================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM 10-Q
----------------
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE TRANSITION PERIOD FROM ____________ TO ____________.
COMMISSION FILE NUMBER 000-30715
COSINE COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 94-3280301
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
3200 BRIDGE PARKWAY, REDWOOD CITY, CA 94065
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER INCLUDING AREA CODE: (650) 637-4777
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 [ ]
There were 101,897,320 shares of the Company's Common Stock, par value
$.0001, outstanding on October 26, 2001.
Exhibit index on page 23.
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COSINE COMMUNICATIONS, INC.
FORM 10-Q
QUARTER ENDED SEPTEMBER 30, 2001
TABLE OF CONTENTS
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheets as of September 30, 2001 and December 31, 2000 3
Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30,
2001 and September 30, 2000 4
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2001 and
September 30, 2000 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 20
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds 21
Item 6. Exhibits and Reports on Form 8-K 21
Signature 22
Exhibit Index 23
PAGE 2 OF 24
PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
COSINE COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- ------------
(UNAUDITED) (1)
ASSETS
Current assets:
Cash and cash equivalents .................................................... $ 87,867 $ 126,139
Short-term investments ....................................................... 105,584 162,143
Accounts receivable:
Trade (net of allowance for doubtful accounts of $439 and $631 at September
30, 2001 and December 31, 2000, respectively) ............................. 8,840 6,093
Other ....................................................................... 2,194 791
Inventory .................................................................... 5,616 10,634
Prepaid expenses and other current assets .................................... 7,005 14,174
--------- ---------
Total current assets ................................................. 217,106 319,974
Property and equipment, net .................................................. 31,120 32,739
Other assets ................................................................. 1,114 1,215
--------- ---------
$ 249,340 $ 353,928
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................................................. $ 3,168 $ 7,134
Provision for warranty claims ................................................ 2,335 3,741
Accrued other liabilities .................................................... 14,691 7,478
Accrued compensation ......................................................... 6,651 4,810
Note payable ................................................................. -- 223
Deferred revenue ............................................................. 2,842 7,643
Current portion of equipment and working capital loans ....................... 2,667 2,674
Current portion of obligations under capital lease ........................... 3,402 3,160
Other current liabilities .................................................... -- 84
--------- ---------
Total current liabilities ............................................ 35,756 36,947
Long-term portion of equipment and working capital loans ....................... 2,520 4,541
Long-term portion of obligations under capital lease ........................... 2,809 5,391
Accrued rent ................................................................... 2,465 2,154
Other long-term liabilities .................................................... -- 132
Commitments and contingencies
Stockholders' equity:
Preferred stock, 3,000,000 authorized, none issued and outstanding at
September 30, 2001 and December 31, 2000
Common stock, $.0001 par value, 300,000,000 shares authorized at September
30, 2001 and December 31, 2000, 102,062,157 and 103,697,827 shares issued
and outstanding at September 30, 2001 and December 31, 2000, respectively .. 10 10
Additional paid-in capital ................................................... 583,156 634,261
Notes receivable from stockholders ........................................... (30,171) (36,521)
Accumulated other comprehensive income ....................................... 792 2,286
Deferred compensation ........................................................ (21,860) (92,002)
Accumulated deficit .......................................................... (326,137) (203,271)
--------- ---------
Total stockholders' equity ........................................... 205,790 304,763
--------- ---------
$ 249,340 $ 353,928
========= =========
See accompanying notes
(1) The information in this column was derived from the Company's audited
consolidated financial statements for the year ended December 31, 2000.
PAGE 3 OF 24
COSINE COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2001 2000 2001(1) 2000
--------- --------- --------- ---------
Revenue .......................................... $ 9,826 $ 7,201 $ 23,008 $ 14,823
Cost of goods sold(2) .......................... 11,767 6,991 25,054 14,266
--------- --------- --------- ---------
Gross profit (loss) .............................. (1,941) 210 (2,046) 557
--------- --------- --------- ---------
Operating expenses:
Research and development(3) .................... 15,222 30,472 51,267 64,575
Sales and marketing(4) ......................... 13,422 17,159 48,196 33,401
General and administrative(5) .................. 5,917 5,953 19,496 14,266
Restructuring charges .......................... 7,002 -- 8,991 --
--------- --------- --------- ---------
Total operating expenses ............... 41,563 53,584 127,950 112,242
--------- --------- --------- ---------
Loss from operations ............................. (43,504) (53,374) (129,996) (111,685)
--------- --------- --------- ---------
Other income (expenses):
Interest income and other ...................... 2,116 1,668 9,117 3,729
Interest expense(6) ............................ (389) (566) (1,327) (1,352)
--------- --------- --------- ---------
Total other income (expenses) .......... 1,727 1,102 7,790 2,377
--------- --------- --------- ---------
Loss before income tax provision ................. (41,777) (52,272) (122,206) (109,308)
Income tax provision ........................... 149 -- 660 --
--------- --------- --------- ---------
Net loss ......................................... (41,926) (52,272) (122,866) (109,308)
Deemed dividend to series D preferred stockholders -- --. -- (2,500)
--------- --------- --------- ---------
Net loss allocable to common stockholders ........ $ (41,926) $ (52,272) $(122,866) $(111,808)
========= ========= ========= =========
Basic and diluted net loss per common share ...... $ (0.43) $ (4.72) $ (1.27) $ (12.10)
========= ========= ========= =========
Shares used in computing per share amounts ....... 97,833 11,065 96,387 9,237
========= ========= ========= =========
---------------
(1) Certain amounts have been reclassified to conform to the presentation used
in the current period.
(2) Cost of goods sold includes $582 and $680 for the three months ended
September 30, 2001 and 2000, respectively and $1,847 and $1,623 for the nine
months ended September 30, 2001 and 2000, respectively of non-cash charges
related to equity issuances.
(3) Research and development expenses include $2,394 and $14,469 for the three
months ended September 30, 2001 and 2000, respectively and $9,414 and $24,469
for the nine months ended September 30, 2001 and 2000, respectively of non-cash
charges related to equity issuances.
(4) Sales and marketing expenses include $2,008 and $5,460 for the three months
ended September 30, 2001 and 2000, respectively and $11,476 and $10,549 for the
nine months ended September 30, 2001 and 2000, respectively of non-cash charges
related to equity issuances.
(5) General and administrative expenses include $1,374 and $3,331 for the three
months ended September 30, 2001 and 2000, respectively and $4,971 and $7,939 for
the nine months ended September 30, 2001 and 2000, respectively of non-cash
charges related to equity issuances.
(6) Interest expense includes $36 and $41 for the three months ended September
30, 2001 and 2000, respectively and $119 and $95 for the nine months ended
September 30, 2001 and 2000, respectively of non-cash charges related to equity
issuances.
See accompanying notes.
