1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[Mark One]
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the Quarterly Period Ended June 30, 1998
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: 000-6377
DREXLER TECHNOLOGY CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 77-0176309
------------------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1077 Independence Avenue, Mountain View, CA 94043-1601
- ------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(650) 969-7277
---------------------------------------------------
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. [X] Yes [ ] No
Number of outstanding shares of Common Stock, $.01 par value,
at August 6, 1998: 9,721,397
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
The condensed consolidated financial statements included herein have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission. 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, although the Company believes the
disclosures which are made are adequate to make the information presented not
misleading. Further, the condensed consolidated financial statements reflect, in
the opinion of management, all adjustments (which included only normal recurring
adjustments) necessary to present fairly the financial position and results of
operations as of and for the periods indicated.
It is suggested that these condensed consolidated financial statements be
read in conjunction with the financial statements and the notes thereto for the
year ended March 31, 1998 included in the Company's Form 10-K Annual Report.
The results of operations for the three months ended June 30, 1998 are not
necessarily indicative of results to be expected for the entire year ending
March 31, 1999.
Fiscal Period: For purposes of presentation, the Company has indicated its
accounting period as ending on March 31 and its interim quarterly periods as
ending on the corresponding month end. The Company, in fact, operates and
reports quarterly periods ending on the Friday closest to month end. The 13-week
period presented as June 30, 1998 ended on July 3, 1998 and the 13-week period
presented as June 30, 1997 ended on June 27, 1997.
Net Income (Loss) per Share: The Company adopted Statement of Financial
Accounting Standard (SFAS) No. 128, "Earnings Per Share," during the 1998 fiscal
year. SFAS 128 requires the computation of basic and diluted earnings per share.
Basic earnings (loss) per share is computed using the weighted average number of
common shares outstanding. Diluted earnings per share for the three-month period
ended June 30, 1998 is computed using the weighted average number of shares of
common stock outstanding and the dilutive common stock equivalents (using the
treasury stock method). Diluted loss per share for the three-month period ended
June 30, 1997 equals basic loss per share, as the common stock equivalents were
anti-dilutive. Fiscal 1997 amounts have been restated in accordance with the
provisions of SFAS 128. The reconciliation of the numerators and denominators of
the basic and diluted earnings per share computation is as follows:
Income (Loss) Shares Per Share
(Numerator) (Denominator) Amount
------------- ------------- ---------
(In thousands) (In thousands)
For three months ended June 30, 1997
Basic and diluted loss per share
Income available to common stockholders ....... $ (158) 9,186 $(.02)
====== ====== =====
For three months ended June 30, 1998
Basic earnings per share
Income available to common stockholders ....... $ 975 9,693 $ .10
=====
Common shares issuable upon exercise of
stock options using treasury stock method .. -- 449
------ ------
Diluted earnings per share
Income available to common stockholders ....... $ 975 10,142 $ .10
====== ====== =====
Stock options representing 40,000 shares are excluded from the calculation
of diluted earnings per share for the three months ended June 30, 1998, as they
have an exercise price greater than the average market value for the period.
-2-
3
Recent Accounting Pronouncements:
SFAS 130: In June 1997, the Financial Accounting Standards Board (FASB)
issued SFAS 130, "Reporting Comprehensive Income," which becomes effective for
fiscal years beginning after December 15, 1997. In the quarter ended June 30,
1998, the Company adopted SFAS 130. For that quarter, comprehensive income
equalled net income.
SFAS 131: Also in June 1997, the FASB issued SFAS 131, "Disclosures about
Segments of an Enterprise and Related Information," which becomes effective for
fiscal years beginning after December 15, 1997. The adoption of SFAS 131 is not
expected to impact the Company's consolidated financial position or results of
operations.
SFAS 133: In June 1998, the FASB issued SFAS 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards for derivative instruments and hedging activities. The pronouncement
is effective for fiscal years beginning after June 15, 1999. The statement must
be applied to derivative instruments that were issued, acquired, or
substantively modified after December 31, 1997. The adoption of SFAS 133 is not
expected to impact the Company's consolidated financial position or results of
operations.
