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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange
- ---- Act of 1934
FOR THE QUARTERLY PERIOD ENDED OCTOBER 1, 2000
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 000-27978
POLYCOM, INC.
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(Exact name of registrant as specified in its charter)
DELAWARE 94-3128324
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(State or other jurisdiction of (IRS employer
incorporation or organization) identification number)
1565 BARBER LANE, MILPITAS, CA. 95035
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(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code, is (408) 526-9000)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
There were 75,439,441 shares of the Company's Common Stock, par value $.0005,
outstanding on November 3, 2000.
POLYCOM, INC.
INDEX
REPORT ON FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2000
Page
Number
------
PART I FINANCIAL INFORMATION
Item 1 Financial Statements (unaudited for periods ended September 30, 2000 and
1999):
Condensed Consolidated Balance Sheets as of September 30, 2000 and
December 31, 1999.......................................................... 3
Condensed Consolidated Statements of Income for the Three and Nine
Month Periods Ended September 30, 2000 and September 30, 1999.............. 4
Condensed Consolidated Statements of Cash Flows for the Nine
Month Periods Ended September 30, 2000 and September 30, 1999.............. 5
Notes to Condensed Consolidated Financial Statements....................... 6
Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................................. 10
Item 3 Quantitative and Qualitative Disclosures About Market Risk................. 25
PART II OTHER INFORMATION
Item 1 - Legal Proceedings.................................................. 26
Item 2 - Changes in Securities.............................................. 26
Item 3 - Defaults Upon Senior Securities.................................... 26
Item 4 - Submission of Matters to a Vote of Security Holders................ 26
Item 5 - Other Information.................................................. 26
Item 6 - Exhibits and Reports on Form 8-K................................... 26
SIGNATURE................................................................................... 27
2
PART 1 FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
POLYCOM, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
Sept. 30, Dec. 31,
2000 1999
-------------- -------------
(Unaudited)
ASSETS
Current assets
Cash and cash equivalents $186,685 $35,952
Short-term investments 24,724 24,815
Trade receivables, net of allowance for doubtful accounts of $1,726 at 59,951 47,445
September 30, 2000 and $1,304 at December 31, 1999
Inventories 36,147 18,136
Deferred taxes 15,428 9,059
Non-trade receivables 4,881 1,787
Prepaid expenses and other current assets 1,460 581
--------------- ------------
Total current assets 329,276 137,775
Fixed assets, net 15,907 9,795
Long-term investments 33,334 15,050
Other investments 8,000 ---
Licenses 7,350 ---
Noncurrent deferred taxes 1,546 1,546
Deposits and other assets 586 555
--------------- ------------
Total assets $ 395,999 $ 164,721
=============== ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Accounts payable $ 33,606 $ 26,433
Taxes payable 12,617 9,633
Other current liabilities 17,324 15,385
--------------- ------------
Total current liabilities 63,547 51,451
Stockholders' equity
Common stock 38 34
Additional paid-in capital 278,867 97,577
Unrealized loss on marketable securities (15) (85)
Unearned stock-based compensation (1,211) (1,953)
Accumulated earnings 54,773 17,697
--------------- ------------
Total stockholders' equity 332,452 113,270
--------------- ------------
Total liabilities and stockholders' equity $ 395,999 $ 164,721
=============== ============
The accompanying notes are an integral part of these condensed consolidated
financial statements
3
POLYCOM, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Three Months Ended Nine Months Ended
------------------------------- -----------------------------
Sept. 30, Sept. 30, Sept. 30, Sept. 30,
2000 1999 2000 1999
-------------- ------------ ------------ -------------
Net revenues $ 86,489 $ 52,284 $ 231,272 $ 139,579
Cost of net revenues 39,105 23,661 103,012 64,027
-------------- ------------ ------------ -------------
Gross profit 47,384 28,623 128,260 75,552
Operating expenses:
Sales and marketing 15,725 9,676 42,707 25,456
Research and development 9,225 5,719 25,157 14,690
General and administrative 4,026 2,198 10,836 5,692
Litigation reserve release --- --- (1,843) ---
-------------- ------------ ------------ -------------
Total operating expenses 28,976 17,593 76,857 45,838
-------------- ------------ ------------ -------------
