269 | $ | 300 | $ | 272 | $ | 1,532 | $ | 55 |
Three Months Ended September 30, 2016 (As Revised) | ||||||||||||||||||||||||||
Counterparty | DNI Ownership Interest | Sales | Cost of revenue | Manufacturing (Cost of revenue) | Research and product development | Selling, marketing, general and administrative | Other Expenses | |||||||||||||||||||
DNI (Parent Company) | N/A | $ | 5,112 | $ | 4,390 | $ | — | $ | — | $ | 946 | $ | 89 | |||||||||||||
CHASAN Networks Co., Ltd. | 100% | — | — | 130 | 38 | — | — | |||||||||||||||||||
DASAN FRANCE | 100% | 3 | 3 | — | — | — | — | |||||||||||||||||||
D-Mobile | 100% | 1,267 | 789 | — | — | 125 | — | |||||||||||||||||||
HANDYSOFT, Inc. | 17.64% | 68 | 58 | — | — | — | — | |||||||||||||||||||
J-Mobile Corporation | 90.47% | 18 | — | — | — | — | — | |||||||||||||||||||
Tomato Soft Ltd. | 100% | — | — | 36 | — | — | — | |||||||||||||||||||
Tomato Soft (Xi'an) Ltd. | 100% | — | — | — | 181 | — | — | |||||||||||||||||||
$ | 6,468 | $ | 5,240 | $ | 166 | $ | 219 | $ | 1,071 | $ | 89 |
Nine Months Ended September 30, 2017 | ||||||||||||||||||||||||||
Counterparty | DNI Ownership Interest | Sales | Cost of revenue | Manufacturing (Cost of revenue) | Research and product development | Selling, marketing, general and administrative | Other Expenses | |||||||||||||||||||
DNI (Parent Company) | N/A | $ | 16,608 | $ | 14,020 | $ | — | $ | — | $ | 3,491 | $ | 171 | |||||||||||||
CHASAN Networks Co., Ltd. | 100% | — | — | 578 | 79 | — | — | |||||||||||||||||||
DASAN FRANCE | 100% | 1,612 | 1,512 | — | — | 383 | — | |||||||||||||||||||
DASAN INDIA Private Limited | 100% | 6,287 | 4,783 | — | — | 30 | — | |||||||||||||||||||
D-Mobile | 100% | 3,054 | 1,831 | — | — | 318 | — | |||||||||||||||||||
Fine Solution | 100% | — | — | — | — | 4 | — | |||||||||||||||||||
HANDYSOFT, Inc. | 17.64% | 88 | 23 | — | — | 6 | 4 | |||||||||||||||||||
J-Mobile Corporation | 90.47% | 8 | — | — | — | 132 | — | |||||||||||||||||||
Tomato Soft Ltd. | 100% | — | — | 104 | 108 | — | — | |||||||||||||||||||
Tomato Soft (Xi'an) Ltd. | 100% | — | — | — | 448 | 37 | — | |||||||||||||||||||
Solueta | 27.21% | — | — | — | — | — | 3 | |||||||||||||||||||
$ | 27,657 | $ | 22,169 | $ | 682 | $ | 635 | $ | 4,401 | $ | 178 |
Nine Months Ended September 30, 2016 (As Revised) | ||||||||||||||||||||||||||
Counterparty | DNI Ownership Interest | Sales | Cost of revenue | Manufacturing (Cost of revenue) | Research and product development | Selling, marketing, general and administrative | Other Expenses | |||||||||||||||||||
DNI (Parent Company) | N/A | $ | 19,080 | $ | 16,219 | $ | — | $ | — | $ | 4,255 | $ | 309 | |||||||||||||
CHASAN Networks Co., Ltd. | 100% | — | — | 436 | 106 | — | — | |||||||||||||||||||
DASAN FRANCE | 100% | 3 | 3 | — | — | — | — | |||||||||||||||||||
DASAN INDIA Private Limited | 100% | — | — | — | — | — | — | |||||||||||||||||||
D-Mobile | 100% | 3,135 | 2,231 | — | — | 318 | — | |||||||||||||||||||
DMC, Inc. | 27.21% | 1 | 1 | — | — | — | — | |||||||||||||||||||
HANDYSOFT, Inc. | 17.64% | 150 | 130 | — | — | — | — | |||||||||||||||||||
J-Mobile Corporation | 90.47% | 39 | — | — | — | 634 | — | |||||||||||||||||||
PANDA Media, Inc. | 100% | — | — | — | — | 2 | — | |||||||||||||||||||
Tomato Soft Ltd. | 100% | — | — | 98 | — | — | — | |||||||||||||||||||
Tomato Soft (Xi'an) Ltd. | 100% | — | — | — | 560 | — | — | |||||||||||||||||||
$ | 22,408 | $ | 18,584 | $ | 534 | $ | 666 | $ | 5,209 | $ | 309 |
The Company has entered into certain sales agreements with DNI and certain of its subsidiaries. Sales and cost of revenue to DNI, DASAN France, DASAN INDIA Private Limited, and D-Mobile, represent finished goods produced by the Company that are sold to these related parties who sell the Company's products in Korea, France, India and Taiwan, respectively.
The Company has entered into agreementsan agreement with Tomato Soft Ltd. and CHASAN Networks Co., Ltd. to provide manufacturing and research and development services for the Company. Under the agreement with Tomato Soft Ltd. and CHASAN Networks., Ltd., the Company is charged a cost plus 7% fee for the manufacturing and development of certain deliverables.
The Company has entered into an agreement with Tomato Soft Ltd, a wholly owned subsidiary of DNI, to provide manufacturing and research and development services for the Company.
The Company has entered into an agreement with Tomato Soft (Xi'an) Ltd. to provide research and development services for the Company. Under the agreement with Tomato Soft (Xi'an) Ltd., the Company is charged an expected annual fee of $0.8$0.7 million for the development of certain deliverables.
On September 9, 2016, DZS acquired DNS California, through the merger of a wholly owned subsidiary of Zhone Technologies, Inc. with and into DNS California, with DNS California surviving as our wholly owned subsidiary (the “Merger”). Prior to the Merger, as DNS California was then a wholly owned subsidiary of DNI, DNI had sales agreements with certain customers on DNS'DNS California's behalf. Since the Merger, due to these prior sales agreements, the Company has entered into an agreement with DNI in which DNI acts as a sales channel to these customers. Selling, marketing, general and administrative expenseSales to DNI includes a feenecessary for DNI to fulfill agreements with its customers are recorded net of 3% of total sales to DNI for sales to these customers.royalty fees in related party revenue.
The Company shares office space with DNI and certain of DNI's subsidiaries. Prior to the Merger, DNS California, then a wholly owned subsidiary of DNI, shared human resources, treasury and other administrative support with DNI. As such, the Company entered into certain service sharing agreements with DNI and certain of its subsidiaries for the shared office
Other expenses to related parties represent expenses to DNI for its payment guarantees relating to the Company's borrowings. The Company pays DNI a guarantee fee which is calculated as 0.9% of the guaranteed amount.
Balances of Receivables and Payables with Related Parties
Balances of receivables and payables arising from sales and purchases of goods and servicesserviced with related parties as of September 30, 2017March 31, 2020 and December 31, 20162019 were included in the following balance sheet captions on the unaudited consolidated balance sheet, as follows (in thousands):
|
|
|
|
|
| As of March 31.2020 |
| |||||||||||||||||||||||||
Counterparty |
| DNI ownership interest |
|
| Account receivables |
|
| Other receivables |
|
| Deposits for lease * |
|
| Long- term debt |
|
| Accounts payable |
|
| Other payables |
|
| Accrued and other liabilities |
| ||||||||
DNI |
| N/A |
|
| $ | 28 |
|
| $ | 30 |
|
| $ | 672 |
|
| $ | 27,348 |
|
| $ | 180 |
|
| $ | 57 |
|
| $ | 118 |
| |
DASAN Ventures |
| 33% |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| 28 |
|
|
| — |
| |
|
|
|
|
|
| $ | 28 |
|
| $ | 30 |
|
| $ | 672 |
|
| $ | 27,348 |
|
| $ | 180 |
|
| $ | 85 |
|
| $ | 118 |
|
|
|
|
|
|
| As of December 31, 2019 |
| |||||||||||||||||||||||||
Counterparty |
| DNI ownership interest |
|
| Account receivables |
|
| Other receivables |
|
| Deposits for lease* |
|
| Loan Payable |
|
| Accounts payable |
|
| Other payables |
|
| Accrued and other liabilities |
| ||||||||
DNI |
| N/A |
|
| $ | — |
|
| $ | 32 |
|
| $ | 709 |
|
| $ | 9,096 |
|
| $ | — |
|
| $ | 1,475 |
|
| $ | 119 |
| |
Tomato Soft Ltd. |
| 100% |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| 10 |
|
|
| — |
| |
Tomato Soft (Xi'an), Ltd |
| 100% |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| 45 |
|
|
| — |
| |
Chasan Networks Co., Ltd. |
| 100% |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| 96 |
|
|
| — |
|
|
| — |
| |
|
|
|
|
|
| $ | — |
|
| $ | 32 |
|
| $ | 709 |
|
| $ | 9,096 |
|
| $ | 96 |
|
| $ | 1,530 |
|
| $ | 119 |
|
As of September 30, 2017 | ||||||||||||||||||||||||||
Counterparty | DNI Ownership Interest | Account receivables | Other receivables | Deposits for lease* | Accounts payable | Other payables | Loans | |||||||||||||||||||
DNI (Parent Company) | N/A | $ | 9,196 | $ | — | $ | 727 | $ | — | $ | 125 | $ | 6,800 | |||||||||||||
ABLE | 61.99% | 56 | — | — | — | — | — | |||||||||||||||||||
CHASAN Networks Co., Ltd. | 100% | — | — | — | 100 | — | — | |||||||||||||||||||
DASAN France | 100% | 662 | 4 | — | — | — | — | |||||||||||||||||||
D-Mobile | 100% | 3,001 | 16 | — | — | — | — | |||||||||||||||||||
HANDYSOFT, Inc. | 17.64% | 26 | — | — | 6 | 1 | — | |||||||||||||||||||
Solueta | 27.21% | — | 2 | — | — | 2 | 1,744 | |||||||||||||||||||
Tomato Soft Ltd. | 100% | — | — | — | — | 25 | — | |||||||||||||||||||
Tomato Soft (Xi'an) Ltd. | 100% | — | — | — | — | 57 | — | |||||||||||||||||||
$ | 12,941 | $ | 22 | $ | 727 | $ | 106 | $ | 210 | $ | 8,544 |
As of December 31, 2016 | ||||||||||||||||||||||||||
Counterparty | DNI Ownership Interest | Account receivables | Other receivables | Deposits for lease* | Accounts payable | Other payables | Loans | |||||||||||||||||||
DNI (Parent Company) | N/A | $ | 6,679 | $ | 171 | $ | 690 | $ | 360 | $ | 6,861 | $ | 6,800 | |||||||||||||
ABLE | 61.99% | 53 | — | 9 | — | — | — | |||||||||||||||||||
CHASAN Networks Co., Ltd. | 100% | — | — | — | 70 | — | — | |||||||||||||||||||
DASAN France | 100% | 23 | — | — | — | — | — | |||||||||||||||||||
DASAN INDIA Private Limited | 100% | 2,606 | — | — | — | — | — | |||||||||||||||||||
D-Mobile | 100% | 3,943 | — | — | — | — | — | |||||||||||||||||||
HANDYSOFT, Inc. | 17.64% | 2 | — | — | — | — | — | |||||||||||||||||||
J-Mobile Corporation | 68.56% | 5 | — | — | — | — | — | |||||||||||||||||||
Tomato Soft Ltd. | 100% | — | — | — | — | 16 | — | |||||||||||||||||||
Tomato Soft (Xi'an) Ltd. | 100% | — | — | — | — | 63 | — | |||||||||||||||||||
$ | 13,311 | $ | 171 | $ | 699 | $ | 430 | $ | 6,940 | $ | 6,800 |
The related to deposits for leaseparty receivables and payables balances are reflected in the condensed consolidatedrespective balance sheet as of September 30, 2017 andcaptions noted in the consolidated balance sheet as of December 31, 2016.
* | Deposits for leases are included in Other assets in the unaudited condensed consolidated balance sheets as of March 31, 2020 and December 31, 2019. |
(11) | Net Income |
Basic net income (loss) per share attributable to DASAN Zhone Solutions, Inc. is computed by dividing the net income (loss) attributable to DASAN Zhone Solutions, Inc. for the period by the weighted average number of shares of common
The following table is a reconciliation of the numerator and denominator in the basic and diluted net income (loss)loss per share calculation (in thousands, except per share data) for the three months ended March 31, 2020 and March 31, 2019:
|
| Three Months Ended March 31, |
| |||||
|
| 2020 |
|
| 2019 |
| ||
Net loss attributable to DASAN Zhone Solutions, Inc. |
| $ | (8,771 | ) |
| $ | (1,638 | ) |
Weighted average number of shares outstanding: |
|
|
|
|
|
|
|
|
Basic |
|
| 21,474 |
|
|
| 16,593 |
|
Effect of dilutive securities: |
|
|
|
|
|
|
|
|
Stock options, restricted stock units and share awards |
|
| — |
|
|
| — |
|
Diluted |
|
| 21,474 |
|
|
| 16,593 |
|
Net loss per share attributable to DASAN Zhone Solutions, Inc.: |
|
|
|
|
|
|
|
|
Basic |
| $ | (0.41 | ) |
| $ | (0.10 | ) |
Diluted |
| $ | (0.41 | ) |
| $ | (0.10 | ) |
(12) | Leases |
The Company leases certain properties and buildings (including manufacturing facilities, warehouses, and office spaces) and equipment under various arrangements which provide the right to use the underlying asset and require lease payments for the lease term. The Company’s lease portfolio consists of operating leases which expire at various dates through 2027.
The components of lease expense were as follows for the three months ended March 31, 2020 and 2019, respectively (in thousands):
|
| March 31, 2020 |
|
| March 31, 2019 |
| ||
Operating lease cost |
| $ | 1,410 |
|
| $ | 1,123 |
|
Variable lease cost |
|
| 158 |
|
|
| 164 |
|
Short-term lease cost |
|
| 36 |
|
|
| 101 |
|
Total net lease cost |
| $ | 1,604 |
|
| $ | 1,388 |
|
Supplemental cash flow information related to the Company’s operating leases was as follows for the three months ended March 31, 2020 and 2019, respectively (in thousands):
|
| March 31, 2020 |
|
| March 31, 2019 |
| ||
Operating cash flows from operating leases |
| $ | 1,403 |
|
| $ | 1,304 |
|
ROU assets obtained in exchange for operating lease obligations |
| $ | 26 |
|
| $ | — |
|
The following table presents the weighted average remaining lease term and weighted average discount rates related to the Company’s operating leases as of March 31, 2020 and December 31, 2019, respectively:
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
Weighted average remaining lease term |
| 2.3 years |
|
| 3.5 years |
| ||
Weighted average discount rate |
|
| 6.1 | % |
|
| 6.0 | % |
The following table presents the maturity of the Company’s operating lease liabilities as of March 31, 2020 (in thousands):
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||
2017 | 2016 | 2017 | 2016 | |||||||||||||
(As Revised) | (As Revised) | |||||||||||||||
Net income (loss) attributable to DASAN Zhone Solutions, Inc. | $ | 1,399 | $ | (4,733 | ) | $ | (3,157 | ) | $ | (9,066 | ) | |||||
Weighted average number of shares outstanding: | ||||||||||||||||
Basic | 16,382 | 11,139 | 16,380 | 10,046 | ||||||||||||
Effect of dilutive securities: | ||||||||||||||||
Stock options, restricted stock units and share awards | — | — | — | — | ||||||||||||
Diluted | 16,382 | 11,139 | 16,380 | 10,046 | ||||||||||||
Net income (loss) per share attributable to DASAN Zhone Solutions, Inc.: | ||||||||||||||||
Basic | $ | 0.09 | $ | (0.42 | ) | $ | (0.19 | ) | $ | (0.90 | ) | |||||
Diluted | $ | 0.09 | $ | (0.42 | ) | $ | (0.19 | ) | $ | (0.90 | ) |
Remainder of 2020 |
| $ | 3,793 |
|
2021 |
|
| 4,825 |
|
2022 |
|
| 4,417 |
|
2023 |
|
| 3,991 |
|
2024 |
|
| 3,553 |
|
Thereafter |
|
| 3,376 |
|
Total operating lease payments |
|
| 23,955 |
|
Less: imputed interest |
|
| (3,283 | ) |
Total operating lease liabilities |
| $ | 20,672 |
|
On March 2, 2020, the Company announced its plans to relocate its corporate headquarters from Oakland, California to Plano, Texas and establish a new U.S.-based Engineering Center of Excellence in Plano. On February 24, 2020, in connection with the computationplanned relocation of the diluted net income (loss) per share attributableCompany headquarters to DASAN Zhone Solutions, Inc.Plano, the Company entered into two separate sublease agreements for office and laboratory space in Plano, TX. The commencement date of these leases is expected to occur in the periods presented because including them would have been antidilutive are as follows (in thousands):
Three and Nine Months Ended September 30, | ||||||
2017 | 2016 | |||||
(As Revised) | ||||||
Stock options | 915 | 795 | ||||
Restricted stock units | 2 | 9 | ||||
917 | 804 |
(13) | |
Commitments and Contingencies |
Operating Leases | |||
Year ending December 31: | |||
2017 (remainder of the year) | $ | 967 | |
2018 | 3,359 | ||
2019 | 2,496 | ||
2020 | 2,358 | ||
2021 | 2,264 | ||
Thereafter | 8,722 | ||
Total minimum lease payments | $ | 20,166 |
Warranties
The Company accrues for warranty costs based on historical trends for the expected material and labor costs to provide warranty services. Warranty periods are generally twoone to five years from the date of shipment. The following table reconciles changes in the Company’s accrued warranties and related costs included in accrued and other liabilities (in thousands) for the ninethree months ended September 30, 2017March 31, 2020 and 2016 (in thousands):
|
| Three Months Ended March 31, |
| |||||
|
| 2020 |
|
| 2019 |
| ||
Beginning balance |
| $ | 1,610 |
|
| $ | 1,549 |
|
Charged to cost of revenue |
|
| 33 |
|
|
| 140 |
|
Claims and settlements |
|
| (495 | ) |
|
| (194 | ) |
Foreign exchange impact |
|
| (37 | ) |
|
| (11 | ) |
Ending balance |
| $ | 1,111 |
|
| $ | 1,484 |
|
Nine Months Ended September 30, | |||||||
2017 | 2016 | ||||||
Beginning balance | $ | 878 | $ | 441 | |||
Charged to cost of revenue | 126 | 227 | |||||
Claims and settlements | (195 | ) | (389 | ) | |||
Foreign exchange impact | 14 | 78 | |||||
Ending balance | $ | 823 | $ | 357 |
Performance Bonds
In the normal course of operations, from time to time, the Company arranges for the issuance of various types of surety bonds, such as bid and performance bonds, which are agreements under which the surety company guarantees that the Company will perform in accordance with contractual or legal obligations. As of September 30, 2017,March 31, 2020, the Company had $1.0$7.3 million of performance bonds and $0.4 million of warrantysurety bonds guaranteed by third parties.