PAGE 4 OF 24
COSINE COMMUNICATIONS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
2001 2000
--------- ---------
OPERATING ACTIVITIES:
Net loss .................................................................. $(122,866) $(109,308)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation ............................................................ 11,520 4,945
Amortization of warrants issued for services ............................ 5,689 10,338
Amortization of deferred stock compensation ............................. 24,920 35,681
Issuance of options to purchase common stock ............................ -- 8,096
Write-down of capital equipment held for disposal ....................... 4,593 --
Other, net .............................................................. 313 106
Change in operating assets and liabilities:
Accounts receivable ................................................... (4,150) (19,386)
Inventory ............................................................. 5,018 (8,724)
Prepaid expenses and other current assets ............................. 3,176 (7,123)
Other assets .......................................................... 101 646
Accounts payable ...................................................... (3,966) 4,286
Provision for warranty claims ......................................... (1,406) 2,304
Accrued other liabilities ............................................. 7,213 5,190
Accrued compensation .................................................. 1,841 2,553
Note payable .......................................................... (223) 223
Deferred revenue ...................................................... (6,497) 19,330
Other current liabilities ............................................. (216) (57)
Accrued rent .......................................................... 311 385
--------- ---------
Net cash used in operating activities ..................................... (74,629) (50,515)
--------- ---------
INVESTING ACTIVITIES:
Capital expenditures ...................................................... (14,771) (20,922)
Purchase of short-term investments ........................................ (82,170) (61,679)
Proceeds from sales and maturities of short-term investments .............. 137,204 39,205
--------- ---------
Net cash provided (used) by investing activities ........................ 40,263 (43,396)
--------- ---------
FINANCING ACTIVITIES:
Proceeds from equipment and working capital loans and capital leases ...... -- 11,482
Principal payments of equipment and working capital loans and capital
leases .................................................................. (4,368) (2,633)
Proceeds from issuance of preferred stock, net ............................ -- 77,432
Proceeds from issuance of common stock, net ............................... 104 245,510
Proceeds from notes receivable from stockholders .......................... 358 43
--------- ---------
Net cash (used) provided by financing activities ........................ (3,906) 331,834
--------- ---------
Net (decrease) increase in cash and cash equivalents ...................... (38,272) 237,923
Cash and cash equivalents at the beginning of the period .................. 126,139 20,089
--------- ---------
Cash and cash equivalents at the end of the period ........................ $ 87,867 $ 258,012
========= =========
SUPPLEMENTAL INFORMATION:
Cash paid for interest .................................................... $ 1,208 $ 1,257
========= =========
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Issuance and remeasurement of warrants .................................... -- $ 17,038
========= =========
Notes receivable received from stockholders (in exchange for issuance of
common stock) ........................................................... -- $ 35,847
========= =========
See accompanying notes.
PAGE 5 OF 24
COSINE COMMUNICATIONS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The unaudited condensed consolidated financial statements have been
prepared by CoSine Communications, Inc. pursuant to the rules and regulations of
the Securities and Exchange Commission and include the accounts of CoSine
Communications, Inc. and its wholly owned subsidiaries ("CoSine" or
collectively, the "Company".) Certain information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. In the opinion of management, all adjustments (consisting
of normal recurring items) necessary for a fair presentation have been included.
The results of operations for the three and nine months ended September 30, 2001
are not necessarily indicative of the results to be expected for the entire
year. These unaudited condensed consolidated financial statements should be read
in conjunction with the audited consolidated financial statements and the notes
included in CoSine's Annual Report filed on Form 10-K for the year ended
December 31, 2000.
During 2000, CoSine issued warrants to its initial customers, which
significantly affects revenue. These warrants were issued upon receipt of
substantial purchase orders, which were preceded by a period of cooperation with
marketing, development and refinement of the Company's products. Customer
revenue consists of receipts from sales, including equity issued in connection
with sales, less receipts for equity issued in connection with sales.
Below is a reconciliation of revenue for the three and nine months
ended September 30, 2001 and 2000 as presented in our statement of operations to
show the separate components as indicated (in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ -----------------------
2001 2000 2001 2000
------- ------- ------- -------
(UNAUDITED) (UNAUDITED)
Receipts from sales, including equity issued
in connection with sales $10,320 $13,038 $25,796 $24,359
Less: Receipts for equity issued in
connection with sales 494 5,837 2,788 9,536
------- ------- ------- -------
Revenue $ 9,826 $ 7,201 $23,008 $14,823
======= ======= ======= =======
In the second quarter of 2001, one of the Company's customers filed for
bankruptcy. As a result, the remaining portion of the unamortized value of the
warrants issued to that customer of approximately $3.8 million was written off.
Approximately $1.1 million was charged against revenue representing the amount
of revenue previously recognized for this customer and approximately $2.7
million was charged to sales and marketing expense.
2. RESTRUCTURING CHARGES
In April and September of 2001 CoSine's senior management approved
restructuring plans to reduce our worldwide workforce, close certain sales
offices, exit certain facilities and idle certain capital equipment. Employees
affected by the April 2001 plan were notified and terminated in April 2001. With
respect to the September 2001 plan, notification was given to employees on
September 28, 2001 that certain job functions would be eliminated and that
particular termination benefits would be paid to affected employees. The
restructuring programs were implemented to reduce the level of operating
expenses and conserve cash.
PAGE 6 OF 24
Details of the restructuring charges are as follows (in thousands):
PROVISION
CASH NON-CASH BALANCE AT
(Amounts are unaudited) CHARGES PAYMENTS CHARGES QUARTER END
------- -------- -------- -----------
THREE MONTHS ENDED JUNE 30, 2001
Worldwide workforce reduction $1,989 $1,989 $ -- $ --
------ ------ ------ ------
THREE MONTHS ENDED SEPTEMBER 30, 2001
Worldwide workforce reduction 1,507 -- -- 1,507
Write-down of capital equipment
held for disposal 4,593 -- 4,593 --
Lease commitments and other 902 -- -- 902
------ ------ ------ ------
Total 7,002 -- 4,593 2,409
------ ------ ------ ------
NINE MONTHS ENDED SEPTEMBER 30, 2001 $8,991 $1,989 $4,593 $2,409
====== ====== ====== ======
As a result of the workforce reductions, approximately 55 employees
were terminated in the second quarter, and approximately 50 employees were
designated for termination in the third quarter restructuring plan and were then
terminated in the fourth quarter. The employees in both workforce reductions
were from all functional groups and were primarily located in our Redwood City
offices. Certain capital equipment has been idled and will be disposed of as a
result of the September 2001 restructuring plan and has been written down to its
expected realizable value.
Cash expenditures relating to the workforce reduction that was charged
to operations in the third quarter will be substantially paid out during the
fourth quarter of 2001. Amounts related to lease commitments will be paid out
over the respective lease terms through mid-2002.
3. CUSTOMER CONCENTRATION
Currently a limited number of customers comprise CoSine's revenues, and
the loss of certain significant customers could have a material impact on
operations.
4. INVENTORIES
Net inventories, stated at the lower of cost (first-in, first-out) or
market, consisted of the following, in thousands:
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- ------------
(UNAUDITED)
Raw materials $1,533 $ 832
Semi-finished goods 2,899 7,554
Finished goods 1,184 2,248
------ -------
$5,616 $10,634
====== =======
Included in net finished goods inventory at September 30, 2001 and
December 31, 2000 were $1,184,000 and $415,000, respectively, of goods awaiting
customer acceptance. Included in net semi-finished goods at September 30, 2001
and December 31, 2000 were $186,000 and $1,158,000, respectively, of goods used
for customer evaluation purposes.
5. NET LOSS PER COMMON SHARE
Basic net loss per common share is calculated based on the
weighted-average number of common shares outstanding during the periods
presented, less weighted-average shares outstanding that are subject to CoSine's
right of repurchase. Common stock equivalents consisting of convertible
preferred stock, stock options and warrants (calculated using the treasury stock
method), have been excluded from the diluted net loss per common share
computations, as their inclusion would be antidilutive. These securities
amounted to 18,528,000 shares and 78,592,000 shares for the nine months ended
September 30, 2001 and 2000, respectively.