Operating income 18,408 11,030 51,403 29,714
Interest income, net 2,272 454 3,905 1,149
Other income (expense) (6) (10) 30 (29)
-------------- ------------ ------------ -------------
Income before provision for income taxes 20,674 11,474 55,338 30,834
Provision for income taxes 6,828 4,252 18,262 9,368
-------------- ------------ ------------ -------------
Net income $13,846 $7,222 $37,076 $21,466
============== ============ ============ =============
Basic net income per share $ 0.19 $ 0.11 $ 0.52 $ 0.33
============== ============ ============ =============
Dilutive net income per share $ 0.18 $ 0.10 $ 0.48 $ 0.30
============== ============ ============ =============
Weighted average shares outstanding for basic EPS 73,187 66,141 70,703 64,393
============== ============ ============ =============
Weighted average shares outstanding for dilutive EPS 78,758 73,358 76,675 72,400
============== ============ ============ =============
The accompanying notes are an integral part of these condensed consolidated
financial statements
4
POLYCOM, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
Nine Months Ended
---------------------------------------
September 30, September 30,
2000 1999
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Cash flows from operating activities:
Net income $ 37,076 $ 21,466
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 5,434 3,053
Provision for doubtful accounts 1,039 218
Provision for excess and obsolete inventories 1,681 4,120
Tax benefit from exercise of stock options 21,366 5,465
Amortization of stock-based compensation 742 176
Changes in assets and liabilities:
Trade receivables (13,545) (14,663)
Inventories (19,692) (6,435)
Deferred and refundable taxes (6,369) (3,157)
Non-trade receivables (3,094) (946)
Other assets (771) (139)
Accounts payable 7,173 9,972
Taxes payable 2,984 3,533
Accrued and other liabilities 1,939 2,142
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Net cash provided by operating activities 35,963 24,805
--------------- ----------------
Cash flows from investing activities:
Acquisition of fixed assets (10,714) (5,507)
Purchase of licenses (8,321) ---
Proceeds from sale and maturity of investments 33,630 8,179
Purchases of investments (59,753) (25,651)
Other --- 250
--------------- ----------------
Net cash used in investing activities (45,158) (22,729)
--------------- ----------------
Cash flows from financing activities:
Net proceeds from stock offering 148,293 ---
Proceeds from issuance of common stock 11,635 3,665
Proceeds from exercise of warrants --- 15,000
Distribution to owners of Atlas --- (103)
--------------- ----------------
Net cash provided by financing activities 159,928 18,562
--------------- ----------------
Net increase in cash and cash equivalents 150,733 20,638
Cash and cash equivalents, beginning of period 35,952 18,006
--------------- ----------------
Cash and cash equivalents, end of period $ 186,685 $ 38,644
=============== ================
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Income taxes paid $ 204 $ 3,504
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
POLYCOM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
The condensed consolidated balance sheet as of September 30, 2000, the condensed
consolidated statements of income for the three and nine month periods ended
September 30, 2000 and 1999 and condensed consolidated statements of cash flows
for the nine month periods ended September 30, 2000 and 1999 have been prepared
by the Company without audit. The condensed consolidated balance sheet at
December 31, 1999 has been derived from the audited financial statements as of
that date.
The preparation of financial statements in conformity with United States'
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported
period. Actual results could differ from those estimates. In the opinion of
management, all adjustments (which include only normal recurring adjustments)
necessary to present fairly the financial position, results of operations and
cash flows at September 30, 2000 and for all periods presented have been made.
The Company uses a 52-53 week fiscal year. As a result, a fiscal year may not
end as of the same day as the calendar period. However, for convenience of
presentation, the accompanying consolidated financial statements have been shown
as ending on September 30 and December 31 of each applicable period.
Certain items in prior year's financial statements have been reclassified to
conform to current year's format.
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 the Securities and Exchange
Commission rules and regulations. These condensed financial statements should be
read in conjunction with the audited financial statements and notes thereto
included in the Company's Report on Form 10-K for the year ended December 31,
1999 filed with the Securities and Exchange Commission.