Purchase Commitments
The Company’s inventory purchase commitments typically allow for cancellation of orders
30 days in advance of the required inventory availability date as set by the Company at time of order. However, the Company has agreements with various contract manufacturers which include non-cancellable inventory purchase commitments. The amount of non-cancellable purchase commitments outstanding, net of reserve, wasGuarantor | Amount Guaranteed | Description of Obligations Guaranteed | ||||
DNI (Parent Company) | $ | 3,349 | Borrowings from Shinhan Bank | |||
DNI (Parent Company) | 1,884 | Purchasing card from Shinhan Bank | ||||
DNI (Parent Company) | 10,493 | Credit facility & purchasing card from Industrial Bank of Korea | ||||
DNI (Parent Company) | 6,000 | Credit facility from NongHyup Bank | ||||
DNI (Parent Company) | 523 | Purchasing card from NongHyup Bank | ||||
Industrial Bank of Korea | 6,512 | Credit facility | ||||
Industrial Bank of Korea | 864 | Performance bonds | ||||
NongHyup Bank | 4,567 | Credit facility | ||||
Shinhan Bank | 191 | Purchasing card | ||||
KEB Hana Bank | 33 | Performance bonds | ||||
State Bank of India | 38 | Performance bonds | ||||
Seoul Guarantee Insurance Co. | 54 | Performance bonds | ||||
Seoul Guarantee Insurance Co. | 373 | Warranty bonds | ||||
$ | 34,881 |
Royalties
The Company has certain royalty commitments associated with the shipment and licensing of certain products. Royalty expense is generally based on a dollar amount per unit shipped or a percentage of the underlying revenue and is recorded in cost of revenue.
Payment Guarantees provided by Third Parties and DNI
The following table sets forth payment guarantees of the Company's indebtedness and other obligations as of March 31, 2020 that have been provided by third parties and DNI. DNI owns approximately 44.1% of the outstanding shares of the Company's common stock. The amount guaranteed exceeds the principal amounts of outstanding obligations due to collateral requirements by the banks.
Guarantor |
| Amount Guaranteed (in thousands) |
|
| Description of Obligations Guaranteed | |
DNI |
| $ | 8,400 |
|
| Credit facility from Industrial Bank of Korea |
DNI |
|
| 1,963 |
|
| Purchasing Card from Industrial Bank of Korea |
DNI |
|
| 8,400 |
|
| Credit facility from Korea Development Bank |
DNI |
|
| 4,908 |
|
| Borrowings from Korea Development Bank |
DNI |
|
| 6,000 |
|
| Credit facility from NongHyup Bank |
DNI |
|
| 3,504 |
|
| Borrowings from Export-Import Bank of Korea |
DNI |
|
| 3,000 |
|
| Payment Guarantee from Shinhan Bank |
DNI |
|
| 1,570 |
|
| Backed Loan from Shinhan Bank |
PNC Bank, N.A. |
|
| 4,859 |
|
| Collateral for Standby Letter of Credit |
Seoul Guarantee Insurance Co. |
|
| 5,690 |
|
| Performance Bond, Warranty Bond, etc. (*) |
Industrial Bank of Korea |
|
| 508 |
|
| Bank Guarantee |
Korea Development Bank |
|
| 2,105 |
|
| Letter of Credit |
NongHyup Bank |
|
| 765 |
|
| Letter of Credit |
Woori Bank |
|
| 968 |
|
| Bank Guarantee |
Shinhan Bank |
|
| 266 |
|
| Purchasing Card |
Shinhan Bank |
|
| 685 |
|
| Payment Guarantee |
Citibank |
|
| 291 |
|
| Collateral for Standby Letter of Credit |
|
| $ | 53,882 |
|
|
|
*The Company is generally responsible for warranty liabilities for a period of two years with respect to major product sales and has, therefore, contracted for surety insurance for a portion of the warranty liabilities.
Litigation
From time to time, the Company is subject to various legal proceedings, claims and litigation arising in the ordinary course of business. While the outcome of these matters is currently not determinable, the Company records an accrual for legal contingencies that it has determined to be probable to the extent that the amount of the loss can be reasonably estimated. The Company does not expect that the ultimate costs to resolve these matters will have a material adverse effect on its consolidated financial position, or results of operations.operations or cash flows. However, litigation is subject to inherent uncertainties, and unfavorable rulings could occur. If an unfavorable ruling were to occur, there exists the possibility of a material adverse impact on the results of operations and cash flows of the reporting period in which the ruling occurs, or future periods.
(14) | Income Taxes |
Income tax expense (benefit) for the three months ended March 31, 2020 and 2019 was approximately $0.0 million and $0.1 million respectively, on pre-tax loss of $8.8 million and $1.4 million, respectively.
As of March 31, 2020, the income tax rate varied from the United States statutory income tax rate primarily due to valuation allowances in the United States and taxable income generated by some of the Company’s wholly-owned foreign subsidiaries.
The total amount of unrecognized tax benefits, including interest and penalties, at March 31, 2020 was $1.0 million. There were no significant changes to unrecognized tax benefits during the quarter ended March 31, 2020. The Company does not anticipate any significant changes with respect to unrecognized tax benefits within the next 12 months.
On March 27, 2020, the “Coronavirus Aid, Relief and Economic Security (CARES) Act” was signed into law. The Act includes provisions relating to refundable payroll tax credits, deferment of the employer portion of certain payroll taxes, net operating loss carryback periods, alternative minimum tax credit refunds, modifications to the net interest deduction limitations and technical corrections to tax depreciation methods for qualified improvement property. The Company is currently analyzing the impact of these changes and therefore an estimate of the impact to income taxes is not yet available.
(15) | |
Enterprise-Wide Information |
The Company is a global provider of ultra-broadband network access solutions and communications equipment forplatforms deployed by advanced Tier 1, 2 and 3 service providerproviders and enterprise networks.customers. There are no segment managers who are held accountable for operations, operating results and plans for levels or components below the Company unit level. Accordingly, the Company is considered to be in a single reporting segment and operating unit structure. The Company’s chief operating decision makers aremaker is the Company’s Co-ChiefChief Executive Officers,Officer, who reviewreviews financial information presented on a consolidated basis accompanied bywith disaggregated information about revenues by geographic region for purposes of making operating decisions and assessing financial performance.
The Company attributes revenue from customers to individual countries based on location shipped. The following summarizesRefer to Note 1(e) Revenue disaggregation information, for the required disclosures about geographicgeographical concentrations and revenue by products and services (in thousands):
Three Months Ended | Nine Months Ended | ||||||||||||||
September 30, | September 30, | ||||||||||||||
2017 | 2016 | 2017 | 2016 | ||||||||||||
(As Revised) | (As Revised) | ||||||||||||||
Revenue by geography: | |||||||||||||||
United States | $ | 13,068 | $ | 3,408 | $ | 37,176 | $ | 7,432 | |||||||
Canada | 1,498 | 254 | 4,112 | 254 | |||||||||||
Total North America | 14,566 | 3,662 | 41,288 | 7,686 | |||||||||||
Latin America | 7,480 | 1,877 | 19,425 | 2,912 | |||||||||||
Europe, Middle East, Africa | 7,378 | 2,232 | 19,134 | 5,209 | |||||||||||
Korea | 20,520 | 18,372 | 69,032 | 60,144 | |||||||||||
Other Asia Pacific | 16,494 | 5,097 | 29,612 | 14,881 | |||||||||||
Total International | 51,872 | 27,578 | 137,203 | 83,146 | |||||||||||
Total | $ | 66,438 | $ | 31,240 | $ | 178,491 | $ | 90,832 |
Three Months Ended | Nine Months Ended | ||||||||||||||
September 30, | September 30, | ||||||||||||||
2017 | 2016 | 2017 | 2016 | ||||||||||||
(As Revised) | (As Revised) | ||||||||||||||
Revenue by products and services: | |||||||||||||||
Products | $ | 63,257 | $ | 28,891 | $ | 169,831 | $ | 84,666 | |||||||
Services | 3,181 | 2,349 | 8,660 | 6,166 | |||||||||||
Total | $ | 66,438 | $ | 31,240 | $ | 178,491 | $ | 90,832 |
The Company's property, plant and equipment, net of accumulated depreciation, were located in the following geographical areas (in thousands) as of September 30, 2017March 31, 2020 and December 31, 2016 (in thousands):2019:
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
United States |
| $ | 3,007 |
|
| $ | 2,809 |
|
Korea |
|
| 1,883 |
|
|
| 2,020 |
|
Japan and Vietnam |
|
| 1,049 |
|
|
| 1,074 |
|
Taiwan and India |
|
| 21 |
|
|
| 24 |
|
Germany |
|
| 756 |
|
|
| 842 |
|
|
| $ | 6,716 |
|
| $ | 6,769 |
|
September 30, 2017 | December 31, 2016 | ||||||
United States | $ | 3,611 | $ | 4,094 | |||
Korea | 1,449 | 1,455 | |||||
Japan and Vietnam | 752 | 739 | |||||
$ | 5,812 | $ | 6,288 |
Item 2. | |
As used in this report,Quarterly Report on Form 10-Q, unless the context suggests otherwise, the terms "we", "us", or "our"“DZS,” “we,” “our” and “us” refer to (i) Dasan Network Solutions, Inc. (DNS) and its consolidated subsidiaries for periods through September 8, 2016 and (ii) DASAN Zhone Solutions, Inc. and its consolidated subsidiaries (collectively, DZS) for periodssubsidiaries.
Forward-Looking Statements
This Quarterly Report on or after September 9, 2016, the effective date of the Merger (as defined below). In connection with the Merger, Zhone Technologies, Inc. changed its name to DASAN Zhone Solutions, Inc. For periods through September 8, 2016, Zhone Technologies, Inc. is referred to as "Legacy Zhone."
We use words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “forecast,” “goal,” “intend,” “may,” “plan,” “project,” “seek,” “should,” “target,” “will,” “would,” variations of such words, and similar expressions to identify forward-looking statements. In addition, statements that refer to projections of earnings, revenue, costs or other financial items;items in future periods; anticipated
the anticipated cost savings, synergies and other benefitsimpact of the Mergerglobal COVID-19 outbreak on the Company’s business and any integration risks relating tooperations, including as a result of travel bans related thereto, the Merger, the ability to generate sufficient revenue to achieve or sustain profitability,health and wellbeing of our employees in affected areas, disruption of our supply chain and softening of demands for our products;
• | our ability to realize the anticipated cost savings, synergies and other benefits of the Merger and the acquisition of Keymile and any integration risks relating to the acquisition of Keymile; |
our ability to raise additional capital to fund existing and future operations or to refinance or repay our existing indebtedness, indebtedness;
our ability to hire and retain key management and other personnel;
defects or other performance problems in our products, any economic slowdown in the telecommunications industry that restricts the abilityproducts;
• | any economic slowdown in the telecommunications industry that restricts or delays the purchase of |
commercial acceptance of our products, products;
intense competition in the communications equipment market from large equipment companies as well as private companies with products that address the same networksnetwork needs as our products, products;
higher than anticipated expenses that we may incur, incur;
any failure to comply with the periodic report filing and other requirements of The Nasdaq Stock Market for continued listing, listing;
material weaknesses or other deficiencies in our internal control over financial reporting, the initiationreporting; and
additional factors discussed in Part II, Item 1A “Risk Factors” and Part I, Item 2 “Management’s Discussion and Analysis of any civil litigation, regulatory proceedings, government enforcement actions or other adverse effects relating to the Audit Committee investigation or errors in the consolidated financial statementsFinancial Condition and Results of Legacy Zhone and other factors identified elsewhere inOperations” of this report andQuarterly Report on Form 10-Q, as well as those described in our most recentAnnual Report on Form 10-K for the year ended December 31, 2019 and from time to time in our other reports on Forms 10-K, 10-Qfiled with the U.S. Securities and 8-K. We undertake no obligation to revise or update any forward-looking statements for any reason.Exchange Commission (the “SEC”).
We are a global provider of ultra-broadband network access solutions and communications equipment forplatforms deployed by advanced Tier 1, 2 and 3 service providerproviders and enterprise networks.customers. We operate in a single reporting segment. We research, develop, test, sell, manufacture and support communications equipment in five major areas: broadband access, Ethernet switching, mobile fronthaul/backhaul, passive opticalPassive Optical LAN (POLAN) and software definedSDN/NFV solutions:
Our broadband access products offer a variety of solutions for carriers and service providers to connect residential and business customers, either using high-speed fiber or leveraging their existing deployed copper networks (SDN).to offer broadband services to customer premises. Once our broadband access products are deployed, the service provider can offer voice, high-definition and ultra-high-definition video, high-speed internet access and business class services to their customers.
Our Ethernet switching products provide a high-performance and Capital Resources" below,manageable solution that bridges the maturinggap from carrier access technologies to the core network. Our products support pure Ethernet switching as well as layer 3 IP and MPLS and are currently being developed for deployment as part of short-term debt obligationsSDNs.
Our mobile fronthaul/backhaul products provide a robust, manageable and scalable solution for mobile operators that enable them to upgrade their mobile fronthaul/backhaul systems and migrate to 5G and beyond. Our mobile backhaul products may be collocated at the radio access node base station and can aggregate multiple radio access node base stations into a single backhaul for delivery of mobile traffic to the radio access node network controller. We provide standard Ethernet/IP or MPLS interfaces and interoperate with other vendors in these networks.
Our FiberLAN portfolio of POL products are designed for enterprise, campus, hospitality, and entertainment arena usage. Our FiberLAN portfolio includes our recurring losses from operations raise substantial doubt on whether wehigh-performance, high-bandwidth GPON OLTs connected to the industry’s most diverse ONT product line, which include units with integrated PoE to power a wide range of PoE-enabled access devices.
Our SDN/NFV strategy is to develop tools and building blocks that will be ableallow service providers to continue asmigrate their networks’ full complement of legacy control plane and data plane devices to a going concern.
Going forward, our key financial objectives include the following:
Increasing revenue while continuing to carefully control costs;
Continuing investments in strategic research and product development activities that will provide the maximum potential return on investment; and
Minimizing consumption of our cash and cash equivalents.
As of March 31, 2020, we employed over 830 personnel worldwide. We consider the relationships with our employees to be positive. Competition for technical personnel in our industry is intense. We believe that our future success depends in part on our continued ability to hire, assimilate and retain qualified personnel. To date, we believe that we have been successful in recruiting qualified employees, but there is no assurance that we will continue to be successful in the future.
