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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 March 28, 1999
OR
[_] Transition Report Pursuant to
Section 13 or 15(d) of the
Securities Exchange Act of 1934
Commission File No. 0-11007
EMULEX CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 51-0300558
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
3535 Harbor Boulevard
Costa Mesa, California 92626
(Address of principal executive offices) (Zip Code)
(714) 662-5600
(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. Yes X No _____
-----
As of April 20, 1999, the registrant had 6,159,756 shares of common stock
outstanding.
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EMULEX CORPORATION AND SUBSIDIARIES
INDEX
PAGE
----
Part I. FINANCIAL INFORMATION
- ------------------------------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
March 28, 1999 and June 28, 1998 2
Condensed Consolidated Statements of Operations
Three and nine months ended March 28, 1999
and March 29, 1998 3
Condensed Consolidated Statements of Cash Flows
Nine months ended March 28, 1999 and March 29, 1998 4
Notes to Condensed Consolidated Financial Statements 5
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 7
Item 3. Quantitative and Qualitative Disclosures of Market Risk 20
Part II. OTHER INFORMATION
- ---------------------------
Item 6. Exhibits and Reports on Form 8-K 20
1
PART I. FINANCIAL INFORMATION
- ------------------------------
Item 1. Financial Statements
EMULEX CORPORATION AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(in thousands, except share data)
(unaudited)
March 28, June 28,
Assets 1999 1998
- ------ -------- -------
Current assets:
Cash and cash equivalents $ 4,971 $ 1,776
Accounts and other receivables, net 16,685 12,141
Inventories, net 8,725 9,906
Prepaid expenses 622 476
Deferred income taxes 85 85
------- -------
Total current assets 31,088 24,384
Property, plant and equipment, net 3,069 5,112
Other assets 678 661
------- -------
$34,835 $30,157
======= =======
Liabilities and Stockholders' Equity
- ------------------------------------
Current liabilities:
Accounts payable $11,748 $ 6,909
Accrued liabilities 4,310 4,105
Accrued consolidation charges 246 3,173
Income taxes payable and other current liabilities 377 212
------- -------
Total current liabilities 16,681 14,399
Deferred income taxes and other liabilities 2,178 2,152
------- -------
18,859 16,551
------- -------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $0.01 par value; 1,000,000 shares authorized
(150,000 shares designated as Series A Junior
Participating Preferred Stock); none issued and outstanding - -
Common stock, $0.20 par value; 20,000,000 shares authorized;
6,158,969 and 6,133,322 issued and outstanding at
March 28, 1999 and June 28, 1998, respectively 1,232 1,227
Additional paid-in capital 7,592 7,444
Retained earnings 7,152 4,935
------- -------
Total stockholders' equity 15,976 13,606
------- -------
$34,835 $30,157
======= =======
See accompanying notes to condensed consolidated financial statements.
2
EMULEX CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(in thousands, except per share data)
(unaudited)
Three Months Ended Nine Months Ended
---------------------- --------------------------
March 28, March 29, March 28, March 29,
1999 1998 1999 1998
--------- ---------- --------- ----------
Net revenues $18,235 $ 15,019 $48,032 $ 45,519
Cost of sales 10,826 10,848 28,772 28,391
------- -------- ------- --------
Gross profit 7,409 4,171 19,260 17,128
------- -------- ------- --------
Operating expenses:
Engineering and development 3,059 2,918 8,315 8,114
Selling and marketing 1,695 1,858 5,134 5,768
General and administrative 1,167 1,135 3,098 3,352
Consolidation charges, net - 10,993 317 10,993
------- -------- ------- --------
Total operating expenses 5,921 16,904 16,864 28,227
------- -------- ------- --------
Operating income (loss) 1,488 (12,733) 2,396 (11,099)
Nonoperating income (expense) 17 (11) 67 54
------- -------- ------- --------
Income (loss) before income taxes 1,505 (12,744) 2,463 (11,045)
Income tax provision (benefit) 150 11 246 (7)
------- -------- ------- --------
Net income (loss) $ 1,355 $(12,755) $ 2,217 $(11,038)
======= ======== ======= ========
Net income (loss) per share:
Basic $0.22 $(2.08) $0.36 $(1.80)
======= ======== ======= ========
Diluted $0.20 $(2.08) $0.33 $(1.80)
======= ======== ======= ========
Number of shares used in per share computations:
Basic 6,158 6,132 6,147 6,118
======= ======== ======= ========
Diluted 6,912 6,132 6,756 6,118
======= ======== ======= ========
See accompanying notes to condensed consolidated financial statements.
3
EMULEX CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(in thousands)
(unaudited)
Nine Months Ended
---------------------------
March 28, March 29,
1999 1998
--------- ----------
Cash flows from operating activities:
- -------------------------------------
Net income (loss) $ 2,217 $(11,038)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation, amortization and impairment 1,172 2,904
Loss (gain) on disposal of property, plant and equipment (749) 427
Provision for doubtful accounts 44 91
Changes in assets and liabilities:
Accounts receivable (4,588) 1,552
Inventories 1,181 1,363
Prepaid expenses (146) 1,194
Income taxes receivable - 141
Other assets 16 5
Accounts payable 4,839 1,280
Accrued liabilities 205 (790)
Accrued consolidation charges (2,927) 5,669
Income taxes payable 214 -
Deferred revenue - (6)
Deferred income taxes - 1
------- --------
Net cash provided by operating activities 1,478 2,793
------- --------
Cash flows from investing activities:
- -------------------------------------
Net proceeds from sale of property, plant and equipment 2,995 -
Additions to property, plant and equipment (1,375) (1,136)
Additions to intangibles - (250)
------- --------
Net cash provided by (used in) investing activities 1,620 (1,386)
------- --------
Cash flows from financing activities:
- -------------------------------------
Principal payments under capital leases (56) (104)
Proceeds from issuance of common stock 153 164
------- --------
Net cash provided by financing activities 97 60
------- --------
Net increase in cash and cash equivalents 3,195 1,467
Cash and cash equivalents at beginning of period 1,776 484
------- --------
Cash and cash equivalents at end of period $ 4,971 $ 1,951
======= ========
Supplemental disclosures:
- -------------------------
Cash paid during the period for:
Interest $ 58 $ 164
Income taxes 53 38
See accompanying notes to condensed consolidated financial statements.
4
EMULEX CORPORATION AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
1. In the opinion of the Company, the accompanying unaudited condensed
consolidated financial statements contain all adjustments (which are normal
recurring accruals) necessary to present fairly the financial position as of
March 28, 1999, and June 28, 1998, and the results of operations for the
three and nine months ended March 28, 1999, and March 29, 1998, and the
statements of cash flows for the nine months then ended. Certain
reclassifications have been made to the condensed consolidated financial
statements for the periods ended March 29, 1998, to conform to the
presentation for the periods ended March 28, 1999. Interim results for the
three and nine months ended March 28, 1999, are not necessarily indicative of
the results that may be expected for the year ending June 27, 1999. The
interim financial statements should be read in conjunction with the Company's
Annual Report on Form 10-K for the fiscal year ended June 28, 1998.
References to dollar amounts are in thousands, except share data, unless
otherwise specified.