PAGE 7 OF 24
The calculations of basic and diluted net loss per share are shown
below, in thousands, except per share data:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------------- --------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
(UNAUDITED) (UNAUDITED)
Net loss allocable to common stockholders $ (41,926) $ (52,272) $(122,866) $(111,808)
--------- --------- --------- ---------
Basic and diluted:
Weighted-average shares of common stock
outstanding 102,229 22,240 102,880 18,924
Weighted-average shares subject to repurchase (4,396) (11,175) (6,493) (9,687)
--------- --------- --------- ---------
Weighted-average shares used in basic and
diluted net loss per common share 97,833 11,065 96,387 9,237
========= ========= ========= =========
Basic and diluted net loss per common share $ (0.43) $ (4.72) $ (1.27) $ (12.10)
========= ========= ========= =========
6. COMPREHENSIVE LOSS
The components of comprehensive loss are shown below, in thousands:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------------------------- --------------------------
2001 2000 2001 2000
--------- --------- --------- ---------
(UNAUDITED) (UNAUDITED)
Net loss $ (41,926) $ (52,272) $(122,866) $(109,308)
Other comprehensive income (loss):
Unrealized gains (losses) on investments (40) 45 (1,525) 47
Translation adjustment 224 (37) 31 (37)
--------- --------- --------- ---------
Total other comprehensive income (loss) 184 8 (1,494) 10
--------- --------- --------- ---------
Comprehensive loss $ (41,742) $ (52,264) $(124,360) $(109,298)
========= ========= ========= =========
7. SEGMENT REPORTING
CoSine operates in only one operating segment. Enterprise-wide
information is provided in accordance with Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information." Substantially all of CoSine's assets are located in the United
States.
Revenues from customers by geographic region for the three and nine
months ended September 30, 2001 and 2000, respectively, were as follows, in
thousands:
Receipts from sales, Receipts for equity
including equity issued issued in connection
Region in connection with sales with sales Revenue
---------------------- --------------------------- ------------------------ ---------------
THREE MONTHS ENDED SEPTEMBER 30, 2001 (UNAUDITED)
Europe $3,837 $ 272 $3,565
Asia/Pacific 3,448 -- 3,448
United States 3,035 222 2,813
------- ------ ------
Total $10,320 $ 494 $9,826
======= ====== ======
THREE MONTHS ENDED SEPTEMBER 30, 2000 (UNAUDITED)
Europe $ 2,051 $ 183 $1,868
United States 10,987 5,654 5,333
------- ------ ------
Total $13,038 $5,837 $7,201
======= ====== ======
PAGE 8 OF 24
Receipts from sales, Receipts for equity
including equity issued issued in connection
Region in connection with sales with sales Revenue
---------------------- --------------------------- ------------------------ ---------------
NINE MONTHS ENDED SEPTEMBER 30, 2001 (UNAUDITED)
Europe $10,600 $ 454 $10,146
Asia/Pacific 8,319 -- 8,319
United States 6,877 2,334 4,543
------- ------ -------
Total $25,796 $2,788 $23,008
======= ====== =======
NINE MONTHS ENDED SEPTEMBER 30, 2000 (UNAUDITED)
Europe $ 7,686 $ 682 $ 7,004
United States 16,673 8,854 7,819
------- ------ -------
Total $24,359 $9,536 $14,823
======= ====== =======
PAGE 9 OF 24
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements. These forward-looking
statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from those reflected in these
forward-looking statements. We use words such as "anticipate," "believe,"
"plan," "expect," "future," "intend" and similar expressions to identify
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, product development, commercialization and technology
difficulties, manufacturing costs, the impact of competitive products, pricing
pressures, changing customer requirements, timely availability and acceptance of
new products, changes in economic conditions in the various markets we serve and
those factors discussed in the section entitled "Management's Discussion and
Analysis of Financial Position and Results of Operations --- Risk Factors."
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect management's opinions only as of the date hereof. We
undertake no obligation to revise or publicly release the results of any
revision to these forward-looking statements.
OVERVIEW
From our incorporation on April 14, 1997 through December 31, 1999, we
were a development stage enterprise, and our operating activities were primarily
devoted to increasing our research and development capabilities, designing our
hardware, developing our software and testing our products. In March 2000, after
extensive field-testing of our Internet Protocol (IP) service delivery platform,
we recognized revenue from product shipments to our first customers and
therefore ceased to be classified as a development stage enterprise. We market
our products through our direct sales force and through resellers to service
providers in Asia, Europe and the Americas. We provide customer service and
support for our products.
The market for our IP service delivery platform is new and evolving,
and the volume and timing of orders are difficult to predict. A customer's
decision to purchase our platform typically involves a significant commitment of
its resources and a lengthy evaluation, testing and product qualification
process. Long sales and implementation cycles for our platform may cause our
revenue and operating results to vary significantly and unexpectedly from
quarter to quarter.
RESULTS OF OPERATIONS
For the three months ended September 30, 2001 and 2000, we reported a
basic and diluted net loss per common share of $0.43 and $4.72, respectively.
The effect of non-cash charges related to equity issuances was a loss of $0.07
and $2.69 per share for the three months ended September 30, 2001 and 2000,
respectively.
For the nine months ended September 30, 2001 and 2000, we reported a
basic and diluted net loss per common share of $1.27 and $12.10, respectively.
The effect of non-cash charges related to equity issuances was a loss of $0.32
and $5.86 per share for the nine months ended September 30, 2001 and 2000,
respectively.
In the second quarter of 2001, one of the Company's customers filed for
bankruptcy. As a result, the remaining portion of the unamortized value of the
warrants issued to that customer of approximately $3.8 million was written off.
Approximately $1.1 million was charged against revenue representing the amount
of revenue previously recognized for this customer and approximately $2.7
million was charged to sales and marketing expense.
REVENUE
During 2000, CoSine issued warrants to its initial customers, which
significantly affects revenue. These warrants were issued upon receipt of
substantial purchase orders, which were preceded by a period of cooperation with
marketing, development and refinement of the Company's products. Customer
revenue consists of receipts from sales, including equity issued in connection
with sales, less receipts for equity issued in connection with sales.
For the three months ended September 30, 2001, revenue was $9.8 million
of which 66% was from hardware sales, 7% was from software sales and 27% was
from sales of services. Receipts from sales, including equity issued in
connection with sales, were $10.3 million. For the three months ended September
30, 2000, revenue was $7.2 million of which 83% was from hardware sales and 9%
was from software sales and 8% was from sales of services. Receipts from sales,
including equity issued in connection with sales, were $13.0 million.
PAGE 10 OF 24
For the nine months ended September 30, 2001, revenue was $23.0 million
of which 59% was from hardware sales, 9% was from software sales and 32% was
from sales of services. Receipts from sales, including equity issued in
connection with sales, were $25.8 million. For the nine months ended September
30, 2000, revenue was $14.8 million of which 87% was from hardware sales, 9% was
from software sales and 4% was from sales of services. Receipts from sales,
including equity issued in connection with sales, were $24.4 million.
Below is a reconciliation of revenue for the three and nine months
ended September 30, 2001 and 2000 as presented in our statement of operations to
show the separate components as indicated (in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2001 2000 2001 2000
------- ------- ------- -------
(UNAUDITED) (UNAUDITED)
Receipts from sales, including equity issued
in connection with sales $10,320 $13,038 $25,796 $24,359
Less: Receipts for equity issued in
connection with sales 494 5,837 2,788 9,536
------- ------- ------- -------
Revenue $ 9,826 $ 7,201 $23,008 $14,823
======= ======= ======= =======
During the year ended December 31, 2000 we issued the following
warrants to customers:
A warrant exercisable for 1,233,499 shares of our series C preferred
stock at an exercise price of $0.81 per share issued to Qwest Communications
upon receipt of a purchase order from Qwest for $18.3 million of our products
and services;
A warrant exercisable for 200,000 shares of our common stock at an
exercise price of $4.00 per share issued to AduroNet Ltd. upon receipt of a
purchase order from AduroNet for $20.7 million of our products and services; and
A warrant exercisable for 468,849 shares of our common stock at an
exercise price of $3.73 per share issued to BroadBand Office upon receipt of a
purchase order from BroadBand Office for $20.0 million of our products and
services. BroadBand filed for bankruptcy in May 2001 and subsequently CoSine
wrote off the remaining unamortized portion of this warrant.