RECENT DEVELOPMENTS
On September 9, 2016, we acquired DNS throughMarch 2, 2020, the mergerCompany announced its plans to relocate its corporate headquarters from California to Plano, Texas and establish a new U.S.-based Engineering Center of a wholly owned subsidiary of Zhone Technologies, Inc. with and into DNS, with DNS surviving as our wholly owned subsidiary (the Merger).Excellence in Plano. In connection with the Merger, Zhoneplanned relocation, the Company entered into sublease agreements with Huawei Technologies, Inc. changed its nameand Futurewei Technologies, Inc. to DASAN Zhone Solutions, Inc. Our common stock continuessublease an aggregate of approximately 16,300 square feet located at Legacy Place, 5700 Tennyson Parkway, Plano, Texas.
On March 5, 2020, DNS Korea entered into a Loan Agreement with DNI, pursuant to be traded onwhich DNS Korea borrowed KRW 22.4 billion ($18.5 million USD) from DNI. DNS Korea subsequently loaned all of such borrowed funds to the Nasdaq Capital Market, and our ticker symbol was changed from "ZHNE" to "DZSI" effective September 12, 2016.
We list in the table below the historical condensed consolidated statement of comprehensive loss data as a percentage of total net revenue for the periods indicated.
| Three Months Ended March 31, |
| ||||||
|
| 2020 |
|
| 2019 |
| ||
Net revenue: |
|
|
|
|
|
|
|
|
Third parties |
|
| 100 | % |
|
| 99 | % |
Related parties |
|
| — |
|
|
| 1 | % |
Total net revenue |
|
| 100 | % |
|
| 100 | % |
Cost of revenue: |
|
|
|
|
|
|
|
|
Products and services - third parties |
|
| 65 | % |
|
| 65 | % |
Products and services - related parties |
|
| — |
|
|
| 1 | % |
Amortization of intangible assets |
|
| 1 | % |
|
| — |
|
Total cost of revenue |
|
| 66 | % |
|
| 66 | % |
Gross profit |
|
| 34 | % |
|
| 34 | % |
Operating expenses: |
|
|
|
|
|
|
|
|
Research and product development |
|
| 20 | % |
|
| 14 | % |
Selling, marketing, general and administrative |
|
| 29 | % |
|
| 20 | % |
Amortization of intangible assets |
|
| 1 | % |
|
| 1 | % |
Total operating expenses |
|
| 50 | % |
|
| 35 | % |
Operating loss |
|
| (16 | )% |
|
| (1 | )% |
Interest income |
|
| — |
|
|
| — |
|
Interest expense |
|
| (1 | )% |
|
| (1 | )% |
Loss on extinguishment of debt |
|
| (3 | )% |
|
| — |
|
Other income (loss), net |
|
| 2 | % |
|
| — |
|
Loss before income taxes |
|
| (18 | )% |
|
| (2 | )% |
Income tax provision |
|
| — |
|
|
| — |
|
Net loss |
|
| (18 | )% |
|
| (2 | )% |
Net income attributable to non-controlling interest |
|
| — |
|
|
| — |
|
Net loss attributable to DASAN Zhone Solutions, Inc. |
|
| (18 | )% |
|
| (2 | )% |
Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||
2017 | 2016 | 2017 | 2016 | ||||||||
(As Revised) | (As Revised) | ||||||||||
Net revenue: | |||||||||||
Net revenue | 91 | % | 79 | % | 85 | % | 75 | % | |||
Net revenue - related parties | 9 | % | 21 | % | 15 | % | 25 | % | |||
Total net revenue | 100 | % | 100 | % | 100 | % | 100 | % | |||
Cost of revenue: | |||||||||||
Products and services | 58 | % | 53 | % | 54 | % | 54 | % | |||
Products and services - related parties | 8 | % | 17 | % | 13 | % | 21 | % | |||
Amortization of intangible assets | 0 | % | 0 | % | 0 | % | 0 | % | |||
Total cost of revenue | 67 | % | 70 | % | 67 | % | 75 | % | |||
Gross profit | 33 | % | 30 | % | 33 | % | 25 | % | |||
Operating expenses: | |||||||||||
Research and product development | 14 | % | 19 | % | 15 | % | 17 | % | |||
Selling, marketing, general and administrative | 17 | % | 26 | % | 18 | % | 18 | % | |||
Amortization of intangible assets | 0 | % | 1 | % | 1 | % | 0 | % | |||
Total operating expenses | 31 | % | 46 | % | 34 | % | 35 | % | |||
Operating income (loss) | 2 | % | (16 | )% | (1 | )% | (10 | )% | |||
Interest income | 0 | % | 0 | % | 0 | % | 0 | % | |||
Interest expense | 0 | % | (1 | )% | 0 | % | (1 | )% | |||
Other income, net | 0 | % | 0 | % | 0 | % | 0 | % | |||
Income (loss) before income taxes | 2 | % | (17 | )% | (1 | )% | (11 | )% | |||
Income tax provision (benefit) | 0 | % | (2 | )% | 1 | % | (1 | )% | |||
Net income (loss) | 2 | % | (15 | )% | (2 | )% | (10 | )% | |||
Net loss attributable to non-controlling interest | 0 | % | 0 | % | 0 | % | 0 | % | |||
Net income (loss) attributable to DASAN Zhone Solutions, Inc. | 2 | % | (15 | )% | (2 | )% | (10 | )% | |||
Foreign currency translation adjustments | 0 | % | 7 | % | 1 | % | 3 | % | |||
Comprehensive income (loss) | 2 | % | (8 | )% | (1 | )% | (7 | )% | |||
Comprehensive income attributable to non-controlling interest | 0 | % | 0 | % | 0 | % | 0 | % | |||
Comprehensive income (loss) attributable to DASAN Zhone Solutions, Inc. | 2 | % | (8 | )% | (1 | )% | (7 | )% |
Net Revenue
The following table presents our net revenue for products and services forrevenues by source (in millions):
|
| Three Months Ended March 31, |
| |||||||||||||
|
| 2020 |
|
| 2019 |
|
| Increase/ (Decrease) |
|
| % change |
| ||||
Products |
| $ | 40.7 |
|
| $ | 69.6 |
|
| $ | (28.9 | ) |
|
| (42 | )% |
Services |
|
| 6.8 |
|
|
| 4.5 |
|
|
| 2.3 |
|
|
| 51 | % |
Total |
| $ | 47.5 |
|
| $ | 74.1 |
|
| $ | (26.6 | ) |
|
| (36 | )% |
For the three and
Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||||||||
2017 | 2016 | Increase/(decrease) | % change | 2017 | 2016 | Increase/(decrease) | % change | ||||||||||||||||||||||
(As Revised) | (As Revised) | ||||||||||||||||||||||||||||
Products | $ | 63.2 | $ | 28.9 | $ | 34.3 | 119 | % | $ | 169.8 | $ | 84.6 | $ | 85.2 | 101 | % | |||||||||||||
Services | 3.2 | 2.3 | 0.9 | 39 | % | 8.7 | 6.2 | 2.5 | 40 | % | |||||||||||||||||||
Total | $ | 66.4 | $ | 31.2 | $ | 35.2 | 113 | % | $ | 178.5 | $ | 90.8 | $ | 87.7 | 97 | % |
Information about our net revenue for North America and international markets for the three and nine months ended September 30, 2017 and 2016 is summarized below (in millions):
| Three Months Ended March 31, |
| ||||||||||||||
|
| 2020 |
|
| 2019 |
|
| Increase/ (decrease) |
|
| % change |
| ||||
Revenue by geography: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States |
| $ | 7.6 |
|
| $ | 9.6 |
|
| $ | (2.0 | ) |
|
| (21 | )% |
Canada |
|
| 0.8 |
|
|
| 0.9 |
|
|
| (0.1 | ) |
|
| (11 | )% |
Total North America |
|
| 8.4 |
|
|
| 10.5 |
|
|
| (2.1 | ) |
|
| (20 | )% |
Latin America |
|
| 2.2 |
|
|
| 6.6 |
|
|
| (4.4 | ) |
|
| (67 | )% |
Europe, Middle East, Africa |
|
| 12.4 |
|
|
| 18.4 |
|
|
| (6.0 | ) |
|
| (33 | )% |
Korea |
|
| 9.6 |
|
|
| 15.9 |
|
|
| (6.3 | ) |
|
| (40 | )% |
Other Asia Pacific |
|
| 14.9 |
|
|
| 22.7 |
|
|
| (7.8 | ) |
|
| (34 | )% |
Total International |
|
| 39.1 |
|
|
| 63.6 |
|
|
| (24.5 | ) |
|
| (39 | )% |
Total |
| $ | 47.5 |
|
| $ | 74.1 |
|
| $ | (26.6 | ) |
|
| (36 | )% |
Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||||||||
2017 | 2016 | Increase/(decrease) | % change | 2017 | 2016 | Increase/(decrease) | % change | ||||||||||||||||||||||
(As Revised) | (As Revised) | ||||||||||||||||||||||||||||
Revenue by geography: | |||||||||||||||||||||||||||||
United States | $ | 13.1 | $ | 3.4 | $ | 9.7 | 285 | % | $ | 37.2 | $ | 7.4 | $ | 29.8 | 403 | % | |||||||||||||
Canada | 1.5 | 0.3 | 1.2 | 100 | % | 4.1 | 0.3 | 3.8 | 100 | % | |||||||||||||||||||
Total North America | 14.6 | 3.7 | 10.9 | 295 | % | 41.3 | 7.7 | 33.6 | 436 | % | |||||||||||||||||||
Latin America | 7.5 | 1.9 | 5.6 | 295 | % | 19.4 | 2.9 | 16.5 | 569 | % | |||||||||||||||||||
Europe, Middle East, Africa | 7.4 | 2.2 | 5.2 | 236 | % | 19.1 | 5.2 | 13.9 | 267 | % | |||||||||||||||||||
Korea | 20.5 | 18.4 | 2.1 | 11 | % | 69.0 | 60.1 | 8.9 | 15 | % | |||||||||||||||||||
Asia Pacific | 16.4 | 5.0 | 11.4 | 228 | % | 29.7 | 14.9 | 14.8 | 99 | % | |||||||||||||||||||
Total International | 51.8 | 27.5 | 24.3 | 88 | % | 137.2 | 83.1 | 54.1 | 65 | % | |||||||||||||||||||
Total | $ | 66.4 | $ | 31.2 | $ | 35.2 | 113 | % | $ | 178.5 | $ | 90.8 | $ | 87.7 | 97 | % |
From a geographical perspective, the three months ended September 30, 2017, net revenue increased 113% or $35.2 million to $66.4 million from $31.2 million for the same period last year. For the nine months ended September 30, 2017, net revenue increased 97% or $87.7 million to $178.5 million from $90.8 million for the same period last year. For the three months ended September 30, 2017, product revenue increased 119% or $34.3 million to $63.2 million compared to the same period last year. For the nine months ended September 30, 2017, product revenue increased 101% or $85.2 million to $169.8 million compared to the same period last year. The increasedecrease in net revenue for the three and nine months ended September 30, 2017March 31, 2020 was primarily relatedattributable to declining revenue in all regions except for Korea, and was largely attributed to impacts from the consummationworldwide COVID-19 pandemic, resulting in disruptions to our supply chain and decreased business operations by certain of the Merger in September 2016 (which resulted in the inclusion ofour customers.
Across non-U.S. markets, net revenue related to the Legacy Zhone business for the entire current year periods, compared to only 22 days in the prior year periods).
For the three months ended September 30, 2017,March 31, 2020 two customers represented,customer accounted for 14% and 10% and 9% of net revenue, respectively. For the nine months ended September 30, 2017, two customers each represented 9% of net revenue (one of which was a related-party). For the three months ended September 30, 2016, three customers represented 18%, 16% (a related-party) and 12%March 31, 2019, no customer accounted for more 10% of net revenue, respectively. For the nine months ended September 30, 2016, three customers represented 23%, 21% (a related-party) and 12% of net revenue, respectively. revenue.
We anticipate that our results of operations in any given period may depend to a large extent on sales to a small number of large accounts.customers. As a result, our revenue for any quarter may be subject to significant volatility based upon changes in orders from one or a small number of key customers.
Cost of Revenue and Gross Margin
Total cost of revenue increased 102%decreased 36% or $22.4$17.7 million to $44.4$31.5 million for the three months ended September 30, 2017,March 31, 2020, compared to $21.9$49.2 million for the three months ended September 30, 2016.March 31, 2019. Total cost of revenue increased 76% or $51.5 million to $119.4 millionwas 66% of net revenue for each of the ninethree months ended September 30, 2017, compared to $67.9 million for the nine months ended September 30, 2016. The increases in total cost of revenue were primarily due to the consummation of the Merger in September 2016 (which resulted in the inclusion of cost of revenue related to the Legacy Zhone business for the entire current year periods, compared to only 22 days in the prior year periods) as well as increased sales. Gross margin increased slightly in both the threeMarch 31, 2020 and nine months ended September 30, 2017 compared to the prior year periods due to improved manufacturing efficiencies and product mix.
We expect that in the future our cost of revenue as a percentage of net revenue will vary depending on the mix and average selling prices of products sold. In addition, continued competitive and economic pressures could cause us to reduce our prices, adjust the carrying values of our inventory, or record inventory chargesexpenses relating to discontinued products and excess or obsolete inventory.
Research and Product Development Expenses
Research and product development expenses increased 50%decreased 6% or $2.9$0.6 million to $8.8$9.6 million for the three months ended September 30, 2017March 31, 2020, compared to $5.9$10.2 million for the three months ended September 30, 2016. Research and product development expenses increased 73% or $11.4 million to $27.0 million for the nine months ended September 30, 2017 compared to $15.6 million for the nine months ended September 30, 2016. The increase inMarch 31, 2019. As a percentage of sales, research and product development expenses was primarily due to the consummation of the Merger in September 2016 (which resulted in the inclusion of research and product development expenses related to the Legacy Zhone businesswere 20% for the entire current year periods,three months ended March 31, 2020, compared to only 22 days in14% for the prior year periods). three months ended March 31, 2019.
We intend to continue to invest in research and product development to attain our strategic product development objectives, while seeking to manage the associated costs through expense controls.
Selling, Marketing, General and Administrative Expenses
Selling, marketing, general and administrative expenses increased 38%include personnel costs for sales, marketing, administration, finance, information technology, human resources and general management as well as legal and accounting expenses, rent, utilities, trade show expenses and related travel costs.
Selling, marketing, general and administrative expenses decreased 9% or $3.2$1.4 million to $11.5$13.6 million for the three months ended September 30, 2017March 31, 2020, compared to $8.3$15.0 million for the three months ended September 30, 2016. Selling,March 31, 2019. The decrease in selling, marketing, general and administrative expenses increased 95% or $15.8 million to $32.5 million forcosts in the ninethree months ended September 30, 2017 comparedMarch 31, 2020 relative to $16.7 million for the nine months ended September 30, 2016. The increasessame period in 2019 is largely due to restructuring activities, including reductions in force, undertaken during 2019. As a percentage of sales, selling, marketing, general and administrative expenses were primarily due29% for the three months ended March 31, 2020, compared to 20% for the consummation of the Mergerthree months ended March 31, 2019. The increase in September 2016 (which resulted in the inclusion of selling, marketing, general and administrative expenses relatedcosts as a percentage of sales in the period relative to Legacy Zhone businessthe first quarter of 2019 is due to the lower overall level of revenues in the three months ended March 31, 2020.
Income Tax Provision
Income tax benefit for the entire current year periods,three months ended March 31, 2020 was approximately $5,000, compared to only 22 daysincome tax expense for the three months ended March 31, 2019 of $0.1 million, on pre-tax loss of $8.8 million and $1.4 million, respectively. As of March 31, 2020, the income tax rate varied from the United States statutory income tax rate, primarily due to valuation allowances in the prior year periods), offsetUnited States and taxable income generated by higher commission expenses duringsome of the three and nine months ended September 30, 2016.
OTHER PERFORMANCE MEASURES
In managing our business and assessing our financial performance, we supplement the information provided by our U.S. GAAP results with adjusted earnings before stock-based compensation, interest, taxes, and depreciation, or Adjusted EBITDA, a non-GAAPnon-U.S. GAAP financial measure. We define Adjusted EBITDA as net income (loss) plus (i) interest expense, net, (ii) provision (benefit) for taxes, (iii) depreciation and amortization, (iv) stock-based compensation, and (v) the impact of material non-recurring transactions or events that we believe are not indicative of our core operating performance, such as Mergermerger and acquisition transaction costs, or ainventory valuation step-up amortization, purchase price adjustments, restructuring and other charges, goodwill impairment, bargain purchase gain, gain (loss) on sale of assets, or impairment of fixed assets.long-lived assets or loss on debt extinguishment, any of which may or may not be recurring in nature. We believe that the presentation of Adjusted EBITDA enhances the usefulness of our financial information by presenting a measure that management uses internally to monitor and evaluate our operating performance and to evaluate the effectiveness of our business strategies. We believe Adjusted EBITDA also assists investors and analysts in comparing our performance across reporting periods on a consistent basis because it excludes the impact of items that we do not believe reflect our core operating performance.