2. INVENTORIES
Inventories are stated at the lower of cost or market. Cost is determined in a
manner which approximates the first-in, first-out ("FIFO") method. Inventories
consisted of the following (in thousands):
Sept. 30, Dec. 31,
2000 1999
---- ----
Raw Materials $ 4,103 $ 1,542
Finished Goods 32,044 16,594
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$ 36,147 $ 18,136
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3. BANK LINE OF CREDIT
The Company has available a $15.0 million revolving line of credit under an
agreement with a bank. Borrowings under the line are unsecured and bear interest
at the bank's prime rate (9.5% at September 30, 2000) or at an offshore
interbank offered rate (IBOR) plus 0.65% (approximately 7.20% to 7.86%,
depending on the term of the borrowings at September 30, 2000). Borrowings under
the line are subject to certain financial covenants and restrictions on
liquidity, indebtedness, financial guarantees, business combinations,
profitability levels, and other related items. The line expires on October 31,
2002 but may be renewed by the Company for an additional year so long as certain
liquidity measures are met at the time of renewal.
6
4. PER SHARE INFORMATION
In accordance with the disclosure requirements of the Statement of Financial
Standards (SFAS) No. 128, a reconciliation of the numerator and denominator of
basic and diluted EPS is provided as follows (in thousands except per share
amounts).
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------------- ---------------------------
2000 1999 2000 1999
-------------- ----------- ----------- -----------
Numerator - basic and diluted EPS
Net income $ 13,846 $ 7,222 $ 37,076 $ 21,466
============== =========== =========== ===========
Denominator - basic EPS
Weighted average common stock outstanding 73,527 67,785 71,392 66,414
Shares subject to repurchase (340) (1,644) (689) (2,021)
-------------- ----------- ----------- -----------
Total shares used in calculation of basic EPS 73,187 66,141 70,703 64,393
============== =========== =========== ===========
Basic net income per share $ 0.19 $ 0.11 $ 0.52 $ 0.33
============== =========== =========== ===========
Denominator - diluted EPS
Denominator - basic EPS 73,187 66,141 70,703 64,393
Effect of dilutive securities:
Common stock options 5,231 5,573 5,283 5,422
Shares subject to repurchase 340 1,644 689 2,021
Convertible warrants --- --- --- 564
-------------- ----------- ----------- -----------
Total shares used in calculation of diluted EPS 78,758 73,358 76,675 72,400
============== =========== =========== ===========
Diluted net income per share $ 0.18 $ 0.10 $ 0.48 $ 0.30
============== =========== =========== ===========
5. BUSINESS SEGMENT INFORMATION:
The Company operates in one business segment, named Communications, and markets
its products in the United States and in foreign countries through resellers.
The percentage of total net revenues for the Video Communications, Voice
Communications and Network Access product lines were as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
2000 1999 2000 1999
----------- -------- ---------- ---------
Video communications 70% 67% 67% 61%
Voice communications 20% 31% 27% 36%
Network access products 10% 2% 6% 3%
----------- -------- ---------- ---------
Total net revenues 100% 100% 100% 100%
=========== ======== ========== =========
6. LITIGATION
On September 3, 1997, VTEL Corporation (VTEL) filed a lawsuit in the State
District Court in Travis County, Texas against ViaVideo Communications, Inc., a
subsidiary of Polycom, and its founders (who were formerly employed by VTEL). On
May 27, 1998, VTEL amended its suit to add Polycom as a defendant. In the
lawsuit, VTEL alleged breach of contract, breach of confidential relationship,
disclosure of proprietary information and related allegations. ViaVideo, its
founders and Polycom answered the suit, denying in their entirety VTEL's
allegations. On March 3, 2000, VTEL voluntarily dismissed the allegations
against Polycom and ViaVideo with prejudice for no consideration. The remaining
balance of the accrual associated with the expenses estimated to be incurred in
connection with this lawsuit, totaling $1.8 million, was released to income
since no further material expenses will be incurred.