We calculated the fair value of these customer-related warrants to be
$16.2 million ($10.3 million in the case of Qwest, $1.8 million in the case of
AduroNet and $4.1 million in the case of BroadBand Office). These values were
calculated using the Black-Scholes option pricing model, using volatility of
0.6, a risk-free interest rate of 5% and an expected life of four years. Of this
amount, $0.5 million and $5.8 million were excluded from revenue for the three
months ended September 30, 2001 and 2000, respectively, and $2.8 million and
$9.5 million were excluded from revenue for the nine months ended September 30,
2001 and 2000, respectively.
NON-CASH CHARGES RELATED TO EQUITY ISSUANCES
During the three months ended September 30, 2001 and 2000, we amortized
$6.4 million and $24.0 million, respectively of non-cash charges related to
equity issuances. During the nine months ended September 30, 2001 and 2000, we
amortized $27.8 million and $44.7 million, respectively of non-cash charges
related to equity issuances. These amounts do not include the amortization of
customer warrants described above. The equity issuances which impacted cost of
goods sold and operating expenses included warrants issued to suppliers for
services, stock options granted to employees and consultants, stock issued in
lieu of cash compensation to suppliers and unvested shares issued upon exercise
of unvested employee stock options for full recourse promissory notes that were
converted to non-recourse obligations. Additionally, during the second quarter
of 2001, $2.7 million was included for the write off of the unamortized portion
of customer warrants due to a customer's bankruptcy.
COST OF GOODS SOLD
For the three months ended September 30, 2001, cost of goods sold was
$11.8 million, of which $5.2 million or 44% represented materials, labor,
production overhead and the costs of providing services, $6.0 million or 51%
represented a write down of excess inventory and $0.6 million or 5% represented
amortization of deferred compensation related to stock options granted to
employees in manufacturing operations. For the three months ended September 30,
2000, cost of goods sold was
PAGE 11 OF 24
$7.0 million, of which $4.5 million or 64% represented materials, labor,
production overhead and the costs of providing services, $1.2 million or 17%
represented warranty costs, $0.6 million or 9% represented the write down of
excess inventory and $0.7 million or 10% represented amortization of deferred
compensation.
For the nine months ended September 30, 2001, cost of goods sold was
$25.1 million, of which $10.2 million or 41% represented materials, labor,
production overhead and the costs of providing services, $13.0 million or 52%
represented a write down of excess inventory and $1.9 million or 7% represented
amortization of deferred compensation related to stock options granted to
employees in manufacturing operations. For the nine months ended September 30,
2000, cost of goods sold was $14.3 million, of which $8.2 million or 57%
represented materials, labor, production overhead and the costs of providing
services, $2.7 million or 19% represented warranty costs, $1.8 million or 13%
represented the write down of obsolete inventory and $1.6 million or 11%
represented amortization of deferred compensation.
GROSS PROFIT (LOSS)
For the three months ended September 30, 2001, gross loss was $1.9
million and for the three months ended September 30, 2000 gross profit was $0.2
million. For the nine months ended September 30, 2001 gross loss was $2.0
million and for the nine months ended September 30, 2000 gross profit was $0.6
million.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses were $15.2 million and $30.5 million
for the three months ended September 30, 2001 and 2000, respectively. This
represents a decrease of $15.3 million or 50%. This primarily resulted from
decreased non-cash charges related to the issuance of stock options to employees
and consultants. Non-cash charges related to stock options granted to employees
and consultants were $2.4 million and $14.5 million for the three months ended
September 30, 2001 and 2000, respectively.
For the nine months ended September 30, 2001 and 2000, research and
development expenses were $51.3 million, after reclassifying $0.7 million of
expense to restructuring charges, and $64.6 million, respectively. This
represents a decrease of $13.3 million or 21%. This primarily resulted from
decreased non-cash charges related to the issuance of stock options to employees
and consultants. Non-cash charges related to stock options granted to employees
and consultants were $9.4 million and $24.5 million for the nine months ended
September 30, 2001 and 2000, respectively.
SALES AND MARKETING EXPENSES
Sales and marketing expenses were $13.4 million and $17.2 million for
the three months ended September 30, 2001 and 2000, respectively. This
represents a decrease of $3.8 million or 22%. This primarily resulted from
decreased non-cash charges related to the issuance of stock options to employees
and consultants. Non-cash charges related to stock options granted to employees
and consultants were $2.0 million and $5.5 million for the three months ended
September 30, 2001 and 2000, respectively.
For the nine months ended September 30, 2001 and 2000, sales and
marketing expenses were $48.2 million, after reclassifying $0.2 million of
expense to restructuring charges, and $33.4 million, respectively. This
represents an increase of $14.8 million or 44%. This primarily resulted from
increased salary and related employee expenses, facilities costs and marketing
programs. Non-cash charges related to stock options granted to employees and
consultants and the amortization of warrants granted to a customer that became
bankrupt in May 2001 were $11.5 million and $10.5 million for the nine months
ended September 30, 2001 and 2000, respectively.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses were $5.9 million and $6.0 million
for the three months ended September 30, 2001 and 2000, respectively. General
and administrative expenses remained even when compared with the same period of
2000. General and administrative non-cash charges related to stock options
granted to employees and consultants were $1.4 million and $3.3 million for the
three months ended September 30, 2001 and 2000, respectively.
For the nine months ended September 30, 2001 and 2000, general and
administrative expenses were $19.5 million, after reclassifying $1.1 million of
expense to restructuring charges, and $14.3 million, respectively, this was an
increase of $5.2 million or 37%. This primarily resulted from increased salary
and related employee expenses, professional and other outside services,
depreciation and insurances offset by decreased non-cash charges related to the
issuance of stock options to
PAGE 12 OF 24
employees and consultants. Non-cash charges related to stock options granted to
employees and consultants were $5.0 million and $7.9 million for the nine months
ended September 30, 2001 and 2000, respectively.
RESTRUCTURING CHARGES
In April and September of 2001 CoSine's senior management approved
restructuring plans to reduce our worldwide workforce, close certain sales
offices, exit certain facilities and idle certain capital equipment. Employees
affected by the April 2001 plan were notified and terminated in April 2001. With
respect to the September 2001 plan, notification was given to employees on
September 28, 2001 that certain job functions would be eliminated and that
particular termination benefits would be paid to affected employees. The
restructuring programs were implemented to reduce the level of operating
expenses and conserve cash. For the three months ended September 30, 2001
restructuring charges were $7.0 million. For the nine months ended September 30,
2001 restructuring charges were $9.0 million after reclassifying $0.7 million
from research and development expenses, $0.2 million from sales and marketing
expenses and $1.1 million from general and administrative expenses.
Details of the restructuring charges are as follows (in thousands):
PROVISION
CASH NON-CASH BALANCE AT
(Amounts are unaudited) CHARGES PAYMENTS CHARGES QUARTER END
------- -------- -------- -----------
THREE MONTHS ENDED JUNE 30, 2001
Worldwide workforce reduction $1,989 $1,989 $ -- $ --
------ ------ ------ ------
THREE MONTHS ENDED SEPTEMBER 30, 2001
Worldwide workforce reduction 1,507 -- -- 1,507
Write-down of capital equipment
held for disposal 4,593 -- 4,593 --
Lease commitments and other 902 -- -- 902
------ ------ ------ ------
Total 7,002 -- 4,593 2,409
------ ------ ------ ------
NINE MONTHS ENDED SEPTEMBER 30, 2001 $8,991 $1,989 $4,593 $2,409
====== ====== ====== ======
As a result of the workforce reductions, approximately 55 employees
were terminated in the second quarter, and approximately 50 employees were
designated for termination in the third quarter restructuring plan and were then
terminated in the fourth quarter. The employees in both workforce reductions
were from all functional groups and were primarily located in our Redwood City
offices. Certain capital equipment has been idled and will be disposed of as a
result of the September 2001 restructuring plan and has been written down to its
expected realizable value. Future savings and decreased depreciation of capital
equipment are expected to amount to approximately $8.0 million per quarter,
starting in the first quarter of 2002 when compared to the second quarter of
2001.