-3-
4
DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)
March 31, June 30,
1998 1998
--------- --------
(Audited) (Unaudited)
Assets
Current assets:
Cash and cash equivalents .......................................... $ 4,830 $ 5,617
Accounts receivable ................................................ 1,045 1,235
Inventories ........................................................ 1,470 1,435
Other current assets ............................................... 216 224
-------- --------
Total current assets ............................................ 7,561 8,511
-------- --------
Property and equipment, at cost ....................................... 15,122 15,553
Less--accumulated depreciation and amortization .................... (12,244) (12,384)
-------- --------
Property and equipment, net ..................................... 2,878 3,169
Patents, net .......................................................... 809 815
-------- --------
Total assets ................................................. $ 11,248 $ 12,495
======== ========
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable ................................................... $ 593 $ 586
Accrued payroll costs .............................................. 300 303
Advance payments from customers .................................... 463 178
Other accrued liabilities .......................................... 183 177
-------- --------
Total current liabilities ....................................... 1,539 1,244
-------- --------
Stockholders' equity:
Preferred stock, $.01 par value:
Authorized--2,000,000 shares
Outstanding--none ............................................... -- --
Common stock, $.01 par value:
Authorized--15,000,000 shares
Outstanding--9,640,747 shares at March 31, 1998 and
9,718,897 shares at June 30, 1998 ............................ 96 97
Additional paid-in capital ............................................ 35,330 35,896
Accumulated deficit ................................................... (25,717) (24,742)
-------- --------
Total stockholders' equity ...................................... 9,709 11,251
-------- --------
Total liabilities and stockholders' equity ................... $ 11,248 $ 12,495
======== ========
-4-
5
DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(In thousands, except per share amounts)
Three Months Ended
June 30,
1997 1998
------- -------
Revenues............................................................................. $1,489 $ 3,846
Costs and expenses:
Cost of sales .................................................................... 892 1,965
Selling, general, and administrative expenses .................................... 649 827
Research and engineering expenses ................................................ 111 134
------- -------
Total costs and expenses ...................................................... 1,652 2,926
------- -------
Operating income (loss) ...................................................... (163) 920
Other income and expense:
Other income (expense), net ...................................................... (23) 18
Interest income .................................................................. 30 71
Interest expense ................................................................. (2) (3)
------- -------
Total other income, net ....................................................... 5 86
------- -------
Income (loss) before income taxes ............................................ (158) 1,006
Provision for income taxes .......................................................... -- 31
------- -------
Net income (loss)............................................................. $ (158) $ 975
======= =======
Net income (loss) per share:
Basic ........................................................................ $ (.02) $ .10
Diluted....................................................................... $ (.02) $ .10
Weighted average number of common and common equivalent shares:
Basic ........................................................................ 9,186 9,693
Diluted ...................................................................... 9,186 10,142
-5-
6
DREXLER TECHNOLOGY CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
Three Months Ended
June 30,
1997 1998
------- -------
Cash flows from operating activities:
Net income (loss).................................................................... $ (158) $ 975
Adjustments to reconcile net income (loss) to
net cash used for operating activities:
Depreciation and amortization ..................................................... 140 176
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable ........................................ 33 (190)
(Increase) decrease in inventories ................................................ (512) 35
Increase in other assets .......................................................... (10) (8)
(Decrease) increase in accounts payable and accrued expenses ...................... 623 (10)
Decrease in advance payments from customers ....................................... (265) (285)
------- -------
Net cash provided by (used for) operating activities ............................ (149) 693
------- -------
Cash flows from investing activities:
Purchases of property and equipment .................................................. (551) (431)
Increase in patents .................................................................. (14) (42)
------- -------
Net cash used for investing activities .......................................... (565) (473)
------- -------
Cash flows from financing activities:
Proceeds from sale of common stock ................................................... 371 567
------- -------
Net cash provided by financing activities ....................................... 371 567
------- -------
Net increase (decrease) in cash and cash equivalents ............................ (343) 787
Cash and cash equivalents:
Beginning of period .................................................................. 2,916 4,830
------- -------
End of period......................................................................... $2,573 $ 5,617
======= =======
-6-
7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS--FISCAL 1999 FIRST QUARTER
COMPARED WITH FISCAL 1998 FIRST QUARTER
Revenues
For the fiscal 1999 first quarter ended June 30, 1998, the Company's total
revenues were $3,846,000 compared with $1,489,000 for last year's first quarter.
Product Sales. Sales of LaserCard(R) optical memory cards and related
products to value-added resellers (VARs), licensees, and end-user customers were
$3,838,000 for the first three months of fiscal 1999 versus $1,484,000 for last
year's comparable period.