2. Inventories
-----------
Inventories, net, are summarized as follows:
March 28, June 28,
1999 1998
--------- --------
Raw materials $1,199 $3,926
Work-in-process - 273
Finished goods 7,526 5,707
------ ------
$8,725 $9,906
====== ======
3. Earnings per Share
------------------
The Company applies the provisions of Statement of Financial Accounting
Standards No. ("Statement") 128, "Earnings Per Share". In accordance with
Statement 128, primary earnings per share have been replaced with basic
earnings per share and fully diluted earnings per share have been replaced
with diluted earnings per share which includes potentially dilutive
securities such as outstanding stock options.
Basic earnings per share is computed by dividing income available to common
stockholders by the weighted average number of common shares outstanding
during the period. Diluted earnings per share is computed by dividing income
available to common stockholders by the weighted average number of common
shares outstanding during the period increased to include the number of
additional common shares that would have been outstanding if the dilutive
potential common shares had been issued. The dilutive effect of outstanding
stock options is reflected in diluted earnings per share by application of
the treasury stock method. The following table sets forth the computation of
basic and diluted earnings per share:
5
Three Months Ended Nine Months Ended
--------------------- --------------------
March 28, March 29, March 28, March 29,
1999 1998 1999 1998
-------- -------- -------- --------
Numerator:
Net income (loss) $1,355 $(12,755) $2,217 $(11,038)
====== ======== ====== ========
Denominator:
Denominator for basic earnings per
share - weighted average shares outstanding 6,158 6,132 6,147 6,118
Effect of dilutive securities:
Dilutive options outstanding 754 - 609 -
------ -------- ------ --------
Denominator for diluted earnings per
share - adjusted weighted average shares 6,912 6,132 6,756 6,118
====== ======== ====== ========
Basic income (loss) per share $ 0.22 $ (2.08) $ 0.36 $ (1.80)
====== ======== ====== ========
Diluted income (loss) per share $ 0.20 $ (2.08) $ 0.33 $ (1.80)
====== ======== ====== ========
Options to purchase 23,350 shares of common stock at prices in excess of
$35.97 per share were outstanding at March 28, 1999, but were not included in
the computation of diluted earnings per share for the three month period then
ended. Additionally, options to purchase 78,450 shares of common stock at
prices in excess of $22.26 per share were outstanding at March 28, 1999, but
were not included in the computation of diluted earnings per share for the
nine month period then ended. These options were excluded from the
computation of diluted earnings per share because the options' exercise price
was greater than the average market price of the common shares during the
respective periods, and therefore, the effect would be anti-dilutive.
Furthermore, as the Company had a net loss for the three and nine months
periods ended March 29, 1998, all 963,791 outstanding stock options were
excluded from the calculation of diluted loss per share, because the effect
would have been anti-dilutive.
4. Consolidation Charges
---------------------
On March 25, 1998, the Company announced plans to outsource the manufacturing
of its product lines to K*TEC Electronics, a division of Kent Electronics
Corporation. The Company made this strategic decision in an attempt to reduce
required future capital expenditures and production costs, as well as to take
advantage of K*TEC Electronics' consolidated purchasing power and materials
management capabilities. This decision resulted in, among other things, the
closing of the Company's Puerto Rico manufacturing subsidiary, streamlining
the Company's product offerings of some of its more mature, lower volume
products (primarily in the Company's traditional networking product lines),
and closing selected sales offices. As a result of these actions, the Company
anticipated a worldwide reduction of approximately 130 full-time employees
and 45 temporary workers in Puerto Rico. During the quarter ended December
27, 1998, the Company completed the sale of its former manufacturing facility
in Puerto Rico which resulted in a gain of $777. Additionally, during the
quarter ended December 27, 1998, as the Company essentially completed this
consolidation plan including all remaining headcount reductions, the Company
recognized additional consolidation expenses of $1,094 related to severance
and other asset impairment charges. As of March 28, 1999, the remaining
consolidation accrual of $246 is primarily for remaining severance and
related payments to be made over the next six months.
5. Commitments and Contingencies
-----------------------------
During the quarter ended December 27, 1998, the Company received a favorable
response to the Ruling Request it submitted in July 1998 to the Puerto Rico
Secretary of the Treasury (the "Secretary"). The liquidation of Emulex
Caribe, a subsidiary of the Company, was structured to qualify for tax-free
liquidation treatment under the provisions of both the U.S. and Puerto Rico
Internal Revenue Code. The Secretary has agreed that neither Emulex nor
Emulex Caribe will recognize a gain or loss as a result of the liquidation.
The Company is currently undergoing an examination by the California
Franchise Tax Board for the Company's 1989, 1990 and 1991 California income
tax returns. It is anticipated that this examination will be completed during
the current fiscal year. The Company is also undergoing examination by the
Internal Revenue Service of Emulex Caribe's 1995 U.S. tax return. The Company
does not anticipate that the examination by the Internal Revenue Service will
be resolved during the current fiscal year. It is management's belief that
the outcome of these examinations will not have a material adverse effect on
the Company's consolidated financial position or results of operations.
6
Part I. Item 2.
- ----------------
EMULEX CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of
Financial Condition and Results of Operations
(dollars in thousands)
Forward-Looking Statements
Except for the historical information contained herein, the discussions in this
Form 10-Q in general may contain certain forward-looking statements. In
addition, when used in this Form 10-Q, the words "anticipates", "believes",
"expects" and similar expressions are intended to identify forward-looking
statements. Actual future results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including, but not limited to, those discussed in "Business Environment and Risk
Factors" set forth herein, and in the Company's most recently filed Annual
Report on Form 10-K. The Company cautions the reader, however, that these lists
of risk factors may not be exhaustive. The Company expressly disclaims any
obligation or undertaking to release publicly any updates or changes to these
forward-looking statements that may be made to reflect any future events or
circumstances.
Unless the context indicates otherwise, the "Company," "Emulex," "we," "our" and
"us" each refer to the Registrant and its subsidiaries. References to dollar
amounts are in thousands, except share data, unless otherwise specified.
Company Overview
Emulex Corporation is a leading designer, developer and supplier of a broad line
of fibre channel host adapters, hubs, Application Specific Integrated Circuits
("ASICs") and software products that enhance access to and storage of electronic
data and applications. We believe that we are the only company that designs,
develops and markets both fibre channel host adapters and hubs, two of the core
components of a complete fibre channel solution. Our products are based on
internally-developed ASIC technology, are deployable across a variety of
heterogeneous network configurations and operating systems, and support
increasing volumes of stored data. Over the course of our history, we have also
designed, developed and marketed traditional networking products such as printer
servers and network access products, including communications servers and WAN
adapters. The Company markets to original equipment manufactures ("OEMs") and
end users through its own worldwide selling organizations, as well as two-tier
distribution partners.
Results of Operations
The following table sets forth the percentage of net revenues represented by
selected items from the unaudited Condensed Consolidated Statements of
Operations. This table should be read in conjunction with the unaudited
Condensed Consolidated Financial Statements included elsewhere herein.