Cash expenditures relating to the workforce reduction that was charged
to operations in the third quarter will be substantially paid out during the
fourth quarter of 2001. Amounts related to lease commitments will be paid out
over the respective lease terms through mid-2002.
INTEREST AND OTHER INCOME
For the three months ended September 30, 2001, interest and other
income was $2.1 million, an increase of $0.4 million from the comparable period
in 2000. For the nine months ended September 30, 2001, interest and other income
was $9.1 million, an increase of $5.4 million from the comparable period in
2000. This reflects increased interest income due to higher levels of cash and
short-term investments as a result of cash received from our September 2000
initial public offering and the private placement of series E convertible
preferred stock in May of 2000.
INTEREST EXPENSE
For the three months ended September 30, 2001, interest expense was
$0.4 million compared with $0.6 million of interest expense in the comparable
period of 2000. For the nine months ended September 30, 2001, interest expense
was $1.3 million compared with $1.4 million of interest expense in 2000.
INCOME TAX PROVISION
The provision for income taxes of $0.1 million and $0.7 million for the
three and nine months ended September 30, 2001, respectively was comprised
entirely of foreign corporate income taxes. These taxes are a function of
operating our subsidiaries in various countries. The provision for income taxes
is based on income taxes on minimum profits the foreign operations generated for
services provided to the U. S. parent company.
DEEMED DIVIDEND
In March 2000, we sold 625,000 shares of series D redeemable
convertible preferred stock at $8.00 per share for which we received proceeds of
$5.0 million. At the date of issuance, we believed that the per share price of
$8.00 represented the fair value of the preferred stock. After our initial
public offering process began, we reevaluated and increased the fair value of
our common stock at March 2000. The increase in fair value resulted in a
beneficial conversion feature of $2.5 million, which we recorded as a deemed
dividend to preferred stockholders in 2000. We recorded the deemed dividend at
the date of issuance by offsetting charges and credits to stockholders' equity.
The preferred stock dividend increased the net loss allocable to common
stockholders in the calculation of basic and diluted net loss per common share
for the nine months ended September 30, 2000.
LIQUIDITY AND CAPITAL RESOURCES
Prior to our initial public offering in September 2000, we financed our
operations primarily through sales of convertible preferred stock for net
proceeds of $166.6 million, plus equipment and working capital loans and capital
leases.
PAGE 13 OF 24
Upon the closing of our initial public offering on September 29, 2000, we
received cash proceeds, net of underwriters' discounts and offering expenses,
totaling $242.5 million, and all of our convertible preferred stock was
converted into 69.6 million shares of common stock.
We believe that we possess sufficient liquidity and capital resources
to fund our operating and working capital requirements for at least the next 12
months. We may require additional funds to support other purposes and may seek
to raise these additional funds through debt or equity financing or from other
sources. There can be no assurances that additional funding will be available at
all, or that if available, such financing will be obtainable on terms favorable
to us.
CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
At September 30, 2001, cash, cash equivalents and short-term
investments were $193.5 million. This compares with $288.3 million at December
31, 2000.
OPERATING ACTIVITIES
We used $74.6 million and $50.5 million in cash for operations for the
nine months ended September 30, 2001 and 2000, respectively. The increase in
cash used was primarily the result of higher operating expenses due to
additional headcount and related employee expenses, and increased costs of
information technology, facilities, product development, marketing and
professional services related to the expansion of our business.
INVESTING ACTIVITIES
For the nine months ended September 30, 2001 and 2000, we provided
$40.3 million and used $43.4 million, respectively, in cash from investing
activities. This reflects an increase of $77.5 million for net proceeds from the
sale of short-term investments offset by a decrease in capital expenditures of
$6.2 million.
FINANCING ACTIVITIES
For the nine months ended September 30, 2001, $3.9 million in cash was
used in financing activities and for the comparable period of 2000 $331.8
million was provided. The change primarily reflects the issuance of preferred
stock and common stock in 2000 of $77.4 million and $245.5 million,
respectively.
OUTLOOK
We believe that the long-term growth outlook (two to five years) for
capital spending in the telecommunications industry will recover. However, due
to reductions in capital spending commitments by our customers and uncertainty
within the telecommunications industry, the current and short-term outlook (up
to two years) for growth is not optimistic. The lack of capital availability for
many emerging service providers combined with the emphasis of larger service
providers on reducing operating expenses, has caused a significant reduction in
capital spending in the industry as a whole. While we believe this is a
short-term (up to two years) phenomenon, it has had and will continue to have a
direct impact on our operations for at least the current fiscal year. We
anticipate that these capital spending trends will continue to adversely affect
our revenue growth substantially for at least the current fiscal year. This is
evidenced by a slowdown in bookings coupled with our decision not to ship
product to customers that represent unsuitable credit risks. As capital
continues to be scarce, we believe that pricing will continue to be under
pressure as each potential customer attempts to improve returns on capital.
RISK FACTORS
The following discussion describes certain risk factors related to our
business as well as to our industry in general.
WE HAVE A HISTORY OF LOSSES THAT WE EXPECT WILL CONTINUE, AND IF WE NEVER
ACHIEVE PROFITABILITY WE MAY CEASE OPERATIONS.
At September 30, 2001, we had an accumulated deficit of $326.1 million.
We have incurred net losses since our incorporation. We cannot be certain that
our revenue will grow or that we will generate sufficient revenue to become
profitable. If we do not achieve profitability, we may cease operations.
PAGE 14 OF 24
We have incurred significant expenses in the past. For example, for the
nine months ended September 30, 2001, we incurred operating expenses of $128
million. Although we cannot quantify the amount, we expect expenses to continue
to be substantial and to continue to incur losses.
DUE TO OUR LOSS MAKING ACTIVITY WE COULD LOSE MAJOR OPPORTUNITIES WITH LARGE
SERVICE PROVIDERS WHO ARE CONCERNED WITH OUR LONG-TERM FINANCIAL VIABILITY.
Many large telecommunications service providers purchase capital
equipments from vendors with a history of successful operations including
positive cash flow. Our history of losses and use of cash in operations may
cause certain service providers to decide not to purchase our equipment because
of concerns regarding our long-term financial viability and our ability to
support their businesses. Unless we can generate positive cash flows by either
increasing revenue and/or decreasing costs, concerns regarding our long-term
financial viability may cause some potential customers to purchase product from
other larger, more established suppliers including Cisco Systems, Lucent
Technologies, and Nortel Networks.
THE GROWTH OUTLOOK FOR CAPITAL SPENDING IN THE TELECOMMUNICATIONS INDUSTRY
DIRECTLY AFFECTS OUR BUSINESS.
Due to reductions in capital spending commitments by our customers and
uncertainty within the telecommunications industry, the current and short-term
outlook for growth is not favorable. Capital spending in the industry as a whole
has slowed as a result of a lack of available capital for many emerging service
providers and a generally cautious approach to capital spending within the
industry.
While we believe this is a short-term phenomenon,we anticipate that
these capital spending trends will continue to adversely affect our revenue
growth dramatically for at least the current fiscal year and next fiscal year.
THE LIMITED SALES HISTORY OF OUR IP SERVICE DELIVERY PLATFORM MAKES FORECASTING
OUR REVENUE DIFFICULT, WHICH MAY IMPAIR OUR ABILITY TO MANAGE OUR BUSINESS.
We were founded in April 1997, shipped our first test IP service
delivery platform product in March 1999, and sold our first IP service delivery
platform product in March 2000. We have limited meaningful historical financial
data upon which to forecast our revenue.
IF OUR CUSTOMERS ARE UNABLE TO GENERATE SALES OF SERVICES DELIVERED USING OUR
PRODUCTS AND TO MANAGE DELIVERY OF THESE SERVICES TO THEIR CUSTOMERS, WE MAY BE
UNABLE TO SELL OUR PRODUCTS.