The Company sold more than 900,000 optical memory cards for the fiscal 1999
first quarter compared with 234,000 for last year's first quarter. The increase
in sales between the two periods resulted primarily from shipments under United
States government orders received prior to fiscal 1999, totalling 4 million
optical memory cards. Deliveries under these U.S. government orders are expected
to continue at an average of approximately 200,000 to 250,000 cards per month
through December of 1998.
Applications for the Company's LaserCard products include: medical data
applications in the United States; various programs in Europe and Asia; several
programs in the Philippines--including an admission pass/retail purchase log at
a duty-free shopping zone and a vehicle warranty and maintenance records card;
and U.S. government-related programs, including the U.S. Department of Defense
"Automated Manifest" card, the U.S. Immigration and Naturalization Service
"Green Card," and the U.S. Department of State "Laser Visa" border crossing
card.
The Company utilizes VAR companies for the development of commercial markets
and applications for LaserCard products. Product sales to VARs include the
Company's optical memory cards, the Company's system software, and optical card
reader/writers made by a licensee of the Company, and may include add-on
peripherals made by other companies (such as equipment for adding a digitized
photo, fingerprint, hand template, or signature to the cards). The VARs may add
application software, personal computers, and other peripherals, and then resell
these products, integrated into data systems, for end-user customers.
There can be no assurances that any new or existing VAR company in any
country will be successful in its markets or field trials or that it will place
follow-on orders with the Company for additional quantities of cards and
systems. In order to upgrade its VAR customer base to increase the probability
of success, the Company will continue its efforts to recruit new VARs and
eliminate nonproductive ones. The Company provides marketing leads, customer
technical support, and system software to assist VARs.
Software is an important factor in developing the commercial markets for
optical memory cards. The Company's system software consists of optical card
interface software/device drivers, file systems, software development tools, and
demonstration software. The Company does not provide software for specific
applications, but instead depends on its VARs to integrate optical card products
into existing software products, write new application software for specific
optical card programs, or license software from other VARs. Several VARs have
written optical card software programs for applications such as automobile
warranty and maintenance records, cargo manifesting, digital optical key
systems, admissions/ID, data logging systems, and various medical-related
applications such as medical image storage and health history cards. Other
application software development is underway by VARs and their customers.
Optical memory cards are used in conjunction with card reader/writer
equipment connected to personal computers and accessed in the same manner as
floppy disk drives. Such reader/writers are sold to VARs and other customers of
the Company. The price, performance, and availability of such reader/writers are
factors in the commercialization of optical cards. The Company sells
reader/writers for a few thousand dollars per unit, and these units generally
include the Company's interface software/device drivers.
-7-
8
The Company does not manufacture card reader/writers but instead continues
to purchase such equipment from a Japanese licensee, Nippon Conlux Co., Ltd.,
currently the Company's sole supplier of reader/writers. The Company's inventory
level for reader/writers fluctuates from zero up to approximately 300 units
based on the timing of purchases and sales. If market demand increases sharply
over a short period of time, an initial shortage of reader/writers could result.
Also, an interruption or change in the supply of reader/writers could cause a
delay in both reader/writer and optical memory card shipments and a possible
loss of sales, which would adversely affect operating results.
License Revenues. There were no licenses sold in the fiscal 1999 or 1998
first quarters. The Company no longer relies on license fees to finance
operations.
Royalty Revenues. The Company cannot predict whether or when equipment or
card sales by its licensees will result in material royalties to the Company.
Therefore, the Company is not relying on royalty income and does not expect it
to be a significant factor in the near term.
Backlog
As of June 30, 1998, the backlog for LaserCard optical memory cards was
approximately $4.7 million. Deliveries are estimated to average approximately
200,000 to 250,000 cards per month through about December 1998. About 98% of the
backlog is for U.S. government orders; as is the case in all U.S. government
procurement, the government reserves the right to change specifications, delay
deliveries, and cancel all or part of the orders. On July 6, 1998, subsequent to
quarter end, the Company received a purchase order for a commercial,
non-government application in the amount of $2 million, covering 525,000 optical
memory cards and a quantity of reader/writers. Delivery is expected to occur
over a 12-month period.