Adjusted EBITDA has limitations as an analytical tool. Some of these limitations are:
Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual requirements;
Adjusted EBITDA does not reflect changes in, or cash requirements for, our working capital needs;
Adjusted EBITDA does not reflect the interest expense, or the cash requirements necessary to service interest or principal payments, on our debts;
Although depreciation and amortization are non-cash charges,expenses, the assets being depreciated and amortized will often have to be replaced in the future, and Adjusted EBITDA does not reflect any cash requirements for such replacements;
Non-cash compensation is and will remain a key element of our overall long-term incentive compensation package, although we exclude it as an expense when evaluating our ongoing operating performance for a particular period; and
Other companies in our industry may calculate Adjusted EBITDA and similar measures differently than we do, limiting its usefulness as a comparative measure.
Because of these limitations, Adjusted EBITDA should not be considered in isolation or as a substitute for net income (loss) or any other performance measures calculated in accordance with U.S. GAAP or as a measure of liquidity. Management understands these limitations and compensates for these limitations by relying primarily on our U.S. GAAP results and using Adjusted EBITDA only supplementally.as a supplemental measure.
Set forth below is a reconciliation of net loss to Adjusted EBITDA and net income, which we consider to be the most directly comparable U.S. GAAP financial measure to Adjusted EBITDA (in thousands):
| Three Months Ended March 31, |
| ||||||
|
| 2020 |
|
| 2019 |
| ||
Net income (loss) |
| $ | (8,771 | ) |
| $ | (1,457 | ) |
Add (less): |
|
|
|
|
|
|
|
|
Interest expense, net |
|
| 573 |
|
|
| 783 |
|
Income tax (benefit) expense |
|
| (5 | ) |
|
| 77 |
|
Depreciation and amortization |
|
| 1,256 |
|
|
| 1,417 |
|
Stock-based compensation |
|
| 782 |
|
|
| 825 |
|
Acquisition costs |
|
| — |
|
|
| 337 |
|
Inventory step-up valuation amortization |
|
| — |
|
|
| 201 |
|
Bargain purchase gain |
|
| — |
|
|
| (334 | ) |
Loss on debt extinguishment |
|
| 1,369 |
|
|
| — |
|
Adjusted EBITDA |
| $ | (4,796 | ) |
| $ | 1,849 |
|
Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||
2017 | 2016 | 2017 | 2016 | ||||||||||||
(As Revised) | (As Revised) | ||||||||||||||
Net income (loss) | $ | 1,387 | $ | (4,789 | ) | $ | (2,985 | ) | $ | (9,083 | ) | ||||
Add: | |||||||||||||||
Interest expense, net | 227 | 173 | 711 | 463 | |||||||||||
Income tax provision (benefit) | 107 | (610 | ) | 646 | (1,041 | ) | |||||||||
Depreciation and amortization | 752 | 628 | 3,105 | 1,165 | |||||||||||
Stock-based compensation | 195 | 128 | 670 | 128 | |||||||||||
Merger-related costs | — | 3,536 | — | 3,536 | |||||||||||
Adjusted EBITDA | $ | 2,668 | $ | (934 | ) | $ | 2,147 | $ | (4,832 | ) |
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
For a complete description of what we believe to be the critical accounting policies and estimates used in the preparation of our unaudited condensed consolidated financial Statements, refer to Note 1, Organization and Summary of Significant Accounting Policies, in the notes to our audited consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2019, as supplemented by Note 1, Organization and Summary of Significant Accounting Policies, in the notes to our unaudited condensed consolidated financial statements in Part I, Item 1 of this Quarterly Report on Form 10-Q.
LIQUIDITY AND CAPITAL RESOURCES
Our operations are financed through a combination of our existing cash, cash equivalents, available credit facilities, and sales of equity and debt instruments, based on our operating requirements and market conditions.
The following table summarizes the information regarding our cash and cash equivalents were
|
| March 31, 2020 |
|
| December 31, 2019 |
| ||
Cash and cash equivalents |
| $ | 26,437 |
|
| $ | 28,747 |
|
Working capital |
|
| 113,586 |
|
|
| 114,885 |
|
The Company had net loss of September 30, 2017 included $3.4 million in cash balances held by our Korean subsidiary. The $7.7 million decrease in cash and cash equivalents was attributable to net cash used in operating, investing and financing activities of $0.6 million, $5.9 million and $1.8 million, respectively, partially offset by the effect of exchange rate changes on cash of $0.6 million.
Our current lack of liquidity could harm us by:
increasing our short-termvulnerability to adverse economic conditions in our industry or the economy in general;
requiring substantial amounts of cash to be used for debt obligations and our loans from DNI and its affiliates. In addition, we had $7.6 million in aggregate borrowing availability under our credit facilities as ofservicing, rather than other purposes, including operations;
limiting our ability to comply with the covenantsplan for, or react to, changes in our existing debt agreements,business and industry; and
influencing investor and customer perceptions about our financial stability and limiting our ability to cure any defaults that occur under our debt agreementsobtain financing or to obtain waivers or forbearances with respect to any such defaults, and our ability to pay, retire, amend, replace or refinance our indebtedness as defaults occur or as interest and principal payments come due. Although the process of amending, replacing or refinancing our short-term debt obligations is ongoing andacquire customers.
However, we are in active discussions with multiple parties, there is no guarantee that they will result in transactions that are sufficientcontinue to provide us with the required liquidity to remove the substantial doubt as to our ability to continue as a going concern. If we are unable to amend, replace, refinance our short-term debt obligations or raise the capital needed to meet liquidity needs and finance capital expenditures and working capital, we may experience material adverse impacts on our business, operating results and financial condition.
Our ability to meet our obligations as they become due in the ordinary course of business for the next twelve (12) months will depend on our ability (i) to achieve forecasted results of operations, (ii) access funds under new credit facilities and/or raise additional capital through sale of our common stock to the public, and (iii) effectively manage working capital requirements. If we cannot raise additional funds when we need or wants them, our operations and prospects could be negatively affected. While we believe that we are likely to achieve forecasted results of operations if we are successful in implementing our business, the impact of the COVID-19 pandemic provides great uncertainty with respect to our future operations, could result in a material decline in our operating cash flows and could cause us to fail to meet our obligations as they come due.
In December 2019, a strain of coronavirus, now known as COVID-19, was reported to have surfaced in Wuhan, China. Since that time, the widespread and sustained transmission of the virus has reached global pandemic status. In response to the pandemic, many national and international health agencies have recommended, and many countries and state, provincial and local governments have implemented, various measures, including travel bans and restrictions, limitations on public and private gatherings, business closures or operating restrictions, social distancing, and shelter-in-place orders. The health effects of the pandemic and the above measures taken in response thereto have had an effect on the global economy in general and has materially impacted and will likely continue as a going concern.
Operating Activities
Net cash provided by operating activities increased by $5.6 million to $0.6 million for the ninethree months ended September 30, 2016 consistedMarch 31, 2020 from net cash used in operating activities of a net loss of $9.1$5.0 million adjusted for non-cash charges totaling $1.9 million and an increasethe three months ended March 31, 2019. The improvement in netcash from changes in operating assets totaling $20.4 million. The most significant components of the changes were a decrease in accounts receivables of $14 million and an increase in accrued expenses of $13.6 million offset by a decrease in accounts payable of $5.8 million. The increase in accounts receivableliabilities was primarily due to the timing ofcollection accounts receivables, collections during the current year period. The decreaseincluding amounts reflected in accounts payable was primarily due to timing of payments.
Investing Activities
Net cash used in investing activities decreased by $4.2 million to $0.6 million for the
Financing Activities
Cash provided by financing activities totaled $3.1 million for the three months ended March 31, 2020 and consisted primarily of an increase in restricted cash of $6.1 million and purchase of property of equipment of $0.8 million, offset by proceeds from sale of short-term investments of $1.5 million. The increase in restricted cash was to provide collateral for the various surety bonds issued by DNI to a certain customer in Vietnam.
Cash Management
Our primary source of liquidity comes from our cash, and cash equivalents and restricted cash, which totaled
Debt Facilities
PNC Credit Facilities
On February 27, 2019, the Company and certain of September 30, 2017, we hadits subsidiaries (as co-borrowers or guarantors) entered into that certain Revolving Credit, Term Loan, Guaranty and Security Agreement and that certain Export-Import Revolving Credit, Guaranty and Security Agreement, in each case with PNC Bank, National Association (“PNC Bank”) and Citibank, N.A. as lenders, and PNC as agent for the lenders. We refer to such transactions and the agreements referenced above as the “PNC Credit Facilities”.
The PNC Credit Facilities provided for a $25.0$25 million term loan and a $15 million revolving line of credit facility (the WFB Facility)(including subfacilities for Ex-Im transactions, letters of credit and swing loans) with Wells Fargo Bank (WFB). Under the WFB Facility, we have the option of borrowing funds at agreed upon interest rates.a $10 million incremental increase option. The amount that we arethe Company was able to borrow underon the WFB Facility variesrevolving line of credit at any time was based on eligible accounts receivable and inventory, as defined in the WFB Facility, as long as the aggregate amount outstanding does not exceed $25.0 millionother conditions, less the amount committed as security for letters of credit. To maintain availability of fundscertain reserves. Borrowings under the WFB Facility, we pay a commitment fee on the unused portion. The commitment fee is 0.25% per annum and is recorded asPNC Credit Facilities bore interest expense.
The PNC Credit Facilities had a three-year term and were scheduled to mature on February 27, 2022. The PNC Credit Facilities contemplated repayment of the term loan in quarterly installments over the term of the loan, with the balance of the term loan and revolving line of credit due at maturity.
The Company used a portion of the proceeds of the March 2020 DNI Loan to repay in full and terminate the PNC Credit Facilities. Covenants under the WFB Facility). The interest rate on the WFB Facility was 3.8% at September 30, 2017. The maturity dateMarch 2020 DNI Loan are significantly less restrictive than under the WFB Facility is March 31, 2019.
Bank and Trade Facilities - Foreign Operations
Certain of our foreign subsidiaries have entered into various financing arrangements with foreign banks and other lending institutions consisting primarily of revolving lines of credit, trade facilities, term loans and export development loans. These facilities are renewed on an annual basis and are generally secured by a security interest in certain assets of the applicable foreign subsidiaries.subsidiaries and supported by guarantees given by DNI or third parties. Payments under such facilities are made in accordance with the given lender’s amortization schedules. As of September 30, 2017March 31, 2020 and December 31, 2016,2019, we had an aggregate outstanding balance of $18.4$12.3 million and $17.6$15.8 million, respectively, under such financing arrangements, and the interest rate per annum applicable to outstanding borrowings under these financing arrangements ranged from 0% to 3.05% as of September 30, 2017 and DecemberMarch 31, 2020.
Related Party Debt
In February 2016, rangedDNS California borrowed $1.8 million from 2.3% to 5.9% and 1.9% to 4.1%, respectively.
In September, 9, 2016, wethe Company entered into a loan agreement with DNI for a $5.0 million unsecured subordinated term loan facility. Under theThe term loan agreement, we were permittedwas scheduled to request drawdowns of one or more term loans in an aggregate principal amount not to exceed $5.0 million. As of September 30, 2017, $5.0 million in term loans was outstanding under the facility. Such term loans mature in September 2021 and arewas pre-payable at any time by usthe Company without premium or penalty. The interest rate as of September 30, 2017 under this facility was 4.6% per annum.
In March 2018, DNS Korea borrowed $1.8$5.8 million from DNI, for capital investment in February 2016,of which amount$4.5 million was outstanding as of September 30, 2017. Thisrepaid on August 8, 2018. The loan matured in March 2017 with an option of renewal by mutual agreement, and borebears interest at a rate of 6.9% per annum, payable annually. Effective4.6%. On February 27, 2017, we2019, in connection with the entry into the PNC Credit Facilities, the Company amended the terms of this loan to extend the repayment date fromto May 27, 2022. As of March 201731, 2020, $1.3 million remained outstanding.
In December, 2018, the Company entered into a loan agreement with DNI, for a $6.0 million term loan with an interest rate of 4.6% per annum. On February 27, 2019, in connection with the entry into the PNC Credit Facilities, the Company amended the terms of the term loan to March 2018extend the repayment date to May 27, 2022 and to reduce the interest rate from 6.9%terminate any security granted to 4.6% per annum.
The modifications resulting from the amendments described in the four preceding paragraphs were limited to the extension of the maturity dates and removal of the collateral on the outstanding term loans with DNI. There were no fees paid to DNI or external costs otherwise incurred in connection with these modifications.
On March 5, 2020, DNS Korea, the Company’s wholly-owned, indirect subsidiary entered into a Loan Agreement with DNI (the “March 2020 DNI Loan”). The March 2020 DNI Loan was negotiated and approved on behalf of the Company and its subsidiaries by a special committee of the Board of Directors of the Company (the “Special Committee”) consisting of directors determined to be independent from DNI. The March 2020 DNI Loan consists of a term loan in the amount of KRW 22.4 billion ($18.5 million USD) with interest payable semi-annually at an annual rate of 4.6% and maturing on March 11, 2022. No principal payments are due on the March 2020 DNI Loan until the maturity date, but DNS Korea may prepay the loan, or a portion thereof, without penalty.
As security for the March 2020 DNI Loan (and other existing loans between DNI and DNS Korea and/or DNS California), (i) DNS California, a wholly-owned, direct subsidiary of the Company and the sole stockholder of DNS Korea, agreed to pledge the outstanding shares of DNS Korea to DNI and (ii) DNS Korea granted a security interest in its personal property assets, accounts receivable and intellectual property assets to DNI. The March 2020 DNI Loan includes certain covenants consisting of financial reporting obligations, a maintenance covenant whereby DNS Korea agreed to maintain a minimum stockholders’ equity value in an amount equal to or greater than KRW 43.3 billion ($35.8 million), and customary events of default. If an event of default occurs and is not remedied within the applicable cure period, DNI will be entitled to take various actions, including requiring the immediate repayment of all outstanding amounts under the March 2020 DNI Loan and selling the shares or assets of DNS Korea.
DNS Korea loaned the funds borrowed under the March 2020 DNI Loan to the Company, and the Company used a portion of such funds to repay in full and terminate the PNC Credit Facilities, described below.
As of March 31, 2020, the Company had borrowings of $27.3 million outstanding from DNI. The outstanding balance under thisat March 31, 2020 consisted of the March 2020 DNI Loan of KRW 22.4 billion ($18.5 million USD), a $6.0 million unsecured subordinated term loan agreement was $1.7 million. This loanfacility which matures in November 2017May 2022, a $1.8 million loan for capital investment which matures in May 2022, and bearsKRW 1.5 billion ($1.3 million) outstanding under a secured loan to DNS Korea which matures in May 2022. All four loans bear interest at a rate of 4.6% per annum, payable monthly.
Interest expense on these related party borrowings was $0.2 million and $0.1 million during the three months ended March 31, 2020 and 2019, respectively.
Future Requirements and Funding Sources
Our fixed commitments for cash expenditures consist primarily of payments under operating leases, inventory purchase commitments, and payments of principal and interest for debt obligations.
From time to time, we may provide or commit to extend credit or credit support to our customers. This financing may include extending the terms for product payments to customers. Any extension of financing to our customers will limit the capital that we have available for other uses.
Our accounts receivable, while not considered a primary source of liquidity, represent a concentration of credit risk because a significant portion of the accounts receivable balance at any point in time typically consists of a relatively small number of customer account balances. As of September 30, 2017, threeMarch 31, 2020, two customers accounted for 16% (a related-party), 11% and 10%each represented 19% of net accounts receivables,receivable, respectively, and receivables from customers in countries other than the United States represented 84%96% of net accounts receivable. We do not currently have any material commitments for capital expenditures, or any other material commitments aside from operating leases for our facilities, inventory purchase commitments and debt.