7
7. COMPREHENSIVE INCOME
In accordance with the disclosure requirements of SFAS No. 130, "Reporting
Comprehensive Income", the components of comprehensive income are as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ ---------------------------
(in thousands) 2000 1999 2000 1999
------------------------------ ---------------------------
Net income $ 13,846 $ 7,222 $ 37,076 $ 21,466
Increase (decrease) in unrealized loss on
marketable securities (1) (40) 70 (40)
-------------- ------------ ----------- -----------
Comprehensive income $ 13,845 $ 7,182 $ 37,146 $ 21,426
============== ============ =========== ===========
8. LICENSES
On March 3, 2000, Polycom entered into a patent licensing agreement with VTEL
Corporation (VTEL). VTEL provided a fully-paid up, royalty-free license to three
patents related to various videoconferencing technologies. In exchange for these
licenses, Polycom paid VTEL approximately $8.3 million and sublicensed to VTEL a
royalty-bearing patent for videoconferencing technology. The royalty, if any,
under the sublicense is payable to the patent holder not Polycom.
9. INVESTMENTS
The Company's investments are comprised of U.S., state and municipal government
obligations and foreign and domestic public corporate equity and debt
securities. Investments with maturities of less than one year are considered
short-term and are carried at fair value. Nearly all investments are held in the
Company's name at three major financial institutions. The specific
identification method is used to determine the cost of securities disposed of,
with realized gains and loses reflected in interest income, net. At September
30, 2000 and 1999, all of the Company's investments were classified as available
for sale. Unrealized gains and losses on these investments are included as a
separate component of stockholders' equity.
The Company also has investments in private companies. These investments are
included in "Other Investments" in the Company's balance sheet and are carried
at cost. The Company monitors these investments for impairment and makes
appropriate reductions in carrying value when necessary.
10. STOCKHOLDERS' EQUITY
PUBLIC STOCK OFFERING
In August 2000, the Company completed a public offering of 5,608,976 shares of
its common stock. The Company sold 3,451,678 of the shares and the remaining
2,157,298 shares were sold by a selling stockholder. The offering was completed
at a price of $45.438 per share for net proceeds to the Company of approximately
$148.3 million.
STOCK SPLIT
On August 2, 2000, the Company announced that its Board of Directors approved a
two-for-one split of the Company's common stock. The stock split was effected as
a stock dividend on August 31, 2000, and payable to all stockholders of record
as of August 15, 2000. All references to share and per share amounts for all
periods presented have been adjusted to give effect to this stock split.
8
11. ACQUISITION OF CIRCA COMMUNICATIONS, LTD.
In September 2000, the Company signed a definitive agreement to acquire Circa
Communications Ltd, or Circa, a Canadian corporation which develops voice over
internet protocol, or VoIP, telephony products. The Company currently
anticipates that this acquisition will be completed by the end of the first
quarter of 2001, however the acquisition is subject to the fulfillment of
certain conditions by Circa, including the general availability of certain of
Circa's VoIP products. Under the terms of the agreement, the Company will
acquire all outstanding stock and rights to acquire stock of Circa in exchange
for Polycom stock. The number of Polycom shares exchanged is dependent on
certain performance criteria. This transaction is expected to be recorded as a
purchase business combination.
12. RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities" (SFAS 133).
SFAS 133, as amended by SFAS 138, established methods of accounting for
derivative financial instruments and hedging activities related to those
instruments as well as other hedging activities, and is effective for the fiscal
years beginning after June 15, 2000. We believe that the adoption of this
pronouncement will not have a material impact on our financial position and
results of operations.
In December 1999, the Securities and Exchange Commission issued Staff Accounting
Bulletin (SAB) 101, "Revenue Recognition," which outlines the basic criteria
that must be met to recognize revenue and provide guidance for presentation of
revenue and for disclosure related to revenue recognition policies in financial
statements filed with the Securities and Exchange Commission. The effective date
of this pronouncement is the fourth quarter of the fiscal year beginning after
December 15, 1999. We believe that adopting SAB 101 will not have a material
impact on our financial position and results of operations.