Margins
The gross margin on product sales for the first quarter of fiscal 1999 was
49% compared with 40% for the prior-year period, due largely to the increase in
card sales volume. The gross margin can fluctuate with changes in product mix
between cards and card reader/writer equipment, which has lower product margins
than cards.
Income and Expenses
Selling, General, and Administrative Expenses (SG&A). For the fiscal 1999
first quarter, SG&A expenses were $827,000 compared with $649,000 for the first
quarter of fiscal 1997. The majority of the increases for the fiscal 1999 first
quarter is attributable to higher expenses for payroll, marketing, and customer
technical support activities. SG&A spending is expected to increase during
fiscal 1999 as compared with fiscal 1998, due to increased marketing and
customer technical support activities.
Research and Engineering Expenses. Research and engineering expenses were
$134,000 for the first quarter of fiscal 1999 compared with $111,000 for the
year-earlier period. Future projects will require increased spending as the
optical card industry grows.
Other Income and Expense. Total net other income for the first quarter of
fiscal 1999 was $86,000 compared with $5,000 for the fiscal 1998 first quarter.
The Company purchases Japanese yen for payment of reader/writers purchased from
a Japanese supplier. Thus, the Company's normal operations are subject to gains
or losses on fluctuations in the yen/dollar exchange rate. Net other income for
the fiscal 1999 first quarter included an $18,000 gain on foreign currency
exchange versus a $23,000 loss for the fiscal 1998 first quarter.
Interest income for the first quarter of fiscal 1999 was $71,000 compared
with $30,000 for last year's first quarter. The changes in interest income for
each period were due generally to changes in average invested funds. The
Company's interest expense on short-term loans was $3,000 for the fiscal 1999
first quarter compared with $2,000 for the fiscal 1998 first quarter.
-8-
9
LIQUIDITY
As of June 30, 1998, the Company had cash and cash equivalents of $5,617,000
and no long-term debt.
Net cash provided by operating activities was $693,000 during the first
three months of fiscal 1999 compared with $149,000 used for operating activities
during the first three months of fiscal 1998. The change was due mainly to the
increase in card sales, as discussed above.
The current level of revenues is sufficient to generate cash from operations
after expenses. Fluctuations in operating assets and liabilities will use cash
in some quarters and provide cash in other quarters. Losses could recur if U.S.
government orders decrease and there are delays in other customers' development
of optical-card-based programs and corresponding commercialization of the
Company's optical cards and related products.
The Company has not established a line of credit and has no current plans to
do so. The Company may negotiate a line of credit if and when it becomes
appropriate, although no assurance can be given that such financing would be
available, if needed.
As a result of the profit recorded for the first quarter of fiscal 1999, the
Company's accumulated deficit was reduced to $24,742,000 at June 30, 1998.
During the fiscal 1999 first quarter, stockholders' equity increased to
$11,251,000 because of the $975,000 quarterly profit and $567,000 received by
the Company for stock issued during the first quarter of fiscal 1999 under the
Employee Stock Purchase Plan and the 1991 Stock Option Plan.
The Company's total deferred income tax asset was $15,445,000 at March 31,
1998. If utilized, the total deferred income tax asset would reduce future tax
expense and payments. Included are amounts derived from federal income tax net
operating losses that will expire at various dates from 2001 through 2012,
amounts from state income tax net operating losses that will expire at various
dates from 1999 through 2002, and amounts from tax credits that will expire from
2000 through 2004, except for alternative minimum tax credits which have no
expiration. The ability of the Company to utilize this deferred tax asset is
contingent upon generating sufficient income within the stated time periods. In
view of the uncertain value of this asset, the Company has recorded a full
valuation allowance against it; therefore, no part of the total deferred tax
asset of $15,445,000 has been added to stockholders' equity on the Company's
balance sheet.
The Company is planning to install $1 million of capital equipment and
leasehold improvements in its card production facility by the end of September
1998. These assets are for the production of advanced optical cards with new
features and for manufacturing-process improvements and will result in a
production capacity of 8 million cards annually. Currently, the Company intends
to purchase production equipment incrementally as commercial orders for optical
memory cards justify increased production capacity to a rate of up to 25 million
cards per year. In addition to the investment used for expansion, the Company
also will make additional capital expenditures for cost savings, quality
improvements, and other purposes. The Company believes that for the next few
years, capital expenditures may average approximately $3 million per year for
card production equipment and automatic inspection equipment.