Contractual Commitments and Off-Balance Sheet Arrangements
At September 30, 2017,March 31, 2020, our future contractual commitments by fiscal year were as follows (in thousands):
|
|
|
|
|
| Payments due by period |
| |||||||||||||||||||||
|
| Total |
|
| 2020 |
|
| 2021 |
|
| 2022 |
|
| 2023 |
|
| 2024 |
|
| Thereafter |
| |||||||
Operating lease payments |
| $ | 25,436 |
|
| $ | 3,890 |
|
| $ | 5,090 |
|
| $ | 4,691 |
|
| $ | 4,273 |
|
| $ | 3,842 |
|
| $ | 3,650 |
|
Short-term debt |
|
| 12,323 |
|
|
| 12,323 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
Purchase commitments |
|
| 5,565 |
|
|
| 5,565 |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
|
| — |
|
Long-term debt - related party |
|
| 27,348 |
|
|
| — |
|
|
| — |
|
|
| 27,348 |
|
|
| — |
|
|
| — |
|
|
| — |
|
Total future contractual commitments |
| $ | 70,672 |
|
| $ | 21,778 |
|
| $ | 5,090 |
|
| $ | 32,039 |
|
| $ | 4,273 |
|
| $ | 3,842 |
|
| $ | 3,650 |
|
Payments due by period | |||||||||||||||||||||||||||
Total | 2017 | 2018 | 2019 | 2020 | 2021 | Thereafter | |||||||||||||||||||||
Operating leases | $ | 20,166 | $ | 967 | $ | 3,359 | $ | 2,496 | $ | 2,358 | $ | 2,264 | $ | 8,722 | |||||||||||||
Purchase commitments | 2,966 | 2,966 | — | — | — | — | — | ||||||||||||||||||||
Short-term debt | 18,382 | 18,382 | — | — | — | — | — | ||||||||||||||||||||
Related-party debt | 8,544 | 1,744 | 1,800 | — | — | 5,000 | — | ||||||||||||||||||||
Total future contractual commitments | $ | 50,058 | $ | 24,059 | $ | 5,159 | $ | 2,496 | $ | 2,358 | $ | 7,264 | $ | 8,722 |
Operating Leases
Future minimum operating lease amounts shownobligations in the table above representinclude primarily off-balance sheet arrangements. For operating lease commitments, a liability is generally not recorded onpayments for our balance sheet unless the facility represents an excess facility foroffice locations and manufacturing, research and development locations, which an estimateexpire at various dates through 2025. See Note 14 “Leases” of the facility exit costs has been recordedNotes to Unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q for further discussion regarding our balance sheet, net of estimated sublease income. For operating leases that include contractual commitments for operating expenses and maintenance, estimates of such amounts are included based on current rates. Payments made under operating leases will be treated as rent expense for the facilities currently being utilized.
Purchase Commitments
The purchase commitments shown above represent non-cancellable inventory purchase commitments as of September 30, 2017.
Short-term and Long-term Debt
The debt obligations have been recorded as liabilities on our balance sheet, and comprised $18.4 million in outstanding borrowings under the credit facilities of our foreign subsidiaries as of September 30, 2017. Theobligation amount shown above represents scheduled principal repayments, under the facilities, but not the associated interest payments which may vary based on changes in market interest rates. At September 30, 2017,See Note 7 “Debt” of the interest rate per annum applicableNotes to outstanding borrowings under the trade facilities of our foreign subsidiaries ranged from 2.3% to 5.9%. The amount shown above excludes $3.5 million in short-term debt obligations to related parties, which is included in the table as related-party debt (as discussed further below).
Not required.
Disclosure Controls and Procedures
We are required to maintain disclosure controls and procedures designed to provide reasonable assurance of achieving the objective that information required to be disclosed in our reports filed or submitted pursuant to the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Co-Chief Executive Officersprincipal executive officer and Chief Financial Officer,principal financial officer, as appropriate to allow for timely decisions regarding required disclosures. Our disclosure controls and procedures include those components of our internal control over financial reporting intended to provide reasonable assurance that transactions are recorded as necessary to permit preparation of financials in accordance with U.S. GAAP. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
As required by SEC Rule 13a-15(b), under the Exchange Act, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures as of September 30, 2017,March 31, 2020, the end of the period covered by this report.Quarterly Report on Form 10-Q. The evaluation was done under the supervision and with the participation of management, including our Co-Chief Executive Officersprincipal executive officer and principal financial officer. In the course of the evaluation of our Chief Financial Officer. Based upon this evaluation,disclosure controls and procedures, our Co-Chief Executive Officersprincipal executive officer and Chief Financial Officerprincipal financial officer concluded that, because of the unresolved material weaknesses in our internal control over financial reporting that existed as of December 31, 2016 and that have not yet been remediated, as described below, our disclosure controls and procedures were not effective as of September 30, 2017.
Material Weakness in Internal Control Over Financial Reporting
In connection with the Company’s annual evaluation of its internal control over financial reporting conducted in accordance with SEC Rule 13a-15(c), the Company’s management, including our Chief Executive Officer and Chief Financial Officer, identified a material weakness in the Company’s internal control over financial reporting, and as a result thereof, determined that the Company’s internal control over financial reporting was not effective as of December 31, 2019.
A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of the registrant’s annual or interim financial statements will not be prevented or detected on a timely basis. The material weaknessesManagement determined that management previously identified in connection with its evaluation of our internal control over financial reporting as of December 31, 2016 were as follows: wethe Company did not maintain an effective control environment as there was an insufficienta sufficient complement of personnel with appropriate accounting knowledge, experience and competence, resultingtraining in incorrectthe application of generally acceptedUS GAAP, including accounting principles. This material weakness contributed tofor significant unusual transactions. In addition, the following material weaknesses. WeCompany did not maintain an effective control environment as it did not appropriately identify internal controls over our financial close process.inventory valuation and revenue. Also, weManagement determined that the Company did not design and maintain effective controls over the financial closing process, including controls surrounding monitoring and review of supporting informationthe activity of its foreign subsidiaries.
We continue to determineevaluate and assess the completenessdesign and accuracy of the accounting for complex transactions, specifically related to the business combination that occurred on September 9, 2016, which resulted in an incorrect application of generally accepted accounting principles that resulted in material misstatements and a restatement of our unaudited condensed consolidated financial statements for the three and nine months period ended September 30, 2016. Additionally, these material weaknesses could result in a misstatement in the financial statements that would result in a material misstatement in the annual or interim consolidated financial statements that would not be prevented or detected.
Changes in Internal Control over Financial Reporting
Except as described above, there were no changes in our internal control over financial reporting that occurred during our last fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Merger-related integration activities may lead us to modify certain internal controls in future periods.
We are subject to various legal proceedings, claims and litigation arising in the ordinary course of business. While the outcome of these matters is currently not determinable, we do not expect that the ultimate costs to resolve these matters will have a material adverse effect on our consolidated financial position or results of operations. However, litigation is subject to inherent uncertainties, and unfavorable rulings could occur. If an unfavorable ruling were to occur, there exists the possibility of a material adverse impact on the financial position, results of operations and cash flows of the period in which the ruling occurs, or future periods.
Risks Directly Related to the COVID-19 Pandemic
The COVID-19 pandemic has had a material impact on our business and could have a further material adverse effect on our business, financial condition and results of operations.
In December 2019, a strain of coronavirus, now known as COVID-19, was reported to have surfaced in Wuhan, China. Since that time, the widespread and sustained transmission of the virus has reached global pandemic status. In response to the pandemic, many national and international health agencies have recommended, and many countries and state, provincial and local governments have implemented, various measures, including travel bans and restrictions, limitations on public and private gatherings, business closures or operating restrictions, social distancing, and shelter-in-place orders.
The COVID-19 pandemic has had a significant impact on our first quarter 2020 results, resulting in decreased revenues, and may continue to have a significant impact on our results for the remainder of 2020 and beyond, as we have experienced a negative impact on our global supply chain and softer product demand due to the effects of the pandemic. Given the ongoing and dynamic nature of the virus and the worldwide response related thereto, it is difficult to predict the full impact of the COVID-19 outbreak on our business. The impact of a continued COVID-19 outbreak or sustained measures taken to limit or contain the outbreak could continue to have a material adverse effect on our business, financial condition, results of operations, and cash flows.
Our suppliers and contract manufacturers could fail to provide equipment or service on a timely basis as a result of disruption to the global supply chain due to the ongoing COVID-19 pandemic. If such failures occur, we may be unable to provide products and services as and when requested by our customers, or we may be unable to continue to maintain or upgrade our networks. Because of the cost and delays that can be associated with transitioning from one supplier to another, our business could be substantially disrupted if we were required to, or chose to, replace the products or services of one or more major suppliers with products or services from another source, especially if the replacement became necessary on short notice. Any such disruption could increase our costs, decrease our operating efficiencies and have a material adverse effect on our business and financial condition.
The extent to which the ongoing COVID-19 pandemic impacts us will depend on numerous evolving factors and future developments that we are not able to predict, including:
the duration of the pandemic;
governmental, business and other actions (which could include limitations on our operations or mandates to provide products or services) taken to limit the reach of the virus and the and impact of the pandemic;
the impact on our supply chain;
our eligibility for and receipt of government assistance offered through the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) and any other legislation enacted by the U.S. to mitigate the economic effect of the COVID-19 pandemic;
the health of and the effect on our workforce and our ability to meet the staffing needs of our critical functions, particularly if members of our work force are quarantined as a result of exposure or unable to work remotely in areas subject to shelter-in-place orders;
any impairment in value of our tangible or intangible assets that could be recorded as a result of a weaker economic conditions; and
the potential effects on our internal controls including those over financial reporting as a result of changes in working environments such as shelter-in-place and similar orders that are applicable to our team members and business partners, among others.
A sustained shelter-in-place order could adversely impact our operations and workforce, and remote working conditions could increase our susceptibility to a data breach.
In response to the ongoing COVID-19 pandemic, many local and state governments, including the state of California where our corporate headquarters are presently located, have instituted emergency restrictions that have substantially limited the operation of non-essential businesses and the activities of individuals. As a result, the majority of our workforce is working remotely from their homes. Remote working conditions may negatively affect our workforce’s productivity, result in disruptions to workflow and operations or make it more difficult for us to maintain proper internal controls over our financial reporting. Further, while we have taken steps to ensure the security of our data and to prevent security breaches, including through the use of authentications and VPNs, many of these measures are being deployed for the first time on a widespread and sustained basis, and there is no guarantee the data security and privacy safeguards we have put in place will be completely effective or that we will not encounter some of the common risks associated with employees accessing Company data and systems remotely. As a result, we may be required to expend significant capital and other resources to protect against security breaches or to alleviate problems caused by security breaches.
Many of our customers operate in industries that have been disproportionately impacted by the COVID-19 pandemic, and the virus’s negative impact on their financial conditions and results of operations could have an adverse impact on our revenue.
While the industry in which we operate has not directly impacted to the same extent as other industries, many of our customers in our Enterprise FiberLAN™ business operate in industries such as hospitality, education and stadiums/facilities management, each of which has been greatly impacted by the ongoing COVID-19 pandemic and the protective measures put in place by the local and state governments of the regions in which they operate, such as shelter-in-place orders, business closures, travel restrictions and cancellations of large events. The adverse impacts that the virus and the accompanying protective measures have on our customers may influence their ability to purchase our products and solutions, make payments under their contracts with us, or it may lower their demand for our products and solutions as they take measures to cut costs and protect their businesses. As a result, our revenue may decline, which could have a material adverse effect on our results of operations and financial condition.
The ongoing COVID-19 pandemic could have a negative impact on the health of our employees which could be disruptive to our business and operations and may negatively impact productivity.
The ongoing COVID-19 pandemic has spread rapidly throughout the United States and the other regions in which we operate. As of March 31, 2020, there have been more than 900,000 positive tests for COVID-19 across the globe, with approximately 200,000 in the United States. The longer the pandemic continues, the more likely it is that one or more of our employees could contract the virus. If the virus spreads over a large portion of our workforce, it could have a material adverse effect on our operations. Additionally, if any of our executive officers were to test positive for COVID-19, it could have an adverse effect on our operations, including increased responsibilities for other executives, disruptions in operations or the inability of our executives to focus on essential Company business.
In addition, depending on the extent and duration of the ongoing COVID-19 pandemic, we may be subject to significant increases in healthcare costs if a significant number of our personnel become infected with COVID-19 and require medical treatment. As a result, any significant increases in healthcare costs as a result of COVID-19 or otherwise could have a material adverse impact on our business, financial condition and results of operations.
We have applied for government assistance under the CARES Act and a small business aid program administered by the German government. There can be no assurance that we or our subsidiaries will qualify for assistance under these or other programs. If we or our subsidiaries do qualify, there is no certainty as to the amount of assistance we will receive.
The CARES Act was enacted on March 27, 2020 and is an approximate $2 trillion emergency economic stimulus package passed in response to the COVID-19 pandemic. The CARES Act includes broad sweeping provisions including direct financial assistance to Americans in the form of one-time payments to individuals; aid to certain eligible businesses in the form of loans and grants; efforts to stabilize the U.S. economy and keep Americans employed in general; and support for healthcare professionals, patients and hospitals. Also included in the CARES Act are numerous income tax provisions including changes to the Net Operating Loss (“NOL”) rules and the business interest expense deduction rules under Internal Revenue Code Section 163(j). Factors that could affect our ability to receive funding include the finalization of regulations under the CARES Act and exhaustion of available funds, among other factors. Due to the recent enactment of this legislation, there is a high degree of uncertainty around its implementation and we continue to assess the potential impacts of this legislation on our business, results of operations, financial condition and cash flows. While the Company has made application for aid under the CARES Act and may make future application under other provisions of the act, there can be no assurance that we will receive any aid or funding under the CARES Act.
Additionally, the Company has applied for a loan under the German COVID-19 government aid package and may evaluate and consider application under other COVID-19 related foreign and domestic aid programs in the future. There can be no assurances that the Company will be approved for aid under any of these programs, and if approved, whether funding will be available at all or on conditions that are acceptable to the Company. While we may receive financial, tax or other relief and other benefits under and as a result of these assistance programs or others, it is not possible to estimate at this time the extent or impact of any such relief.
Risks Related to our Business
We have a significant amount of indebtedness.
As of March 31, 2020, the aggregate principal amount of our outstanding indebtedness was $39.7 million, consisting of $12.3 million in principal amount of outstanding borrowings under our short-term debt obligations and $27.4 million in long-term related party borrowings. On March 5, 2020, DASAN Network Solutions, Inc., a corporation organized under the laws of the Republic of Korea, and an indirect, wholly owned subsidiary of the Company (“DNS Korea”) entered into a Loan Agreement with DNI, pursuant to which DNS Korea borrowed KRW 22.4 billion ($18.5 million USD) from DNI (the “March 2020 DNI Loan”). DNS Korea loaned such borrowed funds to the Company, a portion of which were used to repay and terminate the Company’s prior credit facilities with PNC Bank, National Association.
In the event of a default and acceleration of our obligations under the March 2020 DNI Loan, we may not be able to obtain replacement financing at all or on commercially reasonable terms or on terms that are acceptable to us. Our level of indebtedness could have important consequences and could materially and adversely affect us in a number of ways, including:
limiting our ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions or general corporate purposes;
limiting our flexibility to plan for, or react to, changes in our business or market conditions;
requiring us to use a significant portion of any future cash flow from operations to repay or service the debt, thereby reducing the amount of cash available for other purposes;
making us more highly leveraged than some of our competitors, which could place us at a competitive disadvantage; and
making us more vulnerable to the impact of adverse economic and industry conditions and increases in interest rates.
The agreements governing the March 2020 DNI Loan and the instruments governing our other indebtedness contain certain covenants, limitations, and conditions with respect to the Company and its subsidiaries, including financial reporting obligations and customary events of default and require that certain of our assets be pledged as collateral for such loans. These terms, conditions and collateral requirements could restrict our ability to operate our business. If an event of default occurs under the March 2020 DNI Loan, DNI will be entitled to take various actions, including requiring the immediate repayment of all outstanding amounts borrowed under the March 2020 DNI Loan and seizing and/or selling the assets of the Company and the subsidiary guarantors to satisfy the obligations under the March 2020 DNI Loan.
We cannot assure you that we will be able to generate cash flow in amounts sufficient to enable us to service our debt or to meet our working capital and capital expenditure requirements. If we are unable to generate sufficient cash flow from operations or to borrow sufficient funds to service our debt, we may be required to sell assets, reduce capital expenditures, purchase credit insurance or obtain additional financing. We cannot assure you that we will be able to engage in any of these actions on reasonable terms, if at all.
We may need additional capital, and we cannot be certain that additional financing will be available.
We need sufficient capital to fund our ongoing operations and may require additional financing in the future to expand our business, acquire assets or repay or refinance our existing debt. Our ability to obtain financing will depend, among other things, on our development efforts, business plans, operating performance and condition of the capital markets at the time we seek financing, any of which have been and may continue to be adversely impacted by the ongoing COVID-19 pandemic. We cannot assure you that additional financing will be available to us on favorable terms when required, or at all. Additionally, while there are no covenants in the March 2020 DNI Loan restricting our ability, or the ability of our subsidiaries, to borrow additional funds, the collateral requirements under the March 2020 DNI Loan may make it difficult to for us to obtain additional secured financing. If we raise additional funds through the issuance of equity, equity-linked or debt securities, those securities may have rights, preferences or privileges senior to the rights of our common stock, and our stockholders may experience dilution.
If we need additional capital and cannot raise it on acceptable terms, we may not be able to, among other things:
pay ordinary expenses;
fund our business expansion or product innovation;
pursue future business opportunities, including acquisitions;
respond to unanticipated capital requirements;
repay or refinance our existing debt;
hire, train and retain employees; or
respond to competitive pressures or unanticipated working capital requirements.