In March 2000, the FASB issued FASB Interpretation No. 44, or FIN 44, Accounting
for Certain Transactions involving Stock Compensation, an interpretation of APB
Opinion No. 25. FIN 44 clarifies the application of Opinion 25 for (a) the
definition of employee for purposes of applying Opinion 25, (b) the criteria for
determining whether a plan qualifies as a noncompensatory plan, (c) the
accounting consequence for various modifications to the terms of a previously
fixed stock option or award and (d) the accounting for an exchange of stock
compensation awards in a business combination. FIN 44 is effective July 1, 2000,
but certain provisions cover specific events that occurred after either December
15, 1998 or January 12, 2000. The adoption of the provisions of FIN 44 did not
have a material effect on our financial statements.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
YOU SHOULD READ THE FOLLOWING DISCUSSION IN CONJUNCTION WITH OUR CONSOLIDATED
FINANCIAL STATEMENTS AND RELATED NOTES. EXCEPT FOR HISTORICAL INFORMATION, THE
FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF
SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934. THESE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND
UNCERTAINTIES, INCLUDING, AMONG OTHER THINGS, STATEMENTS REGARDING OUR
ANTICIPATED PRODUCT OFFERINGS, CUSTOMER AND GEOGRAPHIC REVENUE MIX, GROSS
MARGINS AND OPERATING COSTS AND EXPENSES. OUR ACTUAL RESULTS MAY DIFFER
SIGNIFICANTLY FROM THOSE PROJECTED IN THE FORWARD-LOOKING STATEMENTS. FACTORS
THAT MIGHT CAUSE FUTURE RESULTS TO DIFFER MATERIALLY FROM THOSE DISCUSSED IN THE
FORWARD-LOOKING STATEMENTS INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED IN
"OTHER FACTORS AFFECTING FUTURE OPERATIONS" AND ELSEWHERE IN THIS DOCUMENT AS
WELL AS OTHER INFORMATION SET FORTH IN POLYCOM'S FORM 10-K FOR THE YEAR ENDED
DECEMBER 31, 1999, POLYCOM'S FORM 10-Q REPORTS, POLYCOM'S PROSPECTUS DATED JULY
27, 2000, POLYCOM'S FORM S-3 FILED OCTOBER 27, 2000 AND OTHER DOCUMENTS POLYCOM
FILES FROM TIME TO TIME WITH THE SECURITIES AND EXCHANGE COMMISSION.
OVERVIEW
We were incorporated in December 1990. We were engaged principally in
research and development from inception through September 1992, when we began
volume shipments of our first voice communications product, the SoundStation.
Currently, our voice communications product line consists principally of the
SoundStation, SoundStation EX, SoundStation Premier, SoundStation Premier EX,
SoundPoint and SoundPoint Pro. In January 1998, we completed the acquisition of
ViaVideo, a development stage company that designed and developed high-quality,
low-cost, easy-to-use, group video communications systems. In February 1998, we
began customer shipments of the ViewStation product family, our video
communications equipment product line. Currently, our video communications
product line consists principally of the ViewStation 128, ViewStation 512,
ViewStation V.35, ViewStation MP, ViewStation SP, ViewStation FX, VS 4000,
ViaVideo, StreamStation, WebStation, ShowStation IP and the MeetingSite 5000. In
December 1999, we acquired Atlas Communication Engines, Inc., a privately-held,
OEM supplier of IADs, and an emerging supplier of DSL routers. In addition,
Atlas also sold non-DSL custom communications products under OEM arrangements.
Atlas' line of IADs and DSL routers, which have become our network access
product line, provides voice and data over the rapidly-growing DSL network.
Through September 30, 2000, we derived a substantial majority of our
net revenues from sales of our ViewStation, Network Access and SoundStation
products. We anticipate that the ViewStation, Network Access and SoundStation
product lines will continue to account for a significant portion of our net
revenues at least for the next twelve months. Any factor adversely affecting the
demand or supply for these products would harm our business, financial
condition, cash flows and results of operations.
10
RESULTS OF OPERATIONS
The following table sets forth, as a percentage of net revenues,
condensed consolidated statements of income data for the periods indicated.