Percentage of Net Revenues Percentage of Net Revenues
For the Three Months Ended For the Nine Months Ended
--------------------------- --------------------------
March 28, March 29, March 28, March 29,
1999 1998 1999 1998
--------- --------- --------- ----------
Net revenues 100.0% 100.0% 100.0% 100.0%
Cost of sales 59.4 72.2 59.9 62.4
----- ------ ----- ------
Gross profit 40.6 27.8 40.1 37.6
Operating expenses:
Engineering and development 16.8 19.4 17.3 17.8
Selling and marketing 9.3 12.4 10.7 12.6
General and administrative 6.3 7.6 6.4 7.4
Consolidation charges, net - 73.2 0.7 24.2
----- ------ ----- ------
Total operating expenses 32.4 112.6 35.1 62.0
----- ------ ----- ------
Operating income (loss) 8.2 (84.8) 5.0 (24.4)
Nonoperating income (expense) 0.1 (0.1) 0.1 0.1
----- ------ ----- ------
Income (loss) before
income taxes 8.3 (84.9) 5.1 (24.3)
Income tax provision (benefit) 0.9 - 0.5 (0.1)
----- ------ ----- ------
Net income (loss) 7.4% (84.9)% 4.6% (24.2)%
===== ====== ===== ======
7
Three months ended March 28, 1999 compared to three months ended March 29, 1998
Net Revenues
Net revenues for the three months ended March 28, 1999 were $18,235, an increase
of $3,216, or 21 percent, compared to $15,019 of net revenues for the three
months ended March 29, 1998. Net revenues from the Company's fibre channel
product line for the three months ended March 28, 1999 were $11,336, or 62
percent of net revenues, compared to $4,378, or 29 percent of net revenues, for
the three months ended March 29, 1998. This increase in revenue from the
Company's fibre channel product line is primarily the result of increased market
acceptance of its fibre channel products.
Net revenues from the Company's traditional networking products accounted for
$6,899, or 38 percent of net revenues, for the three months ended March 28,
1999, compared to $10,641, or 71 percent of net revenues, for the three months
ended March 29, 1998. This decrease in net revenues from the Company's
traditional networking products was principally due to lower average unit
selling prices, ongoing maturation of this product sector and a decrease in the
Company's focus on this line of products.
As the market for Emulex's traditional networking products matures and as Emulex
focuses more of its resources on the fibre channel market, the Company expects
that fibre channel product sales will represent a larger percentage of revenues
and that total sales of its traditional networking products will decrease. The
Company anticipates that future revenues from its fibre channel product line
will be a function of continued demand from OEMs which are currently shipping
fibre channel products, launches of new fibre channel-based systems by the
Company's current OEMs, additional design wins with new OEM customers and
increased sales through other distribution channels as the fibre channel market
continues to develop. Although fibre channel represented 62 percent of net
revenues for the three months ended March 28, 1999, fibre channel is an emerging
technology, and there can be no assurance that the Company's products will
adequately meet the requirements of the market or achieve market acceptance.
Additionally, because the Company's fibre channel products are part of an
integrated system, the Company's success in the fibre channel market will depend
in part upon the development and availability of other interoperable fibre
channel products by third parties. Furthermore, the Company's fibre channel
products are dependent upon components supplied by third parties, and there can
be no assurance that these components will be available at a competitive price
and in the quantities desired or, if available, will function as needed.
In the three months ended March 28, 1999, sales to IBM and Compaq accounted for
22 percent and 13 percent of net revenues, respectively. No other customer
accounted for more than 10 percent of the Company's net revenues for the three
months ended March 28, 1999. In the three months ended March 29, 1998, sales to
IBM accounted for 15 percent of net revenues, and no other customer accounted
for more than 10 percent of the Company's net revenues for this period. Sales
to the Company's top five customers accounted for 57 percent of net revenues in
the three months ended March 28, 1999, as compared to 40 percent in the three
months ended March 29, 1998. International revenues accounted for 31 percent
and 39 percent of net revenues in the three months ended March 28, 1999, and
March 29, 1998, respectively.
Gross Profit
Cost of products sold includes the cost of production of finished products, as
well as support costs and other expenses related to inventory management,
manufacturing quality and order fulfillment. For the three months ended March
28, 1999, gross profit was $7,409, an increase of $3,238, or 78 percent,
compared to $4,171 for the three months ended March 29, 1998. Gross margin
increased to 41 percent in the three months ended March 28, 1999, from 28
percent in the three months ended March 29, 1998. During the three months ended
March 29, 1998, in conjunction with the planned closure of the Company's Puerto
Rico manufacturing operations and transition to subcontract manufacturing, the
Company recorded $1,899 of incremental excess and obsolete inventory reserves in
cost of sales (exclusive of the reductions in inventory related to the
streamlining of the Company's product lines included in the consolidation
charges discussed below). Excluding this incremental inventory reserve charge,
gross profit would have been $6,070, or 40 percent of net revenues, for the
three months ended March 29, 1998.
Engineering and Development
Engineering and development expenses consist primarily of salaries and related
expenses for personnel engaged in the design, development and technical support
of the Company's products. These expenses include third-party fees paid to
consultants, prototype development expenses and computer services costs related
to supporting computer tools used in the design process. Engineering and
development expenses for the three months ended March 28, 1999 were $3,059, an
increase of $141, or five percent, compared to $2,918 for the three months ended
March 29, 1998. Because of the technical nature of the Company's products,
engineering support is a critical part of the Company's strategy during both the
8
development of its products and the support of its customers from product design
through deployment into the market. The Company expects to continue to make
significant investments in the technical support and enhancement of its current
products, as well as the continued development of new products in the fibre
channel market. Engineering and development expenses can fluctuate from quarter
to quarter depending on several factors, including new product introduction
schedules.
Selling and Marketing
Selling and marketing expenses consist primarily of salaries, commissions and
related expenses for personnel engaged in the marketing and sales of the
Company's products, as well as trade shows, product literature and promotional
support costs. Selling and marketing expenses for the three months ended March
28, 1999 were $1,695, a decrease of $163, or nine percent, compared to $1,858
for the three months ended March 29, 1998. This decrease was a result of the
streamlining of the Company's products and related sales and marketing efforts.
General and Administrative
General and administrative expenses consist primarily of salaries and related
expenses for executives, financial accounting support, human resources,
administrative services, professional fees and other associated corporate
expenses. General and administrative expenses for the three months ended March
28, 1999 were $1,167, a slight increase of $32, or three percent, compared to
$1,135 for the three months ended March 29, 1998.
Consolidation Charges
On March 25, 1998, the Company announced plans to outsource the manufacturing of
its product lines to K*TEC Electronics, a division of Kent Electronics
Corporation. The Company made this strategic decision in an attempt to reduce
required future capital expenditures and production costs, as well as to take
advantage of K*TEC Electronics' consolidated purchasing power and materials
management capabilities. This announcement resulted in, among other things,
consolidation charges of $10,993 related to the closing of the Company's Puerto
Rico manufacturing subsidiary, the streamlining of some of the Company's more
mature, lower volume traditional networking products and the closing of selected
sales offices. This consolidation plan is substantially complete. As of March
28, 1999, the remaining consolidation accrual of $246 is primarily for remaining
severance and related payments to be made over the next six months.
Nonoperating Income (Expense)
Nonoperating income (expense) consists primarily of interest income, interest
expense and foreign exchange translation. Nonoperating income for the three
months ended March 28, 1999 was $17, an increase of $28 compared to nonoperating
expense of $11 for the three months ended March 29, 1998.