During the fiscal 1999 first quarter, Company employees and consultants
purchased from the Company 78,150 shares of registered common stock, at an
average price of $7.25 per share, through the exercise of stock options under
the Company's 1991 Stock Option Plan, which resulted in additional cash receipts
to the Company of $567,000. As of June 30, 1998, Company employees and
consultants held unexercised, vested, in-the-money options to purchase 465,750
shares of common stock at exercise prices ranging from $4.56 to $13.06 per
share, for a weighted average of $8.20 per share. These stock options, if
exercised, would provide the Company with cash in the amount of $3,818,000.
YEAR 2000 DISCLOSURE
To ensure that the Company's computer systems are Year 2000 compliant, the
Company has begun preparing for the Year 2000 issue. The Company has been
reviewing each of its financial and operating systems to identify those that
contain two-digit year codes. The Company is assessing the amount of programming
required to upgrade
-9-
10
or replace each of the affected programs, with the goal of completing all
relevant internal software remediation and testing by the end of calendar year
1998, with continuing Year 2000 compliance efforts through 1999. Based upon
current information, the Company does not anticipate costs associated with the
Year 2000 to have a material financial impact. However, there can be no
assurances that there will not be interruptions or other limitations of
financial and operating systems functionally or that the Company will not incur
significant costs to avoid such interruptions or limitations. Costs incurred
relating to the Year 2000 issue will be expensed by the Company during the
period in which they are incurred. The Company's expectations about future costs
associated with the Year 2000 issue are subject to uncertainties that could
cause actual results to have a greater financial impact than currently
anticipated. Factors that could influence the amount and timing of future costs
include the success of the Company in identifying systems and programs that
contain two-digit year codes, the nature and amount of programming required to
upgrade or replace each of the affected programs, the rate and magnitude of
related labor and consulting costs, and the success of the Company's customers
and suppliers in addressing the Year 2000 issue.
FORWARD-LOOKING STATEMENTS
Certain statements made above relating to plans, objectives, and economic
performance go beyond historical information and may provide an indication of
future results. To that extent, they are forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and
each is subject to factors that could cause actual results to differ from those
in the forward-looking statement. In particular, the ability of the Company to
maintain a profitable level of optical memory card sales is subject to risks and
uncertainties with respect to customer diversification, customer expansion, the
economic availability of reader/writers, the implementation of ongoing
commercial applications by customers, and the economic configuration and
operation of the Company's card manufacturing facility for increased output
levels. Such factors are described above, in the Company's Report on Form 10-K,
and in other documents filed by the Company from time to time with the
Securities and Exchange Commission.
PART II. OTHER INFORMATION
ITEM 3. LEGAL PROCEEDINGS
On July 27, 1998, the Company filed two complaints in the U.S. District
Court of the Northern District of California, each for infringement of two
patents owned by the Company covering digital sound encoded on motion picture
film. One complaint names as defendants Sony Corporation, provider of the SDDS
digital sound system, and numerous producers, distributors, and exhibitors of
motion pictures with SDDS soundtracks. The other complaint names as defendants
Dolby Laboratories, Inc., provider of the Dolby Digital digital sound system,
and numerous producers, distributors, and exhibitors of motion pictures with
Dolby Digital soundtracks. These actions seek compensatory damages, enhanced
damages and attorneys' fees based on willfulness, and an injunction against
further infringement.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the
period for which this report is filed.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibit No. Exhibit Description
27 Financial Data Schedule
The above-listed exhibit is filed herewith. No other exhibits are included
in this report as the contents of the required exhibits are either not
applicable to Registrant, to be provided only if Registrant desires, or
contained elsewhere in this report.
(b) No reports on Form 8-K were filed by Registrant during the period for
which this report is filed.
-10-
11
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized:
DREXLER TECHNOLOGY CORPORATION
(Registrant)
Date: August 13, 1998 /s/Jerome Drexler
-----------------------------------------
Jerome Drexler, Chairman of the Board of
Directors and Chief Executive Officer
(Principal Executive Officer)
Date: August 13, 1998 /s/Steven G. Larson
-----------------------------------------
Steven G. Larson, Vice President
of Finance and Treasurer
(Principal Financial Officer and
Principal Accounting Officer)
-11-
12
EXHIBIT INDEX
Exhibit Number Description
- -------------- -----------
Ex. 27 Financial Data Schedule