Three Months Ended Nine Months Ended
--------------------------------- ---------------------------
Sept. 30, Sept. 30, Sept. 30, Sept. 30,
2000 1999 2000 1999
-------------- ------------ ------------ -----------
Net revenues 100 % 100 % 100 % 100 %
Cost of net revenues 45 % 45 % 45 % 46 %
-------------- ------------ ------------ -----------
Gross profit 55 % 55 % 55 % 54 %
-------------- ------------ ------------ -----------
Operating expenses:
Sales and marketing 18 % 19 % 18 % 18 %
Research and development 11 % 11 % 11 % 11 %
General and administrative 5 % 4 % 5 % 4 %
Litigation reserve release 0 % 0 % (1 %) 0 %
-------------- ------------ ------------ -----------
Total operating expenses 34 % 34 % 33 % 33 %
-------------- ------------ ------------ -----------
Operating income 21 % 21 % 22 % 21 %
Interest income, net 3 % 1 % 2 % 1 %
Other income (expense) 0 % 0 % 0 % 0 %
-------------- ------------ ------------ -----------
Income before provision for income taxes 24 % 22 % 24 % 22 %
Provision for income taxes 8 % 8 % 8 % 7 %
-------------- ------------ ------------ -----------
Net income 16 % 14 % 16 % 15 %
============== ============ ============ ===========
NET REVENUES
Net revenues for the three months ended September 30, 2000 were $86.5
million, an increase of $34.2 million, or 65%, as compared to the same period of
1999. For the nine months ended September 30, 2000, total net revenues were
$231.3 million, an increase of $91.7 million, or 66%, over the comparable period
of 1999. These increases were due primarily to an increased sales volume of
video communication products. In addition, sales volume increases in the network
access and voice communication product lines also contributed to the improvement
over 1999.
In the three and nine months ended September 30, 2000 and 1999, we
derived a substantial majority of our net revenues from sales of our video
communication, network access and voice communication products. See note 5 of
the notes to the consolidated financial statements (unaudited) for business
segment information. No customer accounted for more than 10% of our net
revenues in the three and nine month periods ended September 30, 2000. Lucent
Technologies accounted for 10% of net revenues in the three and nine month
periods ended September 30, 1999. No other customer or reseller accounted for
more than 10% of our net revenues during the three or nine month periods
ended September 30, 1999.
International net revenues, or revenues outside of North America,
accounted for 31% of net revenues for the three months ended September 30, 2000
and 34% of net revenues for the three months ended September 30, 1999.
International net revenues accounted for 33% of total net revenues for the nine
months ended September 30, 2000, and 30% of total net revenues for the nine
months ended September 30, 1999. The fluctuations in the international
percentage of our net revenues were due primarily to varying sales in the
European region. For the three months ended September 30, 2000, the decrease
over the same period last year was due to slow growth in Europe and the release
of new products initially in North America which lowered the impact of Europe's
sales on the company's overall sales. The growth for the nine months ended
September 30, 2000 over the same period of last year was due to the expansion of
our resources in this region which facilitated increased sales.
11
We anticipate that international sales will continue to account for a
significant portion of net revenues for the foreseeable future, and we plan to
continue our expansion in Europe and Asia in 2000. International sales, however,
are subject to certain inherent risks, including unexpected changes in
regulatory requirements and tariffs, difficulties in staffing and managing
foreign operations, longer payment cycles, problems in collecting accounts
receivable and potentially adverse tax consequences. Additionally, international
net revenues may fluctuate as a percentage of net revenues in the future as we
introduce new products, since we expect to initially introduce any new products
in North America and also because of the additional time required to make our
products ready for sale globally and regulatory approvals of new products in
international markets. To the extent we are unable to expand international sales
in a timely and cost-effective manner, our business could be harmed. We cannot
assure you that we will be able to maintain or increase international market
demand for our products. Additionally, to date, a substantial majority of our
international sales has been denominated in U.S. currency; however, if our
international sales were denominated in local currencies in the future, these
transactions would be subject to currency fluctuation risks. Further, beginning
January 1, 1999, the participating member countries of the European Union agreed
to adopt the European Currency Unit, or euro, as the common legal currency. On
that same date they established fixed conversion rates between their existing
sovereign currencies and the euro. The establishment of the euro has not had any
significant impact on us to date due to the fact that a substantial majority of
our international sales are denominated in U.S. currency. However, there may be
an impact in the future due to the recent weakening of the euro against the
dollar as this requires customers to convert a greater number euros into dollars
to settle their outstanding balances to us.