Our failure to do any of these things could seriously harm our business, financial condition, liquidity and operating results. In addition, we may be required to reduce the scope of our planned product development and sales and marketing efforts beyond the reductions that we have previously taken, and reduce operations in low margin regions, including reductions in headcount, which could have a material adverse effect on our business, operations, financial condition and liquidity.
We may not have the liquidity to support our future operations and capital requirements.
As of March 31, 2020, we had approximately $26.4 million in cash and cash equivalents, including $8.7 million in cash balances held by our international subsidiaries. If our operating performance does not improve, and we are unable to raise additional capital (as discussed in the prior risk factor), we may be unable to adequately fund our existing operations. Our current liquidity condition exposes us to the following risks:
vulnerability to adverse economic conditions in our industry or the economy in general, including those created or exacerbated by the COVID-19 pandemic;
a substantial portion of available cash is dedicated to debt servicing, rather than other purposes, including operations and new product innovation;
limitations on our ability to adequately plan for, or react to, changes in our business and industry, including those created by the COVID-19 pandemic; and
negative investor and customer perceptions about our financial stability, which could limit our ability to obtain financing or acquire customers.
Our current liquidity condition could be further harmed, and we may incur significant losses or expend significant amounts of capital if:
the market for our products develops more slowly than anticipated or if it retracts;
we fail to establish market share or generate revenue at anticipated levels;
we fail to respond to unforeseen challenges or take advantage of unanticipated opportunities; or
the impact of the COVID-19 pandemic continues to negatively impact our business or further exacerbates any of the foregoing risks.
To meet our liquidity needs and to finance our capital expenditures and working capital needs for our business, we may be required to raise substantial additional capital, reduce our operations (including through the sale of assets or expense reduction measures) or both.
We have experienced significant losses and we may incur losses in the future. If we fail to generate sufficient revenue to sustain our profitability, our stock price could decline.
We had a net loss of $8.8 million for the three months ended March 31, 2020, and a net loss of $13.3 million for the year ended December 31, 2019. Additionally, we have incurred significant losses in years prior to 2019. We have an accumulated deficit of $38.0 million as of March 31, 2020. We have significant fixed expenses and expect that we will continue to incur substantial manufacturing, research and product development, sales and marketing, customer support, administrative and other expenses in connection with the operation of our business. In addition, we may be required to spend more on research and product development than originally budgeted to respond to industry trends. We may also incur significant new costs related to acquisitions and the integration of new technologies and other acquisitions that may occur in the future. We may not be able to adequately manage costs and expenses or achieve or maintain adequate operating margins. As a result, our ability to sustain profitability in future periods will depend on our ability to generate and sustain higher revenue while maintaining reasonable costs and expense levels. If we fail to generate sufficient revenue to sustain profitability in future periods, we may continue to incur operating losses, which could be substantial, and our stock price could decline.
Our future operating results are difficult to predict, and our stock price may continue to be volatile.
As a result of a variety of factors discussed in Part I, "Item 1A, Risk Factors”this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended December 31, 2019, our revenues for a particular quarter are difficult to predict. Our revenue and operating results may vary significantly from quarter to quarter due to a number of factors, many of which are outside of our control. The primary factors that could affect our results of operations include the following:
commercial acceptance of our products and services;
fluctuations in demand for network access products;
fluctuation in gross margin;
our ability to attract and retain qualified and key personnel;
the timing and size of orders from customers;
the ability of our customers to finance their purchase of our products as well as their own operations;
new product introductions, enhancements or announcements by our competitors;
our ability to develop, introduce and ship new products and product enhancements that meet customer requirements in a timely manner;
changes in our pricing policies or the pricing policies of our competitors;
the loss of or failure to renew on commercially reasonable terms any third-party licenses necessary for or relating to our products;
the ability of our company and our contract manufacturers to attain and maintain production volumes and quality levels for our products;
our ability to obtain sufficient supplies of sole or limited source components;
increases in the prices of the components we purchase, or quality problems associated with these components;
unanticipated changes in regulatory requirements which may require us to redesign portions of our products;
changes in accounting rules;
integrating and operating any acquired businesses;
how well we execute on our strategy and operating plans;
general economic conditions as well as those specific to the communications, internet and related industries; and
the economic uncertainty created by the ongoing COVID-19 pandemic, including its potentially adverse impact on all the foregoing factors.
Any of the foregoing factors, or any other factors discussed elsewhere herein or in our Annual Report on Form 10-K for the year ended December 31, 2016,2019, could have a material adverse effect on our business, operations, financial condition and liquidity that could adversely affect our stock price. Further, the ongoing COVID-19 pandemic has resulted in severe disruption and volatility in the financial markets. We anticipate that our stock price and trading volume may be volatile in the future, whether due to the factors described above, volatility in public stock markets generally or otherwise.
In connection with the Keymile Acquisition, we assumed certain of Keymile’s liabilities, which could materially affectharm our business, operations, financial condition, or future results. There have been no material changesand liquidity.
Pursuant to the risk factors describeddefinitive agreement for the Keymile Acquisition, we assumed certain of Keymile’s liabilities, including tax and pension liabilities, and any liabilities that may arise related to breaches of representations and warranties made by Keymile in connection with a prior sale of assets by Keymile that survive through 2022. Although the definitive agreement for the Keymile Acquisition entitles us to indemnification for certain losses incurred related to those assumed liabilities, our right to indemnification from the Keymile sellers is limited by the survival period of the representations and warranties included in the "Risk Factors" sectionKeymile Acquisition definitive agreement and recovery is limited in amount to the purchase price of Keymile, or EUR 10.3 million. Additionally, our Annual Report on Form 10-K for the year ended December 31, 2016. The risks described inrights to recovery against such losses is limited under our Annual Report on Form 10-Kand third party provided warranty and indemnity liability insurance coverage of up to EUR 35.3 million. If such claims or losses exceed such amount, or if they are not indemnifiable under the only risks facingKeymile Acquisition definitive agreement, any such losses could negatively impact our company. Additional risksfinancial situation. In addition, our closing of the Keymile Acquisition could give rise to substantial tax liabilities under German law, which could negatively impact our financial condition and uncertainties not currently known to usliquidity.
Strategic acquisitions or investments that we have made or that we currently deemcould pursue or make in the future may disrupt our operations and harm our business, operations, financial condition, and liquidity.
As part of our business strategy, we have made investments in and acquired other companies, including Keymile in 2019, that we believe are complementary to our core business. In the future we may continue to make investments in or acquire other companies or complementary solutions or technologies. Any such acquisition or investment may divert the attention of management and cause us to incur various expenses in identifying, investigating, and pursuing suitable opportunities, whether or not the transactions are completed, and may result in unforeseen operating difficulties and expenditures. These transactions could also result in dilutive issuances of equity securities, the incurrence of debt or assumption of liabilities, and increase our risk of litigation exposure, which could adversely affect our operating results. In addition, if the resulting business from such a transaction fails to meet our expectations, our operating results, business, and financial condition may suffer or we may be immaterial alsoexposed to unknown risks or liabilities.
Additionally, any significant acquisition would require the consent of our lenders. Any failure to receive such consent could delay or prohibit us from acquiring companies that we believe could enhance our business. Furthermore, we may dedicate significant time and capital resources in the pursuit of acquisition opportunities and may be unable to find and identify desirable acquisition targets or business opportunities or be successful in entering into an agreement with any particular strategic partner.
Upon the closing of any acquisition transaction, we will need to integrate the acquired organization and its products and services with our legacy operations. The integration process may be expensive, time-consuming and a strain on our resources and our relationships with employees, customers, distributors and suppliers, and ultimately may not be successful. The benefits or synergies we may expect from the acquisition of complementary or supplementary businesses may not be realized to the extent or in the time frame we initially anticipated. Mergers and acquisitions of high-technology companies are inherently subject to increased risk and to many factors outside of our control, and we cannot be certain that our previous or future acquisitions will be successful and will not materially adversely affect our business, operations, financial condition, and/or operating results.and liquidity. Any failure to successfully acquire and integrate acquired organizations and their products and services could seriously harm our business, operations, financial condition, and liquidity.
Some of the risks that could affect our ability to successfully integrate acquired businesses, including Keymile’s telecommunication systems business, include those associated with:
insufficient revenues to offset increased expenses associated with acquisitions and where competitors in such markets have stronger market positions;
conforming the acquired company’s standards, policies, processes, procedures and controls with our operations;
difficulties in integrating the operations, technologies, products and personnel of the acquired companies;
coordinating new product and process development, especially with respect to highly complex technologies;
potential loss of key employees, customers, distributors, vendors and other business partners of the companies we acquire following and continuing after the announcement of acquisition plans or transactions;
hiring and training additional management and other critical personnel;
in the case of foreign acquisitions, the need to integrate operations across different cultures and languages and to address the particular economic, currency, political and regulatory risks associated with specific countries;
increasing the scope, geographic diversity and complexity of our operations;
diversion of management’s time and attention away from normal daily operations of the business and the challenges of managing larger and more widespread operations resulting from acquisitions;
consolidation of facilities, integration of the acquired company’s accounting, human resource and other administrative functions and coordination of product, engineering and sales and marketing functions;
the geographic distance between the companies;
failure to comply with covenants related to the acquired business;
unknown, underestimated, and/or undisclosed liabilities for activities of the acquired company before the acquisition, including patent and trademark infringement claims, violations of laws, employment claims, pension liabilities, commercial disputes, tax liabilities and other known and unknown liabilities;
litigation or other claims in connection with the acquired company, including claims for terminated employees, customers, former stockholders or other third parties; and
the disruption, economic and otherwise, created by the COVID-19 pandemic, including its potentially compounding effect on all the foregoing factors.
We have material weaknesses in our internal control over financial reporting, and we cannot provide assurances that these weaknesses will be effectively remediated or that additional material weaknesses will not occur in the future. If our internal control over financial reporting or our disclosure controls and procedures are not effective, we may not be able to accurately report our financial results, prevent fraud or file our periodic reports in a timely manner, which may cause investors to lose confidence in our reported financial information and which may lead to a decline in our stock price.
Management determined that the Company did not maintain a sufficient complement of personnel with appropriate accounting knowledge, experience and training in the application of generally accepted accounting principles in the United States (“U.S. GAAP”), including accounting for significant unusual transactions. In addition, the Company did not maintain an effective control environment as it did not appropriately identify internal controls over inventory valuation and revenue. Also, management determined that the Company did not design and maintain effective controls over the financial closing process, including controls surrounding monitoring and review of the activity of its foreign subsidiaries. These material weaknesses could result in a misstatement in the financial statements that would result in a material misstatement in the annual or interim consolidated financial statements that would not be prevented or detected.
If we are not able to correct material weaknesses or deficiencies in internal controls in a timely manner, our ability to record, process, summarize and report financial information accurately and within the time periods specified in the SEC’s rules and forms will be adversely affected. Such a result could negatively impact the market price and trading liquidity of our common stock, weaken investor confidence in our reported financial information, subject us to civil and criminal investigations and penalties, and generally materially and adversely affect our business and financial condition.
The long and variable sales cycles for our products could cause revenue and operating results to vary significantly from quarter to quarter.
The target customers for our products have substantial and complex networks that they traditionally expand in large increments on a periodic basis. Accordingly, our marketing efforts are focused primarily on prospective customers that may purchase our products as part of a large-scale network deployment. Our target customers typically require a lengthy evaluation, testing and product qualification process. Throughout this process, we are often required to spend considerable time and incur significant expenses educating and providing information to prospective customers about the uses and features of our products. Even after a company makes the final decision to purchase our products, it could deploy our products over extended periods of time. The timing of deployment of our products varies widely, and depends on a number of factors, including our customers’ skill sets, geographic density of potential subscribers, the degree of configuration and integration required to deploy our products, and our customers’ ability to finance their purchase of our products as well as their operations. As a result of any of these factors, our revenue and operating results could vary significantly from quarter to quarter.
The market we serve is highly competitive and we may not be able to compete successfully.
Competition in communications equipment markets is intense. These markets are characterized by rapid change, converging technologies and a migration to networking solutions that offer superior advantages. We are aware of many companies in related markets that address particular aspects of the features and functions that our products provide. Currently, our primary competitors in our core business include ADTRAN, Calix, Huawei, Nokia and ZTE, among others. In our FiberLAN business, our competitors include Cisco, Nokia and Tellabs. In our Ethernet switching business, our competitors include Cisco, and Juniper. We also may face competition from other communications equipment companies or other companies that may enter our markets in the future. In addition, a number of companies have introduced products that address the same network needs that our products and solutions address, both domestically and internationally. Many of our competitors have longer operating histories, greater name recognition, larger customer bases and greater financial, technical, sales and marketing resources than we do and may be able to undertake more extensive marketing efforts, adopt more aggressive pricing policies and provide more customer financing than we can. In particular, we are encountering price-focused competitors from Asia, especially China, which places pressure on us to reduce our prices. If we are forced to reduce prices in order to secure customers, we may be unable to sustain gross margins at desired levels or achieve profitability. Competitive pressures could result in increased pricing pressure, reduced profit margins, increased sales and marketing expenses and failure to increase, or the loss of, market share, any of which could reduce our revenue and adversely affect our financial results. Moreover, our competitors may foresee the course of market developments more accurately than we do and could develop new technologies that render our products less valuable or obsolete.
In our markets, principal competitive factors include:
product performance;
interoperability with existing products;
scalability and upgradeability;
conformance to standards;
breadth of services;
reliability;
ease of installation and use;
geographic footprints for products;
ability to provide customer financing;
pricing;
technical support and customer service; and
brand recognition.
If we are unable to compete successfully against our current and future competitors, we may have difficulty obtaining or retaining customers, and we could experience price reductions, order cancellations, increased expenses and reduced gross margins, any of which could have a material adverse effect on our business, operations, financial condition, and liquidity.
If demand for our products and solutions does not develop as we anticipate, then our business operations, financial condition, and liquidity will be adversely affected.
Our future revenue depends significantly on our ability to successfully develop, enhance and market our products and solutions to our target markets. Most network service providers have made substantial investments in their current infrastructure, and they may elect to remain with their current architectures or to adopt new architectures in limited stages or over extended periods of time. A decision by a customer to purchase our products will involve a significant capital investment. We must convince our service provider customers that they will achieve substantial benefits by deploying our products for future upgrades or expansions. We may experience difficulties with product reliability, partnering, and sales and marketing efforts that could adversely affect our business and divert management attention and resources from our core business. We do not know whether a viable market for our products and solutions will develop or be sustainable in our businesses. If these markets do not develop or develop more slowly than we expect, including as a result of conditions created by the ongoing COVID-19 pandemic, our business, operations, financial condition and liquidity will be materially harmed.
We depend upon the development of new products and enhancements to existing products, and if we fail to predict and respond to emerging technological trends and customers’ changing needs, our operating results and market share may suffer.
The markets for our products are characterized by rapidly changing technology, evolving industry standards, changes in end-user requirements, frequent new product introductions and changes in communications offerings from network service provider customers. Our future success depends on our ability to anticipate or adapt to such changes and to offer, on a timely and cost-effective basis, products that meet changing customer demands and industry standards. We may not have sufficient resources to successfully and accurately anticipate customers’ changing needs and technological trends, manage long development cycles or develop, introduce and market new products and enhancements. The process of developing new technology is complex and uncertain, and if we fail to develop new products or enhancements to existing products on a timely and cost-effective basis, or if our new products or enhancements fail to achieve market acceptance, our business, operations, financial condition and liquidity would be materially adversely affected.
Because our products are complex and are deployed in complex environments, our products may have defects that we discover only after full deployment by our customers, which could have a material adverse effect on our business.
We produce highly complex products that incorporate leading-edge technology, including both hardware and software. Software often contains defects or programming flaws that can unexpectedly interfere with expected operations. In addition, our products are complex and are designed to be deployed in large quantities across complex networks. Because of the nature of these products, they can only be fully tested when completely deployed in large networks with high amounts of traffic, and there is no assurance that our pre-shipment testing programs will be adequate to detect all defects. As a result, our customers may discover errors or defects in our hardware or software, or our products may not operate as expected. If we are unable to cure a product defect, we could experience damage to our reputation, reduced customer satisfaction, loss of existing customers and failure to attract new customers, failure to achieve market acceptance, reduced sales opportunities, loss of revenue and market share, increased service and warranty costs, diversion of development resources, legal actions by our customers, and increased insurance costs. Defects, integration issues or other performance problems in our products could also result in damages to our customers, financial or otherwise. Our customers could seek damages for related losses from us, which could seriously harm our business, operations, financial condition and liquidity. A product liability claim brought against us, even if unsuccessful, would likely be time consuming and costly. The occurrence of any of these problems would seriously harm our business, operations, financial condition and liquidity.
Increased tariffs on products and goods that we purchase from off-shore sources (particularly Chinese sources) and changes in international trade policies and relations could have an adverse effect on our customers and operating results.