Income Taxes
The Company recorded $150 of income tax expense for the three months ended March
28, 1999, representing a tax provision of 10 percent. The Company recorded an
income tax provision of $11 for the three months ended March 29, 1998.
Nine months ended March 28, 1999 compared to nine months ended March 29, 1998
Net Revenues
Net revenues for the nine months ended March 28, 1999 were $48,032, an increase
of $2,513, or six percent, compared to $45,519 of net revenues for the nine
months ended March 29, 1998. Net revenues from the Company's fibre channel
product line for the nine months ended March 28, 1999 were $24,646, or 51
percent of net revenues, compared to $14,449, or 32 percent of net revenues, for
the nine months ended March 29, 1998. This increase in revenue from the
Company's fibre channel product line is primarily the result of increased market
acceptance of its fibre channel products.
Net revenues from Emulex's traditional networking products accounted for
$23,386, or 49 percent of net revenues, for the nine months ended March 28,
1999, compared to $31,070, or 68 percent of net revenues, for the nine months
ended March 29, 1998. This decrease in net revenues from Emulex's traditional
networking products was principally due to lower average unit selling prices,
ongoing maturation of this product sector and a decrease in the Company's focus
on this line of products.
9
In the nine months ended March 28, 1999, sales to IBM accounted for 19 percent
of net revenues, and no other customer accounted for more than 10 percent of the
Company's net revenues. In the nine months ended March 29, 1998, sales to
Sequent and IBM accounted for 15 percent and 10 percent of net revenues,
respectively, and no other customer accounted for more than 10 percent of the
Company's net revenues. Sales to the Company's top five customers accounted for
50 percent of net revenues in the nine months ended March 28, 1999, as compared
to 42 percent in the nine months ended March 29, 1998. International revenues
accounted for 33 percent of net revenues in the nine months ended March 28,
1999, and March 29, 1998.
Gross Profit
For the nine months ended March 28, 1999, gross profit was $19,260, an increase
of $2,132, or 12 percent, compared to $17,128 for the nine months ended March
29, 1998. Gross margin increased to 40 percent in the nine months ended March
28, 1999, from 38 percent in the nine months ended March 29, 1998. During the
nine months ended March 29, 1998, in conjunction with the planned closure of the
Company's Puerto Rico manufacturing operations and transition to subcontract
manufacturing, the Company recorded $1,899 of incremental excess and obsolete
inventory reserves in cost of sales (exclusive of the reductions in inventory
related to the streamlining of the Company's product lines included in the
consolidation charges elsewhere herein). Excluding this incremental inventory
reserve charge, gross profit would have been $19,027, or 42 percent of net
revenues, for the nine months ended March 29, 1998.
During fiscal 1998, and continuing through the nine months ended March 28, 1999,
the Company experienced declining average unit selling prices and
corresponding reductions in the gross margins of its traditional networking
products. The Company expects this trend to continue. Gross margins in the
Company's traditional networking products are lower than gross margins for its
fibre channel products. The Company's fibre channel products did not experience
significant reductions in average unit selling prices during fiscal 1998 and
through the nine months ended March 28, 1999, but the Company anticipates that
average unit selling prices for these products will also decline over time.
Emulex has agreed to contracted price reductions with most of the Company's OEM
customers. Typically these reductions are achieved by reaching certain volume
milestones during the life of the contract. It is likely that the Company will
continue this practice in the future. In addition, the Company's gross margins
of fibre channel products may be impacted if there is a significant shift in the
mix of its products from adapters to hubs or from high-end adapters to lower-
priced adapters. The Company's strategy is to maintain overall gross margins
where possible, despite expected future erosion in the average unit selling
price, by continuing to reduce the cost of its fibre channel products through a
combination of volume efficiencies, cost-reduced designs and diversification of
the Company's component-supplier base.
Engineering and Development
Engineering and development expenses for the nine months ended March 28, 1999
were $8,315, an increase of $201, or two percent, compared to $8,114 for the
nine months ended March 29, 1998. Because of the technical nature of the
Company's products, engineering support is a critical part of the Company's
strategy during both the development of its products and the support of its
customers from product design through deployment into the market. The Company
expects to continue to make significant investments in the technical support and
enhancement of its current products, as well as the continued development of new
products in the fibre channel market.
Selling and Marketing
Selling and marketing expenses for the nine months ended March 28, 1999 were
$5,134, a decrease of $634, or 11 percent, compared to $5,768 for the nine
months ended March 29, 1998. This decrease was a result of the streamlining of
the Company's products and related sales and marketing efforts.
General and Administrative
General and administrative expenses for the nine months ended March 28, 1999
were $3,098, a decrease of $254, or eight percent, compared to $3,352 for the
nine months ended March 29, 1998. This decrease was primarily due to reduced
general and administrative staffing.
Consolidation Charges
During the nine months ended March 29, 1998, in conjunction with the Company's
strategic decision to outsource the manufacturing of its product lines to K*TEC
Electronics, the Company recorded consolidation charges of $10,993 related to
the closing of its Puerto Rico manufacturing subsidiary, the streamlining of
some of the Company's more mature, lower volume traditional networking products
and the closing of selected sales offices. During the nine months ended March
28,
10
1999, the Company completed the sale of its former manufacturing facility in
Puerto Rico which resulted in a gain of $777,000. Also, during such period, the
Company substantially completed this consolidation plan, including all remaining
headcount reductions, and recognized additional consolidation expenses of $1,094
related to severance and other asset impairment charges.
Nonoperating Income
Nonoperating income for the nine months ended March 28, 1999 was $67, an
increase of $13, compared to $54 for the nine months ended March 29, 1998.
Income Taxes
For the nine months ended March 28, 1999, the Company recorded income tax
expense of $246, representing a tax provision of 10 percent. In the nine months
ended March 29, 1998, the Company recorded an income tax benefit of $7. During
the nine months ended March 28, 1999, the Company received a favorable response
to the Ruling Request it had submitted in July 1998 to the Secretary of the
Treasury of Puerto Rico. The liquidation of the Company's subsidiary, Emulex
Caribe, was structured to qualify for tax-free liquidation treatment under the
provisions of both the U.S. and Puerto Rico Internal Revenue Codes. The
Secretary of the Treasury of Puerto Rico has agreed that neither Emulex
Corporation nor Emulex Caribe will recognize a gain or loss as a result of the
liquidation. The Company is currently undergoing an examination by the
California Franchise Tax Board of its 1989, 1990 and 1991 California income tax
returns. It is anticipated that this examination will be completed during the
current fiscal year. The Company is also undergoing examination by the Internal
Revenue Service of Emulex Caribe's 1995 U.S. tax return. The Company does not
anticipate that the examination by the Internal Revenue Service will be resolved
during the current fiscal year. It is management's belief that the outcome of
these examinations will not have a material adverse effect on the Company's
consolidated financial position or results of operations.
New Accounting Standards
In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement
131, "Disclosure about Segments of an Enterprise and Related Information." This
statement establishes standards for the way public companies disclose
information about operating segments, products and services, geographic areas
and major customers. The new statement is effective for fiscal years beginning
after December 15, 1997. The Company believes the impact of adopting this new
standard on the consolidated financial statements will not be material.