COST OF NET REVENUES
Cost of net revenues consists primarily of contract manufacturer costs
including material and direct labor, Polycom's manufacturing organization,
tooling depreciation, warranty expense and an allocation of overhead expenses.
The cost of net revenues as a percentage of net revenues for the three months
ended September 30, 2000 was 45%, the same as in the comparable period in 1999.
For the nine months ended September 30, 2000, the cost of net revenues as a
percentage of net revenues was 45%, and for the nine months ended September 30,
1999 the cost of net revenues as a percentage of net revenues was 46%. These
cost fluctuations are attributable to a more favorable product mix generated
from increased shipments of higher margin video products, and favorable material
price improvements, offset by a write-down of certain media server inventory,
including the ShowStation IP, to net realizable value in the first quarter of
2000 and higher shipment volumes of the lower margin network access products for
both the three and nine month periods of 2000.
Forecasting future gross margin percentages is difficult. While we
expect that our future overall cost of net revenues percentage will be within a
few percentage points of the current level, there are a number of risks
associated with maintaining our current gross margin levels. For example,
uncertainties surrounding competition, changes in technology, changes in product
mix, manufacturing efficiencies of subcontractors, manufacturing and purchased
part variances, warranty costs and timing of sales over the next few quarters
can cause our cost of net revenues percentage to fluctuate significantly.
Additionally, our IAD and DSL equipment products, VoIP products and other
desktop products have a significantly higher cost of net revenue percentage than
our ViewStation and SoundStation product lines. If the IAD, DSL, VoIP and other
desktop products grow to be become a significant revenue stream, this will have
a negative effect on our future cost of net revenues percentages. Also, we may
reduce prices on our products in the future for competitive reasons or to
stimulate demand which could increase our cost of net revenues percentage;
however, these possible price reductions may not offset competitive pressures or
stimulate demand. In addition, cost variances associated with the manufacturing
ramp of new products, such as the NetEngine, ViewStation 4000 and ViewStation FX
or any other new product, could occur which would increase our cost of net
revenues percentage. Further, gross margins associated with the ShowStation IP,
ViewStation SP and the SoundPoint Pro are lower than the targeted gross margins
of our product portfolio, yet the gross margins for the WebStation are closer to
the targeted gross margins. The contribution of these products can have a
significant impact on our overall gross margins.
In addition to the uncertainties listed above, cost of net revenues as
a percentage of net revenues may increase due to a change in the mix of
distribution channels and the mix of international versus North American
revenues. Further, we had realized lower cost of net revenues as a percentage of
net revenues on
12
our direct sales than on sales through indirect channels. Because we no longer
sell our products through a direct sales force, our profit margins have been and
will continue to be negatively impacted.
SALES AND MARKETING EXPENSES
Three Months Ended Nine Months Ended
------------------ -----------------
Sept. 30, Sept. 30, Increase Sept. 30, Sept. 30, Increase
$ in Thousands 2000 1999 (Decrease) 2000 1999 (Decrease)
- -------------- ---- ---- ---------- ---- ---- ----------
Expenses $ 15,725 $ 9,676 63 % $ 42,707 $ 25,456 68 %
% of Net Revenues 18 % 19 % (1 %) 18 % 18 % 0 %
Sales and marketing expenses consist primarily of salaries, commissions,
advertising, promotional expenses, product marketing, an allocation of overhead
expenses and customer service and support costs. The increases in sales and
marketing expenses in absolute dollars in the three and nine month periods ended
September 30, 2000 over the same periods of 1999 were primarily related to
increased advertising and promotional expenditures for our video and network
access products. Additionally, an increase in our investment in our worldwide
sales effort also contributed to the increases over 1999.