Our future success depends on network service providers, who are our
customers, generating revenue from the sale of services delivered using our
products. Sales of our products may decline or be delayed if our customers do
not successfully introduce commercial services derived from our IP service
delivery platform or if our customers do not generate revenue from these
services sufficient to realize an attractive return on their investment in our
IP service delivery platform.
Our ability to generate future revenue also depends on whether network
service providers successfully forecast market trends and identify the services
and features that our products should offer their customers.
IF OUR IP SERVICE DELIVERY PLATFORM DOES NOT RAPIDLY ACHIEVE MARKET ACCEPTANCE,
WE MAY BE UNABLE TO ACHIEVE PROFITABILITY.
Our products offer a new approach for delivering services by network
service providers, which may perceive our products as being more expensive than
the other technologies and products they purchase. If network service providers
do not accept our IP service delivery platform as a method for delivering
services to their customers, our ability to increase our revenue, achieve
profitability and continue operations would be harmed. Our success also depends
on third-party software providers recognizing the advantages of our service
delivery method and on our ability to effectively support their software
development efforts.
OUR IP SERVICE DELIVERY PLATFORM IS OUR ONLY PRODUCT LINE, AND OUR FUTURE
REVENUE DEPENDS ON ITS COMMERCIAL SUCCESS.
Our service delivery platform, which is comprised of hardware and software
elements, is the only product that we currently offer to our customers. Our
future revenue depends on the commercial success of our IP service delivery
platform product line. If customers do not adopt, purchase and successfully
implement our IP service delivery platform in large numbers, our revenue will
not grow.
PAGE 15 OF 24
OUR PRODUCTS ARE TECHNICALLY COMPLEX AND MAY CONTAIN ERRORS OR DEFECTS THAT ARE
NOT FOUND UNTIL OUR CUSTOMERS PUT OUR PRODUCTS TO FULL USE. ERRORS OR DEFECTS IN
OUR PRODUCTS COULD SERIOUSLY HARM OUR REPUTATION AND OUR ABILITY TO SELL OUR
PRODUCTS.
Our products are more complicated than most networking products. They
can be adequately tested only when put to full use in very large and diverse
networks with high amounts of traffic. Because none of our customers has put our
products to full use, we are unable to assess the likelihood or magnitude of
this risk. Errors or defects in our products could result in:
o loss of current customers and failure to attract new customers or
achieve market acceptance; and
o increased service and warranty costs.
THE LONG SALES CYCLE FOR OUR PLATFORM, AS WELL AS THE EXPECTATION THAT CUSTOMERS
WILL SPORADICALLY PLACE LARGE ORDERS, MAY CAUSE OUR REVENUE AND OPERATING
RESULTS TO VARY SIGNIFICANTLY FROM QUARTER TO QUARTER, AND THE PRICE OF OUR
STOCK TO DECLINE.
A customer's decision to purchase our IP service delivery platform
involves a significant commitment of its resources and a lengthy evaluation,
testing and product qualification process. Network service providers and other
customers with complex networks usually expand their networks in large
increments on a periodic basis. We may receive purchase orders for significant
dollar amounts on an irregular and unpredictable basis. These events may cause
our revenue and operating results to vary significantly and unexpectedly from
quarter to quarter, which could cause our stock price to decline.
IF WE FAIL TO DEVELOP NEW PRODUCTS OR FEATURES, WE WILL HAVE DIFFICULTY
ATTRACTING CUSTOMERS.
Based on our prior experience, we expect that our customers will
require product features that our current IP service delivery platform does not
have. Our products are technically complex, and the development of new products
or features is an uncertain, time-consuming and labor-intensive process. We may
experience design, manufacturing or marketing problems with new products. If we
fail to develop new or enhanced products that meet customer requirements, our
ability to attract and retain customers will be hindered.
If we fail to execute new product introductions in a timely manner we
may experience erratic revenue growth, which could negatively affect
profitability and in turn have a negative impact on the value of our stock
price. In addition, such a failure could cause additional costs such as excess
inventory, customer conversion costs, higher than expected product costs and
higher than expected operating expenses in research and development and sales
and marketing.
WE RELY UPON A LIMITED NUMBER OF CUSTOMERS, AND ANY DECREASE IN REVENUE FROM
THESE CUSTOMERS OR FAILURE TO INCREASE OUR CUSTOMER BASE COULD HARM OUR
OPERATING RESULTS.
The loss of one or more of our customers, a reduction in purchases of
our products by our customers or the decline of our customers' business may
limit our revenue growth and harm our operating results. Our customers may
generally reduce or discontinue purchases of our products at any time.
Our future success will depend on attracting additional customers.
Failure to increase our customer base would hinder our growth and harm our
operating results.
IF WE DO NOT EFFECTIVELY MANAGE OUR GROWTH, OUR OPERATIONS WILL SUFFER.
The growth of our operations places a significant strain on our
management systems and resources. If we do not effectively manage our growth and
improve our financial and managerial controls and systems, we may be unable to
provide adequate service and support to our customers and our operations will
suffer.
IF WE FAIL TO RETAIN KEY MANAGEMENT OUR OPERATION COULD SUFFER AND OUR STOCK
PRICE MAY BE NEGATIVELY IMPACTED.
Maintaining key management personnel may be difficult for a number of
reasons including but not limited to market demand, stock price, growth
opportunities, management philosophy, company performance and competitive
activity. If we lose key management personnel we may find it difficult and
costly to recruit new management and this may have a negative affect on our
company performance and in turn on our stock price.
PAGE 16 OF 24
A FAILURE OF OUR CONTRACT MANUFACTURERS OR OUR SOLE SOURCE AND LIMITED SOURCE
SUPPLIERS TO MEET OUR NEEDS WOULD SERIOUSLY HARM OUR ABILITY TO TIMELY FILL
CUSTOMER ORDERS.
If any of our manufacturers terminates its relationship with us or is
unable to produce sufficient quantities of our products in a timely manner and
at satisfactory quality levels, our ability to fill customer orders on time, our
reputation and our operating results will suffer. Our contract manufacturers do
not have a long-term obligation to supply products to us. Qualifying new
contract manufacturers and starting volume production is expensive and time
consuming and would disrupt our business.
We purchase several key components, including field programmable gate
arrays, some integrated circuits and memory devices, and power supplies from a
single source or limited sources. We do not have long-term supply contracts for
these components. If our supply of these components is interrupted, we may be
unable to locate an alternate source in a timely manner or at favorable prices.
Interruption or delay in the supply of these components could cause us to lose
sales to existing and potential customers.
IF ANY OF OUR SIGNIFICANT SUPPLIERS WERE TO TERMINATE THEIR RELATIONSHIPS WITH
US OR COMPETE AGAINST US, OUR REVENUE AND MARKET SHARE WILL LIKELY BE REDUCED.
Many of our suppliers also have significant development and marketing
relationships with our competitors and have significantly greater financial and
marketing resources than we do. If they develop and market products in the
future in competition with us, or form or strengthen arrangements with our
competitors, our revenue and market share will likely be reduced.
IF WE FAIL TO PREDICT OUR MANUFACTURING REQUIREMENTS ACCURATELY, WE COULD INCUR
ADDITIONAL COSTS OR MANUFACTURING DELAYS.
We provide forecasts of our demand to our contract manufacturers up to
twelve months before scheduled delivery of products to our customers. If we
overestimate our manufacturing requirements, our contract manufacturers may have
excess or obsolete inventory, which would harm our operating results if we were
required to purchase the excess or obsolete inventory. If we underestimate our
requirements, our contract manufacturers may have an inadequate inventory, which
could interrupt manufacturing of our products and result in delays in shipments
and revenue. If we do not accurately anticipate lead times for components, we
may experience component shortages.