In June 1998, the FASB issued Statement 133, "Accounting for Derivative
Instruments and Hedging Activities." The new statement established accounting
and reporting standards for derivative instruments and for hedging activities
and is effective for all fiscal quarters of fiscal years beginning after June
15, 1999. The Company does not expect the adoption of Statement 133 to have a
material impact on the Company's results of operations.
Liquidity and Capital Resources
The Company had $4,971 in cash and cash equivalents as of March 28, 1999. The
Company's operations provided cash and cash equivalents of $1,478 during the
nine months ended March 28, 1999 compared to $2,793 during the nine months ended
March 29, 1998. Included in the $1,478 of cash and cash equivalents provided by
operating activities during the nine months ended March 28, 1999 was $2,927 of
cash and cash equivalents used in relation to the consolidation charges
discussed previously. Investing activities, which were limited to the
acquisition and disposition of property, plant and equipment and the acquisition
of intangibles, provided $1,620 of cash and cash equivalents during the nine
months ended March 28, 1999 compared to using $1,386 during the nine months
ended March 29, 1998, as the Company received net proceeds of approximately
$2,970 when the Company completed the sale of its property, plant and equipment
in Puerto Rico. Net financing activities, which were limited to payments under
capital lease obligations and proceeds from the exercise of employee stock
options, provided $97 and $60 of cash and cash equivalents during the nine
months ended March 28, 1999 and March 29, 1998, respectively. As of March 28,
1999, the Company had a remaining consolidation accrual of $246 primarily for
severance and related items which the Company anticipates will be paid over the
next six months.
In addition to its cash balances, the Company has a secured line of credit of up
to $10,000 with Silicon Valley Bank which is available through September 1999,
unless extended by the parties. The Company last utilized the line of credit in
the quarter ended September 28, 1997. The line of credit requires the Company
to satisfy certain financial and other covenants and conditions, including
prescribed levels of tangible net worth, profitability and liquidity. In the
event the Company fails to comply with any financial or other covenant in its
loan agreement, the line of credit could become unavailable to the
11
Company. In addition, to the extent that borrowings have been made under the
line of credit, a failure to continue to satisfy such covenants would constitute
an event of default, giving rise to the various remedies available to a secured
lender. As of March 28, 1999, the Company was in compliance with or had received
waivers for all covenants of the line of credit. The Company believes that its
existing cash balances, facilities and equipment leases, anticipated cash flows
from operating activities and available borrowings under its line of credit will
be sufficient to support its working capital needs and capital expenditure
requirements for the next twelve months.
Business Environment and Risk Factors
We have experienced losses in our history.
We incurred a net loss of $10,838 for the fiscal year ended June 28, 1998. In
fiscal year 1998, we had $1,899 of incremental inventory reserves and $10,646 of
consolidation charges in conjunction with the planned closure of our Puerto Rico
manufacturing operations. While we have generated net income for nine of the
last 10 quarters through the quarter ended March 28, 1999, we cannot be certain
that revenues will remain at current levels or improve or that we will be
profitable at such revenue levels.
Our operating results are difficult to forecast and may be adversely affected by
many factors.
Our revenues and results of operations have varied on a quarterly basis in the
past and potentially may vary significantly in the future. Accordingly, we
believe that period-to-period comparisons of our results of operations are not
necessarily meaningful, and you should not rely on such comparisons as
indications of our future performance. Our revenues and results of operations
are difficult to forecast and could be adversely affected by many factors,
including, among others:
. The size, timing and terms of customer orders;
. The relatively long sales and deployment cycles for our products,
particularly those sold through our OEM sales channels;
. Changes in our operating expenses;
. Our ability to develop and market new products;
. The ability of our contract manufacturer to produce and distribute our
products in a timely fashion;
. The market acceptance of our new fibre channel products;
. The timing of the introduction or enhancement of products by us, our OEM
customers and our competitors;
. The level of product and price competition;
. Our ability to expand our relationships with OEMs and distributors;
. Activities of and acquisitions by our competitors;
. Changes in technology, industry standards or consumer preferences;
. Changes in the mix of products sold, as our fibre channel products
typically have higher margins than our traditional networking products;
. Changes in the mix of sales channels;
. The level of international sales;
. Seasonality;
. Personnel changes;
. Changes in customer budgeting cycles;
12
. Foreign currency exchange rates; and
. General economic conditions.
As a result of these and other factors, our business, results of operations and
financial condition could be materially adversely affected.
There are other factors which contribute to the variability of our sales as
well. We generally ship products quickly after we receive orders, meaning that
we do not typically have a significant backlog of unfilled orders. As a result,
our revenues in a given quarter depend substantially on orders booked in that
quarter. Also, we typically generate a large percentage of our quarterly
revenues in the last month of the quarter. Additionally, certain OEM customers
tend to order sporadically, and their purchases can vary significantly from
quarter to quarter.
A decrease in the number of orders we receive is likely to adversely and
disproportionately affect our quarterly results of operations. This is because
our expense levels are partially based on our expectations of future sales and
our expenses may be disproportionately large as compared to sales in a quarter
with reduced orders. Hence, we may be unable to adjust spending in a timely
manner to compensate for any unexpected revenue shortfall. Any shortfall in
sales in relation to our quarterly expectations or any delay of customer orders
would likely have an immediate and adverse impact on our business, quarterly
results of operations and financial condition.
Our business depends upon the development of the fibre channel market, and our
revenues will be limited if such development does not occur or occurs more
slowly than we anticipate.
The size of our potential market is dependent upon the broad acceptance of fibre
channel technology as an alternative to other technologies traditionally
utilized for network and storage communications. The fibre channel market,
while rapidly evolving and attracting an increasing number of market
participants, is still at an early stage of development. We believe the fibre
channel market will continue to expand and that our investment in the fibre
channel market represents our greatest opportunity for revenue growth and
profitability in the future. However, we cannot be certain that fibre channel
products will gain broader market acceptance or that customers will choose our
technology and products. Fibre channel products accounted for 51 percent of our
net revenues for the nine months ended March 28, 1999. If the fibre channel
market fails to develop, develops more slowly than anticipated or attracts more
competitors than we expect (as discussed below), our business, results of
operations and financial condition would be materially adversely affected. A
similar result would occur if our products do not achieve market acceptance.
Alternative technologies such as SCSI compete with fibre channel technology for
customers. Some SCSI technology companies already have well-established
relationships with our current and potential customers, have extensive knowledge
of the markets we serve and have better name recognition and more extensive
development, sales and marketing resources than we have. Our success also
depends both on our own ability and on the ability of our OEM customers to
develop fibre channel solutions that are competitive with other technologies.
Ultimately, our business depends upon our ability, along with the ability of our
OEM customers, to convince end users to adopt fibre channel technology.
While we have secured numerous design wins for our fibre channel products from
OEM customers, nearly all of these customers are still at the very early stages
of initial commercial shipments or at the developmental stage of incorporating
fibre channel into their systems. Only a limited number of OEM customers are in
full commercial production of products that incorporate our fibre channel
products. If our developmental and early stage customers are unable to or
otherwise do not ship systems that incorporate our products, or if their shipped
systems are not commercially successful, our business, results of operations and
financial condition would be materially adversely affected.