The pricing of our products to customers and our ability to conduct business with certain customers can be affected by changes in U.S. and other countries’ trade policies. For example, while a trade deal was signed between the U.S. and China on January 15, 2020 that signals a cooling of tensions between the U.S. and China over trade, concerns over the stability of bilateral trade relations remain. Before the trade deal, the United States had recently imposed tariffs on a wide-range of products and goods manufactured in China that are directly or indirectly imported into the United States. In response, various countries and economic regions announced plans or intentions to impose retaliatory tariffs on a wide-range of products they import from the United States. Any newly imposed, announced and threatened U.S. tariffs and retaliatory tariffs could have the effect of increasing the cost of materials we use to manufacture certain products, which could result in lower margins. The tariffs could also result in disruptions to our supply chain, as suppliers struggle to fill orders from companies trying to purchase goods in bulk ahead of announced tariffs. Although we believe that the incremental costs to us of recent tariffs was immaterial, if new tariffs are imposed or if new tariffs apply to additional categories of components used in our manufacturing activities, and if we are unable to pass on the costs of tariffs to our customers, our operating results would be harmed. In addition, changes in the political environment, governmental policies, international trade policies and relations, or U.S.-China relations could result in revisions to laws or regulations or their interpretation and enforcement, trade sanctions, or retaliatory actions by China in response to U.S. actions, which could have an adverse effect on our customers, business plans and operating results.
Sales to communications service providers are especially volatile, and weakness in sales orders from this industry could harm our business, operations, financial condition and liquidity.
Sales activity in the service provider industry depends upon the stage of completion of expanding network infrastructures, the availability of funding, and the extent to which service providers are affected by regulatory, economic and business conditions in the country of operations. Although some service providers may be increasing capital expenditures over the depressed levels that have prevailed over the last few years, weakness in orders from this industry could have a material adverse effect on our business, operations, financial condition and liquidity. Changes in technology, competition, overcapacity, changes in the service provider market, regulatory developments, adverse economic effects caused by the COVID-19 pandemic and constraints on capital availability have had a material adverse effect on many of our service provider customers, with many of these customers going out of business or substantially reducing their expansion plans. These conditions have materially harmed our business and operating results, and we expect that some or all of these conditions may continue for the foreseeable future. Finally, service provider customers typically have longer implementation cycles; require a broader range of services including design services; demand that vendors take on a larger share of risks; often require acceptance provisions, which can lead to a delay in revenue recognition; and expect financing from vendors. All these factors can add further risk to business conducted with service providers.
We rely on contract manufacturers for a portion of our manufacturing requirements.
We rely on contract manufacturers to perform a portion of the manufacturing operations for our products. These contract manufacturers build products for other companies, including our competitors. In addition, we do not have contracts in place with some of these providers and may not be able to effectively manage those relationships. We cannot be certain that our contract manufacturers will be able to fill our orders in a timely manner. We face a number of risks associated with this dependence on contract manufacturers including reduced control over delivery schedules, the potential lack of adequate capacity during periods of excess demand, poor manufacturing yields and high costs, quality assurance, increases in prices, and the potential misappropriation of our intellectual property. We have experienced in the past, and may experience in the future, problems with our contract manufacturers, such as inferior quality, insufficient quantities and late delivery of products.
A shortage of adequate component supply or manufacturing capacity could increase our costs or cause a delay in our ability to fulfill orders, and our failure to estimate customer demand properly could result in excess or obsolete component inventories that could adversely affect our gross margins.
Occasionally, we may experience a supply shortage, or a delay in receiving, certain component parts as a result of strong demand for the component parts and/or capacity constraints or other problems experienced by suppliers. If shortages or delays persist, the price of these components may increase, or the components may not be available at all, and we may also encounter shortages if we do not accurately anticipate our needs. Conversely, we may not be able to secure enough components at reasonable prices or of acceptable quality to build new products in a timely manner in the quantities or configurations needed. Accordingly, our revenue and gross margins could suffer until other sources can be developed. Our operating results would also be adversely affected if, anticipating greater demand than actually develops, we commit to the purchase of more components than we need. Furthermore, as a result of binding price or purchase commitments with suppliers, we may be obligated to purchase components at prices that are higher than those available in the current market. In the event that we become committed to purchase components at prices in excess of the current market price, our gross margins could decrease. In the past we experienced component shortages that adversely affected our financial results and, in the future, may continue to experience component shortages.
We depend on a limited source of suppliers for several key components. If we are unable to obtain these components on a timely basis, we will be unable to meet our customers’ product delivery requirements, which would harm our business.
We currently purchase several key components from a limited number of suppliers. If any of our limited source of suppliers become insolvent, cease business or experience capacity constraints, work stoppages or any other reduction or disruption in output, they may be unable to meet our delivery schedules. Our suppliers may enter into exclusive arrangements with our competitors, be acquired by our competitors, stop selling their products or components to us at commercially reasonable prices, refuse to sell their products or components to us at any price or be unable to obtain or have difficulty obtaining components for their products from their suppliers. If we do not receive critical components from our limited source of suppliers in a timely manner, we will be unable to meet our customers’ product delivery requirements. Any failure to meet a customer’s delivery requirements could materially adversely affect our business, operations, and financial condition and liquidity and could materially damage customer relationships.
The loss of a key customer or a significant deterioration in the financial condition of a key customer could have a material adverse effect on the Company’s results of operations.
The Company’s revenue is dependent on several key customers. A loss of one or more of the Company’s key customers, or a dispute or litigation with one of these key customers could affect adversely our revenue and results of operations. A significant deterioration in the financial condition or bankruptcy filing of a key customer could affect adversely the Company’s business, results of operations, and financial condition.
In addition, the Company is subject to credit risk associated with the concentration of accounts receivable from its key customers. As of March 31, 2020, two (2) customers each represented 19% of net accounts receivable, respectively. As of December 31, 2019, two (2) customers represented 18% and 11% of net accounts receivable. If one or more of the Company’s top customers were to become bankrupt or insolvent or otherwise were unable to pay for the products and services provided by the Company, including as a result of conditions created by the COVID-19 pandemic, the Company may incur significant write-offs of accounts receivable or incur other impairment charges, which may have a material adverse effect on the Company’s results of operations.
We have experienced significant turnover with respect to our executives and our board, and our business could be adversely affected by these and other transitions in our senior management team or if any future vacancies cannot be filled with qualified replacements in a timely manner.
We experienced significant turnover on our executive team and board in both 2018 and 2019, including the departure of our former Chief Financial Officer. As a result of this turnover, our remaining management team has been required to take on increased responsibilities, which could divert attention from key business areas. If we continue to experience similar turnover in the future, we may be unable to timely replace the talent and skills of our management team and directors.
Management transitions are often difficult and inherently cause some loss of institutional knowledge, which could negatively affect our results of operations and financial condition. Our ability to execute our business strategies may be adversely affected by the uncertainty associated with these transitions and the time and attention from the board and management needed to fill any future vacant roles could disrupt our business. If we are unable to successfully identify and attract adequate replacements for future vacancies in our management roles in a timely manner, we could experience increased employee turnover and harm to our business, growth, financial condition, results of operations and cash flows. We face significant competition for executives with the qualifications and experience we seek.
Further, we cannot guarantee that we will not face similar turnover in the future. Our senior management’s knowledge of our business and industry would be difficult to replace, and any further turnover could negatively affect our business, growth, financial conditions, results of operations and cash flows.
Decreased effectiveness of share-based compensation could adversely affect our ability to attract and retain employees.
We have historically used equity incentives, including stock options, as a key component of our employee compensation program in order to align the interests of our employees with the interests of our stockholders, encourage employee retention and provide competitive compensation and benefit packages. If the trading price of our common stock declines, this would reduce the value of our share-based compensation to our present employees and could adversely affect our ability to retain existing or attract prospective employees. Difficulties relating to obtaining stockholder approval of equity compensation plans could also make it harder or more expensive for us to grant share-based payments to employees in the future.
Our success largely depends on our ability to retain and recruit key personnel, and any failure to do so could harm our ability to meet key objectives.
Our future success depends upon the continued services of our Chief Executive Officer and other key employees, and our ability to identify, attract and retain highly skilled technical, managerial, sales and marketing personnel who have critical industry experience and relationships that we rely on to build and operate our business. The loss of the services of any of our key employees, including our Chief Executive Officer, could delay the development and production of our products and negatively impact our ability to maintain customer relationships, which could harm our business, operations, financial condition and liquidity. Moreover, our historical inability to attract and retain sufficient qualified accounting personnel with expertise in U.S. GAAP has adversely affected our ability to maintain an effective system of internal controls and our ability to produce reliable financial reports, which could materially and adversely affect our business.
We rely on the availability of third-party licenses.
Many of our products are designed to include software or other intellectual property licensed from third parties. It may be necessary in the future to seek or renew licenses relating to various elements of the technology used to develop these products. We cannot assure you that our existing or future third-party licenses will be available to us on commercially reasonable terms, if at all. Our inability to maintain or obtain any third-party license required to sell or develop our products and product enhancements could require us to obtain substitute technology of lower quality or performance standards, or at greater cost.
Our intellectual property rights could prove difficult to protect and enforce.
We generally rely on a combination of copyrights, patents, trademarks and trade secret laws and commercial agreements containing restrictions on disclosure and other appropriate terms to protect our intellectual property rights. We enter into confidentiality, employee, contractor and commercial agreements with our employees, consultants and corporate partners, and control access to and distribution of our proprietary information and use of our intellectual property and technology. Despite our efforts to protect our proprietary rights, unauthorized parties, including those affiliated with foreign governments, may attempt to copy or otherwise obtain and use our products, technology or intellectual property. Monitoring unauthorized use of our technology and intellectual property is difficult, and we do not know whether the steps we have taken will prevent unauthorized use of our technology, particularly in foreign countries or jurisdictions where laws may not protect our proprietary rights as extensively as in the United States. We cannot assure you that our pending, or any future, patent applications will be granted, that any existing or future patents will not be challenged, invalidated, or circumvented, or that any existing or future patents will be enforceable or that infringement by third parties will even be detected. While we are not dependent on any individual patents, if we are unable to protect our proprietary rights, we may find ourselves at a competitive disadvantage to others who need not incur the substantial expense, time and effort required to create the innovative products.
There are additional risks to our intellectual property as a result on our international business operations.
We may face risks to our technology and intellectual property as a result of our conducting strategic business discussions outside of the United States, and particularly in jurisdictions that do not have comparable levels of protection of corporate proprietary information and assets such as intellectual property, trademarks, trade secrets, know-how and customer information and records. While these risks are common to many companies, conducting business in certain foreign jurisdictions, housing technology, data and intellectual property abroad, or licensing technology to joint ventures with foreign partners may have more significant exposure. For example, we have shared intellectual properties with entities in China, South Korea, India, Thailand, and Vietnam pursuant to confidentiality agreements in connection with discussions on potential strategic collaborations, which may expose us to material risks of theft of our proprietary information and other intellectual property, including technical data, manufacturing processes, data sets or other sensitive information. For example, our technology may be reverse engineered by the parties or other parties, which could result in our patents being infringed or our know-how or trade secrets stolen. The risk can be by direct intrusion wherein technology and intellectual property is stolen or compromised through cyber intrusions or physical theft through corporate espionage, including with the assistance of insiders, or via more indirect routes.
Claims that our current or future products or components contained in our products infringe the intellectual property rights of others may be costly and time consuming to defend and could adversely affect our ability to sell our products.
The communications equipment industry is characterized by the existence of a large number of patents and frequent claims and related litigation regarding patent, copyright, trademark and other intellectual property rights, that may relate to technologies and related standards that are relevant to us. From time to time, we receive correspondence from companies claiming that our products are using technology covered by or related to the intellectual property rights of these companies and inviting us to discuss or demanding licensing or royalty arrangements for the use of the technology or seeking payment for damages, injunctive relief and other available legal remedies through litigation. These companies also include third-party non-practicing entities (also known as patent trolls) that focus on extracting royalties and settlements by enforcing patent rights through litigation or the threat of litigation. These companies typically have little or no product revenues and therefore our patents could provide little or no deterrence against such companies filing patent infringement lawsuits against us. In addition, third parties have initiated and could continue to initiate litigation against our manufacturers, suppliers, distributors or even our customers alleging infringement or misappropriation of their proprietary rights with respect to existing or future products, or components of our products. For example, various proceedings were commenced against Broadcom Inc. (“Broadcom”), a manufacturer of products for the wireless and broadband communications industry, and other parties alleging patent infringement in various jurisdictions, and in some cases the courts issued rulings adverse to Broadcom enjoining Broadcom from offering, distributing, using or importing products that include the challenged intellectual property. In February 2020, a federal jury found that Broadcom, among others, must pay $1.1 billion to the California Institute of Technology for infringing upon patents. Although we are not party to these proceedings, adverse rulings or injunctive relief awarded against Broadcom or other key suppliers of components for our products could result in delays or stoppages in the shipment of affected components, or require us to recall,
modify or redesign our products containing such components. Regardless of the merit of claims against us or our manufacturers, suppliers, distributors or customers, intellectual property litigation can be time consuming and costly, and result in the diversion of the attention of technical and management personnel. Any such litigation could force us to stop manufacturing, selling, distributing, exporting, incorporating or using products or components that include the challenged intellectual property, or to recall, modify or redesign such products. In addition, if a party accuses us of infringing upon its proprietary rights, we may have to enter into royalty or licensing agreements, which may not be available on terms acceptable to us, if at all. If we are unsuccessful in any such litigation, we could be subject to significant liability for damages and loss of our proprietary rights. Any of these events or results could have a material adverse effect on our business, operations, financial condition and liquidity.
Our collection, processing, storage, use, and transmission of personal data could give rise to liabilities as a result of governmental regulation, increasing legal requirements.
We collect, process, store, use, and transmit personal data on a daily basis. Personal data is increasingly subject to legal and regulatory protections around the world, which vary widely in approach and which possibly conflict with one another. In recent years, for example, U.S. legislators and regulatory agencies, such as the Federal Trade Commission, as well as U.S. states have increased their focus on protecting personal data by law and regulation and have increased enforcement actions for violations of privacy and data protection requirements. The European Commission also recently approved and adopted the General Data Protection Regulation (GDPR), a recent data protection law, which became effective in May 2018. These data protection laws and regulations are intended to protect the privacy and security of personal data that is collected, processed, and transmitted in or from the relevant jurisdiction. The GDPR established new requirements applicable to the processing of personal data, affords new data protection rights to individuals and imposes significant penalties for data breaches. Individuals also have a right to compensation under the GDPR for financial or non-financial losses. Implementation of and compliance with these laws and regulations may be more costly or take longer than we anticipate, or could otherwise adversely affect our business operations, which could negatively impact our financial position or cash flows. Any failure to comply with applicable regulations could also result in regulatory enforcement actions against us, subject us to negative publicity and significant penalties and ultimately cause an adverse effect on our business.
If we experience a significant disruption in, or breach in security of, our information technology systems, our business could be adversely affected.
We rely on several centralized information technology systems to provide products and services, maintain financial records, process orders, manage inventory, process shipments to customers and operate other critical functions. If we experience a prolonged system disruption in the information technology systems that involve our interactions with customers or suppliers, it could result in the loss of sales and customers and significant incremental costs, which could adversely affect our business. In addition, our information technology systems could be susceptible to damage, disruptions or shutdowns due to power outages, hardware failures, computer viruses, attacks by computer hackers, telecommunication failures, user errors, catastrophes or other unforeseen events. Furthermore, security breaches of our information technology systems could result in the misappropriation or unauthorized disclosure of confidential information belonging to the company or our employees, partners, customers or suppliers, which could result in significant financial, legal or reputational damage to the Company. In response to the COVID-19 pandemic, a large portion of our workforce is working remotely, and such remote working could exacerbate any of the foregoing risks.
Compliance or the failure to comply with current and future environmental regulations could cause us significant expense.
We are subject to a variety of federal, state, local and foreign environmental regulations. If we fail to comply with any present or future regulations, we could be subject to liabilities, the suspension of production or prohibitions on the sale of our products. In addition, such regulations could require us to incur other significant expenses to comply with environmental regulations, including expenses associated with the redesign of any non-compliant product. From time to time new regulations are enacted, and it is difficult to anticipate how such regulations will be implemented and enforced and the impact that they could have on our operations or results. For example, in 2003 the European Union enacted the Restriction on the Use of Certain Hazardous Substances in Electrical and Electronic Equipment Directive and the Waste Electrical and Electronic Equipment Directive, for implementation in European Union member states. We are aware of similar legislation that is currently in force or has been considered in the U.S., as well as other countries, such as Japan and China. Implementation of and compliance with these laws may be costly or could otherwise adversely affect our business operations, which could negatively impact our financial position or cash flows. Our failure to comply with any such regulatory requirements or contractual obligations could result in us being liable for costs, fines, penalties or third-party claims, and could jeopardize our ability to conduct business in countries or jurisdictions where such regulations apply.