IF NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY ARE TERMINATED OR BECOME
UNAVAILABLE OR TOO EXPENSIVE, OUR COMPETITIVE POSITION AND OUR PRODUCT OFFERING
WILL SUFFER.
We license from third-party suppliers several key software applications
incorporated in our IP service delivery platform. We will be required to license
technology from other third-party suppliers to enable us to develop new products
or features. Our inability to renew or obtain any third-party license that we
need could require us to obtain substitute technology of lower quality or at
greater cost. Either of these outcomes could seriously impair our ability to
sell our products and harm our operating results.
INSIDERS CONTINUE TO HAVE SUBSTANTIAL CONTROL OVER US AND THEY COULD DELAY OR
PREVENT A CHANGE IN OUR CORPORATE CONTROL EVEN IF OUR OTHER STOCKHOLDERS WANTED
IT TO OCCUR.
Our executive officers, directors and principal stockholders who hold
5% or more of the outstanding common stock and their affiliates beneficially own
a significant portion of our outstanding common stock. These stockholders will
be able to exercise significant control over all matters requiring stockholder
approval, including the election of directors and approval of significant
corporate transactions. This could delay or prevent an outside party from
acquiring or merging with us even if our other stockholders wanted it to occur.
POWER SUPPLY PROBLEMS IN CALIFORNIA COULD HARM OUR BUSINESS.
Our corporate headquarters, our research and development activities,
other critical business operations and the majority of our suppliers are located
in California. Earlier this year, California experienced power shortages, which
resulted in "rolling blackouts." If blackouts were to recur, they could cause
disruptions to our operations and the operations of our
PAGE 17 OF 24
suppliers and customers. Losses incurred for these types of outages are not
covered under CoSine's insurance policies. In addition, California has
experienced rising energy costs which could negatively impact our results.
WE PARTICIPATE IN SEVERAL HIGHLY COMPETITIVE MARKETS, AND OUR FAILURE TO COMPETE
SUCCESSFULLY WOULD LIMIT OUR ABILITY TO INCREASE OUR MARKET SHARE AND HARM OUR
BUSINESS.
Competition in the network infrastructure market is intense, and we
expect that competition in the market for IP networking services will also be
intense. If we are unable to compete effectively, our revenue and market share
will be reduced.
We face competition from:
o companies in the network infrastructure market, including Cisco
Systems, Lucent Technologies, Nortel Networks, Alcatel, Ericsson and
Siemens; and
o companies, including Cisco, that market products for installation on
the premises of network service providers' customers and which offer
some services that compete with the services delivered using our IP
service delivery platform.
We believe that there is likely to be consolidation in this industry.
We expect to face increased competition from larger companies with significantly
greater resources than we have.
Some of these larger competitors have pre-existing relationships
involving a range of product lines with the network service providers who are
the principal potential customers for our IP service delivery platform. These
competitors may offer vendor financing, which we generally do not offer,
undercut our prices or use their pre-existing relationships with our customers
to induce them not to use our IP service delivery platform.
IF WE BECOME SUBJECT TO UNFAIR HIRING CLAIMS, WE COULD BE PREVENTED FROM HIRING
NEEDED PERSONNEL, OR FROM PURSUING OR IMPLEMENTING OUR RESEARCH, AND COULD INCUR
SUBSTANTIAL LIABILITIES OR COSTS.
Companies in our industry whose employees accept positions with
competitors frequently claim that these competitors have engaged in unfair
hiring practices or that the employment of these persons would involve the
disclosure or use of trade secrets. We have been threatened with claims like
these in the past and may receive claims of this kind in the future. These
claims could prevent us from hiring personnel or from using the intellectual
property alleged to be trade secrets brought to us by the personnel that we
hired. We could also incur substantial costs and damages in defending ourselves
or our employees against these claims, regardless of their merits. Defending
ourselves from these claims could divert the attention of our management away
from our operations.
IF OUR PRODUCTS DO NOT WORK THE WAY OUR CUSTOMERS EXPECT, ORDERS FOR OUR
PRODUCTS MAY BE CANCELLED AND THE MARKET PERCEPTION OF OUR PRODUCTS COULD BE
HARMED.
If our products do not work with our customers' or their end users'
networks, the market perception of our products could be harmed and orders for
our products could be cancelled. In particular, if an actual or perceived breach
of network security occurs in a customer's or its end-user's network that uses
our products, we may be subject to lawsuits for losses suffered by customers or
their end-users.
If we have to redesign or modify our products to make them compatible
with a customer's or end user's network, our sales cycle could be extended, our
research and development expenses may increase, and profit margins on our
products may be reduced.
BECAUSE THE MARKETS IN WHICH WE COMPETE ARE PRONE TO RAPID TECHNOLOGICAL CHANGE
AND THE ADOPTION OF STANDARDS DIFFERENT FROM THOSE THAT WE USE, OUR PRODUCTS
COULD BECOME OBSOLETE, AND WE COULD BE REQUIRED TO INCUR SUBSTANTIAL EXPENSES TO
MODIFY OUR PRODUCTS TO REMAIN COMPETITIVE.
The market for our IP service delivery platform is prone to rapid
technological change, the adoption of new standards, frequent new product
introductions and changes in customer and end user requirements. We may be
unable to respond quickly or effectively to these developments. We may
experience difficulties that could prevent our development of new products and
features. The introduction of new products or technologies by competitors, or
the emergence of new industry standards could render our products obsolete or
could require us to incur expenses to redesign our products.
PAGE 18 OF 24
WE RELY ON OUR INTELLECTUAL PROPERTY RIGHTS TO BE COMPETITIVE, AND IF WE ARE
UNABLE TO PROTECT THESE RIGHTS, WE MAY NEVER BECOME PROFITABLE.
We rely on a combination of copyright, trademark, patent and trade
secret laws and restrictions on disclosure to protect our intellectual property
rights. Monitoring unauthorized use of our products is difficult, and we cannot
be certain that the steps we have taken will prevent unauthorized use of our
technology. If we are unable to protect our intellectual property rights, our
ability to supply our products as they have been designed could suffer, and our
ability to become profitable could be harmed.
IF WE BECOME INVOLVED IN AN INTELLECTUAL PROPERTY DISPUTE, WE COULD BE SUBJECT
TO SIGNIFICANT LIABILITY, THE TIME AND ATTENTION OF OUR MANAGEMENT COULD BE
DIVERTED AND WE COULD BE PREVENTED FROM SELLING OUR PRODUCTS.
We may become a party to litigation in the future to protect our
intellectual property or because others may allege infringement of their
intellectual property. These claims and any resulting lawsuit could subject us
to significant liability for damages or invalidate our proprietary rights. These
lawsuits, regardless of their merits, likely would be time-consuming and
expensive to resolve and would divert management time and attention. Any
potential intellectual property litigation alleging our infringement of a
third-party's intellectual property also could force us to:
o stop selling our products or services that use the challenged
intellectual property;
o obtain from the owner of the infringed intellectual property right a
license to sell the relevant technology, which license may not be
available on reasonable terms, or at all; and
o redesign those products or services that use the infringed
technology.
OUR STOCK PRICE HAS RECENTLY BEEN BELOW $1.00, WHICH COULD LEAD TO OUR BEING
DELISTED FROM THE NASDAQ.
Our stock price has been below $1.00 for most of the past two months.
If the stock price does not remain over $1.00 within the time frame specified by
NASDAQ listing rules, our stock may be delisted. We believe that delisting our
stock would have negative effects on liquidity and on the value of the stock.
Although the NASDAQ has temporarily suspended the listing rule, we cannot be
assured that it will not be reinstated.
ACTS OF WAR, TERRORIST ACTIVITY, AND BIO-TERRORISM CAN HAVE A NEGATIVE EFFECT ON
THE DEMAND FOR OUR PRODUCTS.