The loss of one or more customers could harm our revenues.
For the nine months ended March 28, 1999, sales to our top customer, IBM,
represented 19 percent of our net revenues. In the comparable period of the
prior fiscal year, sales to Sequent Computer Systems represented 15 percent of
net revenues and IBM represented 10 percent of net revenues. Sales to our top
five customers accounted for 50 percent of net revenues for the nine months
ended March 28, 1999 and for 42 percent of net revenues for the nine months
ended March 29, 1998. In each of these periods, four of our top five customers
were OEMs. Although we have attempted to expand our base of OEM customers, our
revenues in the future may nonetheless be similarly derived from a limited
number of OEM customers.
13
Failure of one or more of our significant customers to timely make payments
could adversely affect our business.
We are also subject to credit risk associated with the concentration of our
accounts receivable from our customers. If we were to lose one of our current
significant customers or did not receive their payments due to us, we could
experience a material adverse effect on our business, results of operations and
financial condition.
The loss of one or more of our OEM or distributor customers could adversely
affect our business.
We rely almost exclusively on OEMs and distributors for our sales. For the nine
months ended March 28, 1999, we derived approximately 74 percent of our net
revenues from OEMs and 23 percent from distributors. In fiscal 1998, we derived
approximately 71 percent of our net revenues from OEMs and 25 percent from
distributors. We cannot be certain that we will retain our current OEM and
distributor customers or that we will be able to recruit additional or
replacement customers. As is common in an emerging technology industry, our
agreements with OEMs and distributors are typically non-exclusive and often may
be terminated by either party without cause. Indeed, many of our OEM and
distribution customers carry or utilize competing product lines. If we were to
suddenly lose one or more important OEM or distribution customers to a
competitor, our business, results of operations and financial condition could be
materially adversely affected.
Some of our OEM customers could become competitors.
Some of our OEM customers could develop products internally that would replace
our products. The resulting reduction in sales of our products to our OEM
customers could have a material adverse effect on our business, results of
operations and financial condition.
Our industries are subject to rapid technological change and we must keep pace
with the changes to compete.
The markets for our products are characterized by rapidly changing technology,
evolving industry standards and the frequent introduction of new products and
enhancements. Our future success depends in a large part on our ability to
enhance our existing products and to introduce new products on a timely basis to
meet changes in customer preferences and evolving industry standards. We cannot
be certain that we will be successful in developing, manufacturing and marketing
new products or product enhancements that respond to such changes in a timely
manner and achieve market acceptance. We also cannot be certain that we will be
able to develop the underlying core technologies necessary to create new
products and enhancements, or that we will be able to license the core
technologies from third parties.
A key element of our business strategy is to develop multiple ASICs in order to
increase system performance and reduce manufacturing costs, thereby enhancing
the price/performance of our fibre channel products. We cannot be certain that
we will be successful at developing and incorporating ASICs effectively and in a
timely manner. Additionally, changes in technology and consumer preference
could potentially render our current products uncompetitive or obsolete. If we
are unable, for technological or other reasons, to develop new products or
enhance existing products in a timely manner in response to technological and
market changes, our business, results of operations and financial condition
would be materially adversely affected.
The failure of our OEM customers to keep up with rapid technological change
could adversely affect our business.
Our revenues depend significantly upon the ability and willingness of our OEM
customers to develop and promote products on a timely basis that incorporate our
technology. The ability and willingness of OEM customers to develop and promote
such products is based upon a number of factors, such as:
The timely development by us and our OEM customers of new products with new
functionality, increased speed and enhanced performance at acceptable prices;
. The development costs facing our OEM customers;
. The compatibility of new products with both existing and emerging
industry standards;
. Technological advances;
. Intellectual property issues; and
. Competition in general
14
We cannot be certain of the ability or willingness of our OEM customers to
continue developing, marketing and selling products that incorporate our
technology. Our business is dependent on our relationships with our OEM and
distributor customers, so the inability or unwillingness of any of our
significant customers to develop or promote products which use our technology
would have a material adverse effect on our business, results of operations and
financial condition.
A significant percentage of our revenues are from product lines which are being
phased out.
We have shifted the focus of our business to fibre channel technology. However,
our revenues still depend significantly on sales of our traditional networking
products. These traditional networking products accounted for 49 percent of our
net revenues for the nine months ended March 28, 1999. If the maturation of
these products were to occur faster than we anticipate, our business, results of
operations and financial condition would be materially adversely affected.
Our markets are highly competitive.
The markets for our products are highly competitive and are characterized by
rapid technological advances, price erosion, frequent new product introductions
and evolving industry standards. Our current and potential competition consists
of major domestic and international companies, many of which have substantially
greater financial, technical, marketing and distribution resources than we have.
We expect that an increasing number of companies will enter the markets for our
products, particularly the new and evolving fibre channel market. Furthermore,
larger companies in other related industries may develop or acquire technologies
and apply their significant resources, such as distribution channels and brand
recognition, to acquire significant market share. Emerging companies attempting
to obtain a share of the existing markets act as potential competition as well.
Our competitors continue to introduce products with improved price/performance
characteristics, and we will have to do the same to remain competitive.
Increased competition could result in significant price competition, reduced
revenues, lower profit margins or loss of market share, any of which would have
a material adverse effect on our business, results of operations and financial
condition. We cannot be certain that we will be able to compete successfully
against either current or potential competitors in the future.
In the fibre channel market, we compete primarily against Hewlett-Packard,
QLogic Corporation, Vixel, Gadzoox Microsystems and several smaller companies to
a lesser extent. In the printer server market, we compete directly against a
number of smaller companies and indirectly against Hewlett-Packard and Lexmark,
the two largest printer vendors, both of which primarily use their own
internally-developed printer servers. In the network access market, we compete
against numerous networking companies who offer network access solutions.
As is common in an emerging technology industry with non-exclusive development
arrangements, many of our OEM customers arrange second source agreements to meet
their requirements. Furthermore, in the future our OEM customers may develop
products that compete with ours or purchase from our competitors and may
terminate their relationships with us as a result.
A decrease in the average unit selling prices of our fibre channel products
could adversely affect our business.
As the market for fibre channel products matures, it is likely that we will
experience downward pressure on the average unit selling prices of our fibre
channel products. To the extent that average unit selling prices of our fibre
channel products decrease without a corresponding decrease in the costs of such
products, our gross margins and financial performance could be materially
adversely affected.
Delays in product development could adversely affect our business.
We have experienced delays in product development in the past and may experience
similar delays in the future. Given the short product life cycles in the
markets for our products, any delay or unanticipated difficulty associated with
new product introductions or product enhancements could have a material adverse
effect on our business, results of operations and financial condition. Prior
delays have resulted from numerous factors, such as:
. Changing OEM product specifications;
. Difficulties in hiring and retaining necessary personnel;
. Difficulties in reallocating engineering resources and other resource
limitations;
. Difficulties with independent contractors;
15
. Changing market or competitive product requirements;
. Unanticipated engineering complexity;
. Undetected errors or failures in software and hardware; and
. Delays in the acceptance or shipment of products by OEM customers.
