Advertising costs, which are included in sales, general and administrative expense, are expensed as incurred.
On August 22, 2003, the Company, through its newly formed subsidiary, MPC Solutions Sales, LLC (MPC-S) acquired certain assets and assumed certain liabilities of Omni Tech Corporation (OTC), comprising OTC’s End-User Division (the Acquired Business). The transaction was consummated pursuant to the terms and conditions of an Asset Purchase Agreement (the APA) by and between OTC, and MPC-S. MPC-S sells desktop and multiprocessor network servers, hardware services and professional services. The results of the acquired business operations after August 22, 2003 are included in the Company’s consolidated financial statements.
Pursuant to the APA, the Company paid cash of $12.7 million at closing, and delivered to OTC a promissory note in the amount of $2 million (the Note). Additionally, the APA provided for a purchase price holdback of $2.3 million (the Holdback). The purchase price is subject to a post-closing final adjustment based on the net working capital of the Acquired Business (the Net Working Capital Adjustment) and the Holdback was established in order to satisfy any negative net working capital adjustment. The total purchase price, not including any contingent purchase price, was allocated to the acquired assets and assumed liabilities based upon estimates of their respective fair values as of the closing date using valuations and other studies. The Note is due in one lump sum on August 19, 2006. Interest on the Note is to be paid quarterly using the Prime rate plus three-quarters of one percent (0.75%), 5.25% as of April 2, 2005. The Prime Rate is the prime rate as reported in the Wall Street Journal on the business day immediately preceding the start of each quarter.
In late 2003, a dispute arose in connection with the Net Working Capital Adjustment because OTC’s calculation of the net working capital of the Acquired Business exceeded the Company’s calculation by approximately $3.9 million. Pursuant to the terms of the APA, MPC-S and OTC entered into discussions with independent accountants in an attempt to engage their services for dispute resolution. However, the parties could not agree on a dispute resolution procedure or scope thereof. On February 19, 2004, OTC filed a Complaint in the United States District Court for the Eastern District of Wisconsin on the issue naming MPC-S, MPC Computers, LLC, and Gores Technology Group, LLC as the Defendants. In the Complaint, OTC seeks payment of $2.7 million plus attorneys’ fees, expenses and interest. Additionally, OTC expects to receive payment for the Note. The Company filed a motion to compel dispute resolution by an independent accountant pursuant to the APA, which motion was denied by the District Court. The Company has appealed the denial of the motion to compel dispute resolution, and the matter is currently pending before the federal court of appeals.
Intangible assets represent the values assigned to customer lists and relationships, noncompete agreements and exclusive distribution rights contracts of businesses acquired. These intangible assets are amortized on a straight-line basis over their expected useful lives. Customer relationships and noncompete agreements are amortized over 5 years while the government contracts are amortized over the remaining life of the respective contracts.
The Company accrues for warranty liabilities at the time of the sale for estimated costs that may be incurred under its basic limited warranty.
(6) Debt
The Company has a secured revolving line of credit agreement, expiring May 2006, with Wells Fargo Foothill, Inc., providing for borrowings totaling $50 million. The maximum borrowings under the revolving line of credit are subject to a borrowing base calculated on eligible receivables. On July 2, 2005, the Company had borrowings of $22 million and letter of credit commitments of $7.4 million. Under the agreement, the Company is subject to certain financial and other covenants including certain financial ratios and limitations on the amount of property, plant and equipment that can be purchased. As of January 1, 2005, the Company was in violation of certain covenants under the revolving credit agreement with Wells Fargo and secured a waiver on May 11, 2005. The line of credit included an initial commitment fee of $0.8 million. Additionally, the Company pays an annual commitment fee of 0.375% calculated on the average unused portion of the $50.0 million facility. As of July 2, 2005, the Company was not aware of any violations under this debt facility. Subsequent to July 2, 2005, the Company replaced this credit facility with a new three-year facility provided by Wachovia Capital Finance Corporation.
(7) Employee Benefit Plans
The Company offers its employees a 401(k) retirement plan (the Plan) in which substantially all employees may participate. Under the Plan, participating employees may contribute from 1% to 16% of eligible pay (up to Internal Revenue Service maximums) to various investment alternatives. The Plan provides for an annual match of eligible employees’ contributions equal to 100% of the first 4% of pay. The Company’s expense pursuant to the Plan was approximately $0.5 million for the six months ended July 2, 2005 and $0.6 million for the six months ended July 3, 2004.
(8) Lease Obligations
The Company leases various office and production facilities and certain other property and equipment, under operating lease agreements expiring through 2006, with optional renewal periods thereafter. The Company has two main office locations, a 340,000 square foot production facility in Nampa, Idaho, the Company’s corporate headquarters, and a 15,500 square foot facility in Waukesha, Wisconsin. The Nampa, Idaho facility is cancelable upon 12-months advance notice and expires on June 31, 2006. The Waukesha, Wisconsin facility is non-cancelable and expires on January 31, 2006.