The terrorist activity on September 11, 2001 and the ensuing
declaration of war on terrorism may result in reduced demand for networking
products. Capital spending in the telecommunications industry was already
depressed prior to the tragedy, and additional news regarding war and terrorism
may negatively impact the demand for our products. These circumstances may
result in delayed purchases, cancelled orders and new technology requirements,
which could lead to reduced revenues or increased costs, which in turn could
negatively affect our stock price.
PAGE 19 OF 24
ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE SENSITIVITY
We do not currently use derivative financial instruments for
speculative trading or hedging purposes. In addition, we maintain our cash
equivalents in government and agency securities, debt instruments of financial
institutions and corporations and money market funds. Our exposure to market
risks from changes in interest rates relates primarily to corporate debt
securities. We place our investments with high credit quality issuers and, by
policy, limit the amount of the credit exposure to any one issuer.
Our general policy is to limit the risk of principal loss and ensure
the safety of invested funds by limiting market and credit risk. All highly
liquid investments with a maturity of less than three months at the date of
purchase are considered to be cash equivalents, and all investments with
maturities of three months or greater are classified as available-for-sale and
considered to be short-term investments.
EXCHANGE RATE SENSITIVITY
Currently, all of our sales and most of our expenses are denominated in
United States dollars. Therefore, we have not engaged in any foreign exchange
hedging activities to date. However, we expect to conduct transactions in
foreign currencies in increasing volumes in the future, and as a result we may
engage in foreign exchange hedging activities.
PAGE 20 OF 24
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) On September 25, 2000, in connection with our initial public
offering, a Registration Statement on Form S-1 (File No. 333-35938)
was declared effective by the Securities and Exchange Commission,
pursuant to which 11,500,000 shares of our common stock were
offered and sold for our account at a price of $23 per share,
generating gross offering proceeds of $264.5 million. The managing
underwriters were Goldman, Sachs & Co., Chase Securities Inc.,
Robertson Stephens, Inc. and JP Morgan Securities Inc. Our initial
public offering closed on September 29, 2000. The net proceeds of
the initial public offering were approximately $242.5 million after
deducting approximately $18.5 million in underwriting discounts and
approximately $3.5 million in other offering expenses.
We did not pay directly or indirectly any of the underwriting
discounts or other related expenses of the initial public offering
to any of our directors or officers, any person owning 10% or more
of any class of our equity securities, or any of our affiliates.
We have not yet used all the funds from the initial public
offering. We expect to use the net proceeds from the initial public
offering for general corporate purposes, including working capital,
expansion of our sales and marketing organization and capital
expenditures. We may also use a portion of the net proceeds from
this offering to acquire or invest in businesses, technologies or
products that are complementary to our business. We currently have
no commitments or agreements with respect to any acquisitions or
investments. We have not determined the amounts we plan to spend on
any of the uses described above or the timing of these
expenditures. Pending our use of the net proceeds, we intend to
invest them in short-term, interest-bearing, investment-grade
securities.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
See exhibit index on page 23.
(b) Reports on Form 8-K.
None.
PAGE 21 OF 24
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
COSINE COMMUNICATIONS, INC.
By: /s/ Craig B. Collins
---------------------------------
Craig B. Collins
Chief Financial Officer and
Executive Vice President
(Principal Financial and Accounting
Officer)
Dated: November 2, 2001
PAGE 22 OF 24
EXHIBIT INDEX
Exhibit Number Description
-------------- -----------
3.1* Second Amended and Restated Certificate of Incorporation (incorporated by
reference to Exhibit 3.2 to Form 8A (file no. 000-30715) filed May 26, 2000).
3.2* Bylaws (incorporated by reference to Exhibit 3.3 to Form 8A (file no. 000-30715)
filed May 26, 2000).
3.3* First Amendment to Bylaws dated April 30, 2001 (incorporated by reference to
Exhibit 3.3 to Form 10-Q filed August 13, 2001).
10.1* Form of Indemnification Agreement entered into by the Registrant with each of
its directors and officers (incorporated by reference to Exhibit 10.1 of
Amendment No. 1 to Registration Statement on Form S-1 filed June 6, 2000).
10.2* 2000 Stock Plan and forms of agreements thereunder (incorporated by reference to
Exhibit 10.2 of Amendment No. 1 to Registration Statement on Form S-1 filed June
6, 2000).
10.3* 2000 Employee Stock Purchase Plan and forms of agreements thereunder
(incorporated by reference to Exhibit 10.3 of Amendment No. 1 to Registration
Statement on Form S-1 filed June 6, 2000).
10.4* 2000 Director Option Plan and forms of agreements thereunder (incorporated by
reference to Exhibit 10.4 of Amendment No. 1 to Registration Statement on Form
S-1 filed June 6, 2000).
10.5* 1997 Stock Plan (as amended and restated) and forms of agreements thereunder
(incorporated by reference to Exhibit 10.5 of Registration Statement on Form S-1
filed April 28, 2000).
10.6* Third Amended and Restated Investors' Rights Agreement (incorporated by
reference to Exhibit 10.6 of Amendment No. 1 to Registration Statement on Form
S-1 filed June 6, 2000).
10.7* Master Equipment Lease Agreement between the Registrant and Relational Funding
Corporation dated as of February 1, 2000 (incorporated by reference to Exhibit
10.7 of Amendment No. 1 to Registration Statement on Form S-1 filed June 6,
2000).
10.8* Loan and Security Agreement between Registrant and Venture Lending and Leasing
II, Inc. dated as of September 21, 1998 (incorporated by reference to Exhibit
10.8 of Amendment No. 1 to Registration Statement on Form S-1 filed June 6,
2000).
10.9* Amended and Restated Supplement between Registrant and Venture Lending and
Leasing II, Inc. dated as of October 21, 1998 (incorporated by reference to
Exhibit 10.9 of Amendment No. 1 to Registration Statement on Form S-1 filed June
6, 2000).
10.10* Master Loan and Security Agreement between Registrant and Finova Capital
Corporation date as of May 19, 1999 (incorporated by reference to Exhibit 10.10
of Amendment No. 1 to Registration Statement on Form S-1 filed June 6, 2000).
10.11* Loan and Security Agreement between Registrant and Silicon Valley Bank dated as
of May 29, 1998 (incorporated by reference to Exhibit 10.11 of Amendment No. 1
to Registration Statement on Form S-1 filed June 6, 2000).
10.12* Loan Modification Agreement between Registrant and Silicon Valley Bank dated as
of June 22, 1998 (incorporated by reference to Exhibit 10.12 of Registration
Statement on Form S-1 filed April 28, 2000).
PAGE 23 OF 24
Exhibit Number Description
-------------- -----------
10.13* Loan and Security Agreement between Registrant and Silicon Valley Bank dated as
of September 30, 1999 (incorporated by reference to Exhibit 10.13 of Amendment
No. 1 to Registration Statement on Form S-1 filed June 6, 2000).
10.14* Building Lease Agreement between Registrant and Westport Joint Venture dated as
of May 26, 1998 (incorporated by reference to Exhibit 10.14 of Amendment No. 1
to Registration Statement on Form S-1 filed June 6, 2000).
10.15* Amendment No. 1 to Lease between Registrant and Westport Joint Venture dated as
of September 9, 1999 (incorporated by reference to Exhibit 10.15 of Registration
Statement on Form S-1 filed April 28, 2000).
10.16* Building Lease Agreement between Registrant and Westport Joint Venture dated as
of September 20, 1999 (incorporated by reference to Exhibit 10.16 of Amendment
No. 1 to Registration Statement on Form S-1 filed June 6, 2000).
10.17* Sublease between Registrant and Liberate Technologies dated as of June 28, 2000
(incorporated by reference to Exhibit 10.17 of Amendment No. 4 to Registration
Statement on Form S-1 filed September 5, 2000).
* Previously filed.
PAGE 24 OF 24