Our joint development activities may result in products that are not
commercially successful or that are not available in a timely fashion.
We have engaged in joint development projects with third parties in the past and
we expect to continue doing so in the future. Joint development creates several
risks for us, including the loss of control over development of aspects of the
jointly-developed products and over the timing of product availability.
Accordingly, we face the risk that joint development activities will result in
products that are not commercially successful or that are not available in a
timely fashion.
The loss of third-party suppliers or our contract manufacturer could adversely
affect our business.
We rely on third-party suppliers for components which are used in our products
and we have experienced delays or difficulty in securing components in the past.
Key components that we use in our products may only be available from single
sources with which we do not have long-term contracts. Intel is currently our
sole supplier for microprocessors used in our fibre channel products. IBM and
Hewlett-Packard are currently our sole suppliers for components that enable our
fibre channel products to connect to networks. Motorola is currently our sole
supplier of memory devices incorporated into our fibre channel products. In
addition, we rely on LSI Logic, Chip Express and VLSI to manufacture ASICs for
our products. Furthermore, the components we use for our fibre channel products
are based on an emerging technology and may not be available with the
performance characteristics or in the quantities that we require. Our future
inability to supply products due to a lack of components or our inability to
redesign products to accept alternatives in a timely manner would materially
adversely affect our business, results of operations and financial condition.
Because we transitioned the production of our products to a contract
manufacturer, K*TEC Electronics, a division of Kent Electronics Corporation, we
plan to maintain only a minimal supply of product components. We now rely on
K*TEC Electronics to complete the majority of the component purchases for our
products. Consequently, we cannot be certain that the necessary components will
be available to meet our future requirements at favorable prices, if at all.
Moreover, because we rely on K*TEC Electronics to manufacture, store and ship
our products, if K*TEC Electronics is unable or unwilling to complete production
runs for us in the future, or experiences any significant delays in completing
production runs or shipping product, the manufacturing and sale of our products
would be temporarily suspended. An interruption in supply of our products and
the cost of qualifying and shifting production to an alternative manufacturing
facility would have a material adverse effect on our business, results of
operations and financial condition.
A decrease in the demand for high performance computer and storage systems could
adversely affect our business.
A significant portion of our products are currently used in high-performance
computer and storage systems. Our fibre channel growth has been supported by
increasing demands for sophisticated Input/Output ("I/O") solutions which
support enterprise computing requirements, including on-line transaction
processing, data mining, data warehousing, multimedia and Internet applications.
Should there be a slowing in the growth of demand for such systems, our
business, results of operations and financial condition could be materially
adversely affected.
The inadequacy of our intellectual property protections could adversely affect
our business.
We believe that our continued success depends primarily on continuing
innovation, marketing and technical expertise, as well as the quality of product
support and customer relations. At the same time, our success is partially
dependent on the proprietary technology contained in our products. We currently
rely on a combination of patents, copyrights, trademarks, trade secret laws and
contractual provisions to establish and protect our intellectual property rights
in our products. We cannot be certain that the steps we take to protect our
intellectual property will adequately protect our proprietary rights, that
others will not independently develop or otherwise acquire equivalent or
superior technology or that we can maintain such technology as trade secrets.
In addition, the laws of certain countries in which our products are or may be
developed, manufactured or sold, including various countries in Asia, may not
protect our products and intellectual property rights to the same extent as the
laws of the United States or at all. Our failure to protect our intellectual
property rights could have a material adverse effect on our business, results of
operations and financial condition.
16
Third-party claims of infringement of their intellectual property could
adversely affect our business.
We believe that our products and technology do not infringe on the intellectual
property rights of others or upon intellectual property rights that may be
granted in the future pursuant to pending applications. We also believe that we
will not be required to obtain licenses of technology owned by other parties.
However, we occasionally receive communications from third parties alleging
patent infringement, and there is always the chance that third parties may
assert infringement claims against us. Any such claims, with or without merit,
could result in costly litigation, cause product shipment delays or require us
to enter into royalty or licensing agreements. We cannot be certain that the
necessary licenses will be available or that they can be obtained on
commercially reasonable terms. If we were to fail to obtain such royalty or
licensing agreements in a timely manner and on reasonable terms, our business,
results of operations and financial condition would be materially adversely
affected.
The loss of key technical personnel could adversely affect our business.
Our success depends to a significant degree upon the performance and continued
service of engineers involved in the development of our fibre channel technology
and technical support of fibre channel products and customers. Our future
success depends upon our ability to attract, train and retain such personnel.
We will need to increase the number of technical staff members with experience
in high-speed networking applications as we further develop the fibre channel
product line. Competition for such highly skilled employees in our industry is
intense, and we cannot be certain that we will be successful in recruiting and
retaining such personnel. In addition, employees may leave our company and
subsequently compete against us. The loss of these key technical employees
could have a material adverse effect on our business, results of operations and
financial condition.
Our international business activities subject us to risks which could adversely
affect our business.
During the nine months ended March 28, 1999, sales in the United States
accounted for 67 percent of our net revenues, sales in Europe accounted for 28
percent of our net revenues, and sales in the Pacific Rim countries accounted
for five percent of our net revenues. During the nine months ended March 29,
1998, sales in the United States accounted for 67 percent of net revenues, sales
in Europe accounted for 25 percent of our net revenues, and sales in the Pacific
Rim countries accounted for eight percent of our net revenues. We expect that
sales in the United States and Europe will continue to account for the
substantial majority of our revenues for the foreseeable future.
We encounter risks inherent in international operations. All of our sales are
currently denominated in U.S. dollars. As a result, if the value of the U.S.
dollar increases relative to foreign currencies, our products could become less
competitive in international markets. Our international business activities
could be limited or disrupted by any of the following factors:
. The imposition of governmental controls and regulatory requirements;
. The costs and risks of localizing products for foreign countries;
. Restrictions on the export of technology;
. Financial and stock market dislocations;
. Longer accounts receivable payment cycles;
. Potentially adverse tax consequences;
. The repatriation of earnings;
. The burden of complying with a wide variety of foreign laws;
. Trade restrictions; and
. Changes in tariffs.
17
In addition, the revenues we earn in various countries in which we do business
may be subject to taxation by more than one jurisdiction, thereby adversely
affecting our earnings. These factors could harm future sales of our products
to international customers and have a material adverse effect on our business,
results of operations and financial condition.
Export restrictions may adversely affect our business.
Our fibre channel products are subject to U.S. Department of Commerce export
control restrictions. Neither we nor our customers may export such products
without obtaining an export license. These U.S. export laws also prohibit the
export of our fibre channel products to a number of countries deemed by the
United States to be hostile. These restrictions may make foreign competitors
facing less stringent controls on their products more competitive in the global
market than we or our fibre channel customers are. The U.S. government may not
approve any pending or future export license requests. In addition, the list of
products and countries for which export approval is required, and the regulatory
policies with respect thereto, could be revised. The sale of our fibre channel
products could be harmed by our failure or the failure of our customers to
obtain the required licenses or by the costs of compliance.
Our business may be harmed by Year 2000 issues.