In addition, the Company has several operating lease for smaller sites in the United States to support the Company’s local sales and support activities. The Company also leases certain equipment pursuant to operating leases.
(9) Contingencies
The Company is party to a lawsuit with Omni Tech Corporation described in Note 3(a) above. The Company believes that it has properly determined any amounts due to Omni Tech in accordance with the terms of the acquisition agreement. However, an adverse result in this lawsuit would have an adverse effect on the Company’s cash position.
On or about August 30, 2004, the Company was served with a complaint filed August 23, 2004, in the United States District Court for the Eastern District of Texas, American Video Graphics, L.P. v. Dell, IBM, Hewlett-Packard, Sony, Toshiba, et al. The case alleges infringement by the Company and others of certain United States patents relating to video technology as used in personal computers. A separate case alleging infringement of a related United States patent covering certain aspects of computer video technology was filed on or about March 21, 2005, in the United States District Court for the Eastern District of Texas, American Video Graphics, L.P. v. Dell, IBM, Hewlett-Packard, Sony, Toshiba, et al. The Company was served with this second complaint on or about April 6, 2005. The Company is investigating the cases and it plans to seek indemnification from component suppliers.
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Because the cases are in their early stages, the Company is not able to determine the financial impact, if any, arising from an adverse result in either matter.
On June 7, 2005, the Company was served with a first amended complaint in a lawsuit filed in the federal district court for the district of Utah, alleging infringement of certain patents, relating to floppy disk controllers, owned by Phillip Adams & Associates, LLC. The Company is investigating the matter and is identifying component suppliers so that it may prepare and tender indemnification demands. Because the case is in its early stages, the Company is not able to determine the financial impact, if any, arising from an adverse result in the matter.
On September 10, 2003, Bridgeport Holdings filed for Chapter 11 bankruptcy protection in a Proof of Claim in the bankruptcy for $268,484.07. In February 2004, the Company received correspondence from counsel for the debtor advising that it was debtor’s position that the Company had received preference payments from Bridgeport Holdings and demanding return of same. The Company has engaged in protracted financial analysis of both the debtor’s and its own records to create defenses to the allegations and has presented those defenses to debtor’s counsel. In August 2005, the bankruptcy trustee filed suit in the United States Bankruptcy Court for the District of Delaware, seeking to recover $684,837 in alleged preference payments.
The Company is involved in other various other legal proceedings from time to time in the ordinary course of its business. The Company investigates these claims as they arise. The Company is not currently subject to any other legal proceedings that the Company believes would have a material impact on its business. However, due to the inherent uncertainties of the judicial process, the Company is unable to predict the ultimate outcome or financial exposure, if any, with respect to these matters. While the Company intends to vigorously defend these claims and believes the Company has meritorious defenses available to it, there can be no assurance the Company will prevail in these matters. If any of these claims is not resolved in the Company’s favor, it could have a material adverse effect on the Company’s business, financial condition and results of operations.
The Company is not party to any off balance sheet transactions, other than guarantees in the normal course of business or indemnities.
During the normal course of business, the Company has made certain indemnities, commitments and guarantees under which it may be required to make payments in relation to certain transactions. These include (i) intellectual property indemnities to its customers and licensees in connection with the use, sale and/or license of our products, (ii) indemnities to its lessors in connection with our facility leases for certain claims arising from such facilities or leases, (iii) indemnities to vendors and service providers pertaining to claims based on its negligence or willful misconduct, and (iv) indemnities involving the accuracy of representations in certain contracts. The duration of these indemnities and commitments in certain cases may be indefinite. The majority of these indemnities and commitments do not provide for any limitation of the maximum potential for future payments the Company could be obligated to make. The Company has not recorded any liability for these indemnities and commitments in the accompanying consolidated financial statements.
Under the Limited Liability Company Agreement, it has agreed to indemnify its officers and directors in connection with activities on behalf of the Company. The maximum potential amount of future payments the Company could be required to make under these indemnification agreements is unlimited. However, the Company has directors and officers’ liability insurance policies that limit exposure and enables it to recover a portion of any future amounts paid. As a result of the Company’s insurance policy coverage, the Company believes the estimated fair value of these indemnification agreements is minimal and has no liability recorded for these agreements as of July 2, 2005.
On March 21, 2005, the Company reached a definitive agreement to be acquired by HyperSpace Communications, Inc. (HyperSpace), a provider of application and network acceleration software. The agreement was subject to stockholder and other approvals. Under terms of the agreement, HyperSpace issued an aggregate 3.7 million shares of its common stock in return for all of the Company’s outstanding limited liability units, plus warrants to purchase 4.27 million shares with an exercise price of $3.00 per share and 1.28 million shares with an exercise price of $5.50 per share. This merger was consummated on July 25, 2005. After the merger, as part of an overall incentive and retention plan for the Company’s management and to settle certain liabilities of the Company with respect to its Capital Equity Participation and Retention Plan and employment agreements with the Company’s chief executive
officer and executive vice president, HyperSpace issued certain shares of common stock to certain members of MPC’s management.
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