Failure to comply with the U.S. Foreign Corrupt Practices Act and similar laws associated with our international activities could subject us to significant civil or criminal penalties.
Failure to comply with the Foreign Corrupt Practices Act could subject us to significant civil or criminal penalties. A significant portion of our revenues is generated from sales outside of the United States. As a result, we are subject to the U.S. Foreign Corrupt Practices Act (the “FCPA”). The FCPA generally prohibits U.S. companies and their intermediaries from making corrupt payments to foreign officials for the purpose of obtaining or keeping business or otherwise obtaining favorable treatment and requires companies to maintain adequate record-keeping and internal accounting practices to accurately reflect the transactions of the company. The FCPA applies to companies, individual directors, officers, employees and agents. Under the FCPA, U.S. companies may be held liable for the corrupt actions taken by employees, strategic or local partners or other representatives. If we or our intermediaries fail to comply with the requirements of the FCPA or similar legislation, governmental authorities in the U.S. and elsewhere could seek to impose civil and/or criminal fines and penalties which could have an adverse effect on our results of operations, financial condition and cash flow.
Our business and future operating results are subject to global economic and market conditions.
Market turbulence and weak economic conditions, including those caused by the COVID-19 pandemic, as well as concerns about energy costs, geopolitical issues, the availability and cost of credit, business and consumer confidence, and unemployment could impact our business in a number of ways, including:
Potential deferment of purchases and orders by customers: Uncertainty about global economic conditions could cause consumers, businesses and governments to defer purchases in response to flat revenue budgets, tighter credit, decreased cash availability and weak consumer confidence. Accordingly, future demand for our products could differ materially from our current expectations.
Customers’ inability to obtain financing to make purchases and/or maintain their business: Some of our customers require substantial financing in order to finance their business operations, including capital expenditures on new equipment and equipment upgrades, and make purchases from us. The potential inability of these customers to access the capital needed to finance purchases of our products and meet their payment obligations to us could adversely impact our business, operations, financial condition, and liquidity. While we monitor these situations carefully and attempt to take appropriate measures to protect ourselves, including factoring credit arrangements to financial institutions, it is possible that we may have to defer revenue until cash is collected or write-down or write-off uncollectible accounts. Such write-downs or write-offs, if large, could have a material adverse effect on our business, operations, financial condition, and liquidity. If our customers become insolvent due to market and economic conditions or otherwise, it could have a material adverse effect on our business, operations, financial condition and liquidity.
Negative impact from increased financial pressures on third-party dealers, distributors and retailers: We make sales in certain regions through third-party dealers, distributors and retailers. These third parties may be impacted, among other things, by a significant decrease in available credit. If credit pressures or other financial difficulties result in insolvency for these third parties and we are unable to successfully transition end customers to purchase our products from other third parties, or from us directly, it could adversely impact our business, operations, financial condition and liquidity.
Negative impact from increased financial pressures on key suppliers: Our ability to meet customers’ demands depends, in part, on our ability to obtain timely and adequate delivery of quality materials, parts and components from our suppliers. Certain of our components are available only from a single source or limited sources. If certain key suppliers were to become capacity constrained or insolvent, it could result in a reduction or interruption in supplies or a significant increase in the price of supplies and adversely impact our financial condition and results of operations. In addition, credit constraints of key suppliers could result in accelerated payment of accounts payable by us, impacting our cash flow.
We may experience material adverse impacts on our business, operations, financial condition, and liquidity as a result of weak or recessionary economic or market conditions in the United States, Korea, Germany, or the rest of the world.
Due to the international nature of our business, political or economic changes or other factors in a specific country or region could harm our future revenue, costs and expenses and financial condition.
We currently have significant operations in India, Korea, and Vietnam, as well as sales and technical support teams in various locations around the world. We continue to consider opportunities to expand our international operations in the future. The successful management and expansion of our international operations requires significant human effort and the commitment of substantial financial resources. Further, our international operations may be subject to certain risks, disruptions and challenges that could materially harm our business, operations, financial condition, and liquidity, including:
unexpected changes in laws, policies and regulatory requirements, including but not limited to regulations related to import-export control;
trade protection measures, tariffs, embargoes and other regulatory requirements which could affect our ability to import or export our products into or from various countries;
political unrest or instability, acts of terrorism or war in countries where we or our suppliers or customers have operations, including heightened security concerns stemming from North Korea in relation to our operations in Korea;
political considerations that affect service provider and government spending patterns;
differing technology standards or customer requirements;
developing and customizing our products for foreign countries;
fluctuations in currency exchange rates, foreign exchange controls and restrictions on cash repatriation;
longer accounts receivable collection cycles and financial instability of customers;
requirements for additional liquidity to fund our international operations;
pandemics, epidemics and other public health crises, such as the COVID-19 pandemic;
difficulties and excessive costs for staffing and managing foreign operations;
ineffective legal protection of our intellectual property rights in certain countries;
potentially adverse tax consequences; and
changes in a country’s or region’s political and economic conditions.
In addition, some of our customer purchase agreements are governed by foreign laws and regulations, which may differ significantly from the laws and regulations of the United States. We may be limited in our ability to enforce our rights under these agreements and to collect damages, if awarded. Any of these factors could harm our existing international operations and business or impair our ability to continue expanding into international markets.
We face exposure to foreign currency exchange rate fluctuations.
We conduct significant business in Korea, Japan, India, Vietnam, Europe, Middle East and Latin America, all of which subject us to foreign currency exchange rate risk.
We have in the past and may in the future undertake a hedging program to mitigate the impact of foreign currency exchange rate fluctuations. The use of such hedging activities may not offset any or more than a portion of the adverse financial effects of unfavorable movements in foreign currency exchange rates over the limited time the hedges are in place. Moreover, the use of hedging instruments may introduce additional risks if we are unable to structure effective hedges with such instruments, which could adversely affect our business, operations, financial condition, and liquidity. As such, our results of operations and our cash flows could be impacted by changes in foreign currency exchange rates.
Natural disasters, public health crises, political crises, and other catastrophic events or other events outside of our control may damage our facilities or the facilities of third parties on which we depend, and could materially impact our supply chain and the operations of our customers and suppliers.
Our global headquarters are located in California near major geologic faults that have experienced earthquakes in the past. An earthquake or other natural disaster or power shortages or outages could disrupt operations or impair critical systems. Any of these disruptions or other events outside of our control could affect our business negatively, harming our operating results. In addition, in the event any of our facilities or the facilities of our suppliers, contract manufacturers, third-party service providers, or customers, is affected by natural disasters, such as earthquakes, tsunamis, power shortages or outages, floods or monsoons, public health crises, such as pandemics and epidemics, including the ongoing COVID-19 pandemic to the extent not already occurring, political crises, such as terrorism, war, political instability or other conflict, or other events outside of our control, our business and operating results could suffer. Disasters occurring at our or our vendors’ facilities also could impact our reputation.
The telecommunications networking business requires the application of complex revenue and expense recognition rules and the regulatory environment affecting generally accepted accounting principles is uncertain. Changes in financial accounting standards or practices may cause adverse, unexpected financial reporting fluctuations and harm our business.
The nature of our business requires the application of complex revenue and expense recognition rules and the current regulatory environment affecting U.S. GAAP is uncertain. Significant changes in U.S. GAAP could affect our financial statements going forward and may cause adverse, unexpected financial reporting fluctuations and harm our operating results. U.S. GAAP is subject to interpretation by the Financial Accounting Standards Board, the Securities and Exchange Commission (SEC) and various bodies formed to promulgate and interpret appropriate accounting principles. In addition, we have in the past and may in the future need to significantly change our customer contracts, accounting systems and processes when we adopt future or proposed changes in accounting principles. The cost and effect of these changes may negatively impact our results of operations during the periods of transition.
Changes in government regulations related to our business could harm our operations, financial condition, and liquidity.
Our operations are subject to various laws and regulations, including those regulations promulgated by the Federal Communications Commission (“FCC”). The FCC has jurisdiction over the entire communications industry in the United States and, as a result, our existing and future products and our customers’ products are subject to FCC rules and regulations. Changes to current FCC rules and regulations and future FCC rules and regulations could negatively affect our business. Non-compliance with the FCC’s rules and regulations would expose us to potential enforcement actions, including monetary forfeitures, and could damage our reputation among potential customers. The uncertainty associated with future FCC decisions may cause network service providers to delay decisions regarding their capital expenditures for equipment for broadband services. In addition, international regulatory bodies establish standards that may govern our products in foreign markets. The SEC has adopted disclosure rules regarding the use of “conflict minerals” mined from the Democratic Republic of Congo and adjoining countries and procedures regarding a manufacturer’s efforts to prevent the sourcing of such conflict minerals. These rules may have the effect of reducing the pool of suppliers who can supply “conflict free” components and parts, and we may not be able to obtain “conflict free” products or supplies in sufficient quantities for our operations. Also, we may face reputational challenges with our customers, stockholders and other stakeholders if we are unable to sufficiently verify the origins for the conflict minerals used in our products. In addition, governments and regulators in many jurisdictions have implemented or are evaluating regulations relating to cyber security, privacy and data protection, which can affect the markets and requirements for networking and communications equipment. We are unable to predict the scope, pace or financial impact of government regulations and other policy changes that could be adopted in the future, any of which could negatively impact our operations and costs of doing business. Because of our smaller size, legislation or governmental regulations can significantly increase our costs and affect our competitive position. Changes to or future domestic and international regulatory requirements could result in postponements or cancellations of customer orders for our products and services, which could harm our business, operations, financial condition and liquidity. Further, we cannot be certain that we will be successful in obtaining or maintaining regulatory approvals that could, in the future, be required to operate our business.
Industry consolidation may lead to increased competition and could harm our operating results.
There has been a trend toward industry consolidation in the communications equipment market for several years. We expect this trend to continue as companies attempt to strengthen or hold their market positions in an evolving industry and as companies are acquired or are unable to continue operations. We believe that industry consolidation may result in stronger competitors that are better able to compete as sole-source vendors for customers. This could have a material adverse effect on our business, operations, financial condition, and liquidity. Furthermore, rapid consolidation could result in a decrease in the number of customers we serve. The loss of a major customer could have a material adverse effect on our business, operations, financial condition, and liquidity.
Risks Related to our Common Stock
DNI owns a significant amount of our outstanding common stock and has the ability to exert significant influence or control over any matters that require stockholder approval, including the election of directors and the approval of certain transactions, and DNI’s interests may conflict with our interests and the interests of other stockholders.
As of March 31, 2020, DNI owned approximately 44.1% of the outstanding shares of our common stock, representing a significant amount of the votes entitled to be cast by the holders of our outstanding common stock at a stockholder meeting. Due to its significant ownership percentage of our common stock, DNI has the ability to substantially influence or control the outcome of any matter submitted for the vote of our stockholders, including the election of directors and the approval of certain transactions. The interests of DNI may conflict with the interests of our other stockholders or with holders of our indebtedness and may cause us to take actions that our other stockholders or holders of our indebtedness do not view as beneficial.
DNI’s large concentration of stock ownership may make it more difficult for a third party to acquire us or discourage a third party from seeking to acquire us. Any potential third-party acquirer would most likely need to negotiate any such transaction with DNI, and the interests of DNI with respect to such transaction may be different from the interests of our other stockholders or with holders of our indebtedness.
Additionally, two of the Company’s directors serve as executive officers of DNI – Min Woo Nam is the Chief Executive Officer and Chairman of the Board of Directors of DNI and Choon Yul Yoo is the Chief Operating Officer of DNI. Messrs. Nam and Yoo owe fiduciary duties to us and, in addition, have duties to DNI. As a result, these directors may face real or apparent conflicts of interest with respect to matters affecting both us and DNI.
Our amended and restated bylaws provide that the Court of Chancery of the State of Delaware will be the sole and exclusive forum for substantially all disputes between us and our stockholders (except for causes of action arising under the federal securities laws), which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers, or employees.
Our amended and restated bylaws (the “Bylaws”) provide that the Court of Chancery of the State of Delaware is the sole and exclusive forum for:
any derivative action or proceeding brought on behalf of the Company;
any action asserting a claim of breach of a fiduciary duty owed by any director, officer, employee or agent of the Company to the Company or the Company’s stockholders;
any action asserting a claim against the Company arising pursuant to any provision of the General Corporation Law of the State of Delaware, the Certificate of Incorporation or our Bylaws; and
any action asserting a claim against the Corporation governed by the internal affairs doctrine, in each such case subject to said Court of Chancery having personal jurisdiction over the indispensable parties named as defendants therein; provided, that with respect to any derivative action or proceeding brought on our behalf to enforce any liability or duty created by the Exchange Act or the rules and regulations thereunder, the exclusive forum will be the federal district courts of the United States. The exclusive forum provision in our Bylaws does not apply to resolving any complaint asserting a cause of action arising under the Securities Act of 1933.
These exclusive forum provisions may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers, or other employees, which may discourage lawsuits against us and our directors, officers and other employees. The Supreme Court of the State of Delaware recently determined that the exclusive forum provision of federal district courts of the United States for resolving any complaint asserting a cause of action arising under the Securities Act is enforceable.
The limitation of liability and indemnification provisions could harm our stockholders’ investments and discourage them from suing our directors for breach of their fiduciary duties.
The limitation of liability and indemnification provisions in our Certificate of Incorporation, as restated, may discourage stockholders from bringing a lawsuit against directors for breach of their fiduciary duties. They may also reduce the likelihood of derivative litigation against directors and officers, even though an action, if successful, might benefit us and our stockholders. A stockholder’s investment may be harmed to the extent we pay the costs of settlement and damage awards against directors and officers pursuant to these indemnification provisions. Insofar as indemnification for liabilities under the Securities Act may be permitted to directors, officers or persons controlling us pursuant to the foregoing provisions, we have been informed that in the opinion of the SEC such indemnification is against public policy as expressed in the Securities Act and is therefore unenforceable. There is no pending litigation or proceeding naming any of our directors or officers as to which indemnification is being sought, nor are we aware of any pending or threatened litigation that may result in claims for indemnification by any director or officer.
There is a limited public market of our common stock.
There is a limited public market for our common stock. The average daily trading volume in our common stock during the 3 months ended March 31, 2020 was approximately 67,000 shares per day. We cannot provide assurances that a more active trading market will develop or be sustained. As a result of low trading volume in our common stock, the purchase or sale of a relatively small number of shares of our common stock could result in significant price fluctuations and it may be difficult for holders to sell their shares without depressing the market price of our common stock.
DNI, our largest stockholder, owned 9.5 million shares of our common stock as of March 31, 2020 and has the right to require us to register, from time to time, the resale of those shares with the SEC. If DNI were to exercise its registration rights, its shares would become eligible for resale upon registration without restriction as to volume limitations. Our stock price could suffer a significant decline as a result of any sudden increase in the number of shares sold in the public market or market perception that the increased number of shares available for sale will exceed the demand for our common stock.
We do not expect to declare or pay dividends in the foreseeable future.
We do not expect to declare or pay dividends in the foreseeable future, as we anticipate that we will invest future earnings in the development and growth of our business. Therefore, holders of our common stock will not receive any return on their investment unless they sell their securities, and holders may be unable to sell their securities on favorable terms or at all.
Future issuances of additional equity securities could result in dilution of existing stockholders’ equity ownership.
We may determine from time to time to issue additional equity securities to raise additional capital, support growth, or, as we have in recent years, to make acquisitions. Further, we may issue stock options, grant restricted stock awards or other equity awards to retain, compensate and/or motivate our employees and directors. These issuances of our securities could dilute the voting and economic interests of existing stockholders.
None.
The exhibits required to be filed with this quarterly report on Form 10-Q are listed in the Exhibit Index attached hereto and are incorporated herein by reference.
Exhibit Number | Description | |
2.1 | ||
10.1 | ||
10.2 | ||
10.3 | ||
10.4 | ||
10.5 | ||
31.1 | Certification of Chief Executive Officer | |
31.2 | Certification of Chief Financial Officer Pursuant to Rule 13a-14(a)/15d-14(a) | |
32.1 | Section 1350 Certification of Chief Executive Officer and | |
101.SCH | XBRL Taxonomy Extension Schema | |
101.CAL | XBRL Taxonomy Extension Calculation Linkbase | |
101.DEF | XBRL Taxonomy Extension Definition Linkbase | |
101.LAB | XBRL Taxonomy Extension Labels Linkbase | |
101.PRE | XBRL Taxonomy Extension Presentation Linkbase |
Pursuant to the retirementsrequirements 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.
DASAN ZHONE SOLUTIONS, INC. | |||||
Date: | |||||
By: | /s/ IL YUNG KIM | ||||
Name: | Il Yung Kim | ||||
Title: | President and Chief Executive Officer | ||||
By: | /s/ THOMAS J. CANCRO | ||||
Name: | Thomas J. Cancro | ||||
Title: | Chief Financial Officer and Treasurer | ||||
(Principal Financial and | |||||
Accounting Officer) | |||||
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