Many existing computer systems and applications use two digits rather than four
to define the applicable year. These programs were designed without considering
the impact of the upcoming change in the century. If such programs are not
corrected, many computer systems could fail or create erroneous results at or
beyond the year 2000. We consider a product to be "Year 2000 compliant" if
the product's performance and functionality are unaffected by the processing of
dates prior to, during and after the year 2000. We believe that our current
products are all Year 2000 compliant. However, older products which we
previously sold, and which may still be covered under warranties, may not be
Year 2000 compliant. We are prepared to update these older products as required
under warranty for all issues that we have been able to identify. However, we
cannot be certain that all potential Year 2000 issues have been identified or
that the issues will be successfully resolved to the customers' satisfaction.
Consequently, customers may bring litigation against vendors, including us. Any
such claims, with or without merit, could result in a material adverse effect on
our business, results of operations and financial condition.
We have committed resources in an attempt to identify and correct potential Year
2000 issues, both in our products and in our internal computer systems and
applications. We have also committed resources in an attempt to identify the
Year 2000 issues of third parties which could impact us. We believe we have
identified and corrected, or have a plan in place to correct, any Year 2000
issues related to our products and internal computer systems. However, we rely
in various ways, both domestically and internationally, upon government
agencies, utility companies, telecommunication companies and other service
providers. Therefore we are in the process of completing a survey of our
suppliers, contract manufacturer and financial institutions to evaluate their
Year 2000 compliance plans. We will also use the survey to determine whether
any Year 2000 issues will impede the ability of any of our suppliers to continue
to provide us with goods and services. We are currently conducting a survey of
our customers. We cannot be certain that all of our suppliers, government
agencies, customers, financial institutions and other third parties will not
suffer business disruptions caused by a Year 2000 issue. Our management
believes that there are two most likely worst case scenarios related to the Year
2000 issue that we may experience. The first would be an inability to obtain
inventory components from suppliers due to Year 2000 problems they experience.
The second would be delays in receiving orders or payments from customers due to
Year 2000 problems they experience. Either of the two scenarios could have a
material adverse effect on our business, results of operations and financial
condition.
As we have not yet completed our full Year 2000 assessment, we have not
developed a contingency plan. We anticipate that our full Year 2000 review,
necessary remediation actions and contingency plan will be substantially
complete by the end of June 1999. Although this process has not generated any
material expenditures to date, and we do not currently foresee any in the
future, the costs related to this issue will continue to evolve as we identify
and address the remaining issues. Although we do not believe that the Year 2000
issue will pose any significant operational problems, there could be delays in
our efforts to address the Year 2000 issue or we could fail to fully identify
all Year 2000 issues in our systems, equipment or processes, or those of third
parties which affect us. Such delays or failures could have a material adverse
effect on our business, results of operations and financial condition.
We may need additional capital in the future and such additional financing may
not be available.
We currently anticipate that our available cash resources and financing
available through our credit facility will be sufficient to meet our expected
working capital and capital expenditure requirements for at least the next 12
months. However, we cannot assure you that such resources will be sufficient
for anticipated or unanticipated working capital and capital
18
expenditure requirements. We may need to raise additional funds through public
or private debt or equity financings in order to:
. Take advantage of unanticipated opportunities, including more rapid
international expansion or acquisitions of complementary businesses or
technologies;
. Develop new products or services; or
. Respond to unanticipated competitive pressures.
We may also raise additional funds through public or private debt or equity
financings if such financings become available on favorable terms. We cannot
assure you that any additional financing we may need will be available on terms
favorable to us, or at all. If adequate funds are not available or are not
available on acceptable terms, we may not be able to take advantage of
unanticipated opportunities, develop new products or services or otherwise
respond to unanticipated competitive pressures. In any such case, our business,
results of operations and financial condition could be materially adversely
affected.
Our stock price is volatile.
The stock market in general, and the stock prices in technology-based companies
in particular, have experienced extreme volatility that often has been unrelated
to the operating performance of any specific public companies. The market price
of our common stock has fluctuated in the past and is likely to fluctuate in the
future as well. Any of the following factors could have a significant impact on
the market price of our common stock:
. Quarterly variations in operating results;
. Announcements of new products by us or our competitors;
. The gain or loss of significant customers;
. Changes in analysts' earnings estimates;
. Pricing pressures;
. Short-selling of our common stock;
. General conditions in the computer, storage or communications markets;
or
. Events affecting other companies that investors deem to be comparable to
us.
In the past, companies that have experienced volatility in the market price of
their stock have been the object of securities class action litigation. If we
were the object of securities class action litigation, it could result in
substantial costs and a diversion of management's attention and resources.
We do not plan to pay cash dividends on our common stock.
We have never paid cash dividends on our common stock and do not anticipate
paying any cash dividends in the foreseeable future. We intend to retain future
earnings, if any, to finance the growth and expansion of our business and for
general corporate purposes. In addition, the terms of our credit facility
prohibit us from paying dividends on our capital stock.
Our stockholder rights plan, certificate of incorporation and Delaware law could
adversely affect the performance of our stock.
Our stockholder rights plan and certain provisions of our certificate of
incorporation and of the Delaware General Corporation Law could make it more
difficult for a third party to acquire us, even if doing so would be beneficial
to our stockholders. The stockholder rights plan and these provisions of our
certificate of incorporation and Delaware law are intended to encourage
potential acquirers to negotiate with us and allow our board of directors the
opportunity to consider
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alternative proposals in the interest of maximizing stockholder value. However,
such provisions may also discourage acquisition proposals or delay or prevent a
change in control, which could harm our stock price.
Item 3. Quantitative and Qualitative Disclosures of Market Risk
- ---------------------------------------------------------------
Not applicable.
Part II. Other Information
- --------------------------
Item 6. Exhibits and Reports on Form 8-K
- ----------------------------------------
(a) Exhibit 3.1 Certificate of Incorporation of the Registrant
(incorporated by reference to Exhibit 3.1 to the
Registrant's Annual Report on Form 10-K for fiscal 1997).
Exhibit 3.2 Bylaws of the Registrant, as amended (incorporated by
reference to Exhibit 3.2 to the Registrant's Annual Report
on Form 10-K for fiscal 1997).
Exhibit 3.3 Certificate of Designations of Series A Junior
Participating Preferred Stock (incorporated by reference
to Exhibit 4 to the Registrant's Current Report on Form
8-K filed February 2, 1989).
Exhibit 4.1 Rights Agreement, dated January 19, 1989, as amended
(incorporated by reference to Exhibit 4 the Registrant's
Current Report on Form 8-K filed February 2, 1989).
Exhibit 4.2 Certificate regarding extension of Final Expiration Date
of Rights Agreement, dated January 18, 1999 (incorporated
by reference to Amendment No. 1 to the Company's
Registration Statement on Form S-3 filed April 26, 1999).
(a) Exhibit 27.1 Financial Data Schedule
(b) The registrant has not filed any reports on Form 8-K during the period for
which this report is filed.
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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.
Date: April 28, 1999
EMULEX CORPORATION
By: /s/ Paul F. Folino
------------------------------------------------
Paul F. Folino
President and Chief Executive Officer
By: /s/ Michael J. Rockenbach
-------------------------------------------------
Michael J. Rockenbach
Vice President and
Chief Financial Officer
(Principal Financial & Chief Accounting Officer)
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