We expect to continue to increase our sales and marketing expenses in
absolute dollar amounts in an effort to expand North American and international
markets, market new products and establish and expand distribution channels. In
particular, our acquisition of Atlas expanded our product portfolio into the DSL
access market which will require significant additional marketing expenditures
to communicate the value of our new product offerings as well as significant
additional sales expenditures to develop a new sales organization for this
market. In addition, due to the innovative nature of our ViewStation,
StreamStation, ViaVideo and upcoming VoIP products, we believe we will incur
additional expenses for sales and marketing, especially advertising, to educate
potential customers as to the desirability of these products over competing
products. In addition, we will further invest in the European and Asian markets,
increasing the absolute dollars spent in this area. Also, the launch of the
StreamStation product, a product that streams point-to-point or multipoint video
communications using the ViewStation to the Web, as well as VoIP and other
potential desktop products, will cause an increase in our sales and marketing
expenses. Further, we are currently expanding our service organization to
provide expanded and improved support for our products which will increase our
sales and marketing expenses.
RESEARCH AND DEVELOPMENT EXPENSES
Three Months Ended Nine Months Ended
------------------ -----------------
Sept. 30, Sept. 30, Increase Sept. 30, Sept. 30, Increase
$ in Thousands 2000 1999 (Decrease) 2000 1999 (Decrease)
- -------------- ---- ---- ---------- ---- ---- ----------
Expenses $ 9,225 $ 5,719 61 % $ 25,157 $ 14,690 71 %
% of Net Revenues 11 % 11 % 0 % 11 % 11 % 0 %
Research and development expenses consist primarily of compensation
costs, consulting fees, depreciation and an allocation of overhead expenses.
Expense increases in video, voice and network access product development all
contributed to the total increase for the three and nine month periods ended
September 30, 2000 over the respective comparable periods of 1999. As of
September 30, 2000, all research and development costs have been expensed as
incurred.
We believe that technological leadership is critical to our success and
we are committed to continuing a high level of research and development. Also,
continued investment in new product initiatives such as DSL access, VoIP and
desktop products will require significant research and development spending.
Consequently, we intend to increase research and development expenses in
absolute dollars and as a percentage of net revenues in the future. However, due
to the extremely competitive hiring market in the high-technology industries, we
may not be able to find or hire qualified personnel in a timely manner or
13
at all. In fact, we established a development office in Boston, Massachusetts in
1999 in an attempt to broaden our recruiting of top technical talent.
GENERAL AND ADMINISTRATIVE EXPENSES
Three Months Ended Nine Months Ended
------------------ -----------------
Sept. 30, Sept. 30, Increase Sept. 30, Sept. 30, Increase
$ in Thousands 2000 1999 (Decrease) 2000 1999 (decrease)
- -------------- ---- ---- ---------- ---- ---- ----------
Expenses $ 4,026 $ 2,198 83 % $ 10,836 $ 5,692 90 %
% of Net Revenues 5 % 4 % 1 % 5 % 4 % 1 %
General and administrative expenses consist primarily of compensation
costs, an allocation of overhead expenses, bad debt write-offs, legal expenses
and accounting expenses. The increases in general and administrative expenses in
the three and nine month periods ended September 30, 2000 over the comparable
periods of 1999 were due to increased staffing and infrastructure costs to
support our growth, including the conversion of our management information
system, expansions in Europe and Asia, and higher bad debt expense.
We believe that our general and administrative expenses will increase
in absolute dollar amounts in the future primarily as a result of expansion of
our administrative staff and costs related to supporting a larger company. These
additional charges include expenses related to a new information system, a new
tax deferral strategy and infrastructure charges related to the significant
investments being made in Europe and Asia. Additionally, write-offs associated
with bad debt are difficult to predict and material write-offs could negatively
affect our profitability in the quarter they are realized.
LITIGATION RESERVE RELEASE
On September 3, 1997, VTEL Corporation (VTEL) filed a lawsuit in the
State District Court in Travis County, Texas against ViaVideo Communications,
Inc., a subsidiary of Polycom, and its founders (who were formerly employed by
VTEL). On May 27, 1998, VTEL amended its suit to add Polycom as a defendant. In
the lawsuit, VTEL alleged breach of contract, breach of confidential
relationship, disclosure of proprietary information and related allegations.
ViaVideo, its founders and Polycom answered the suit, denying in their entirety
VTEL's allegations. On March 3, 2000, VTEL voluntarily dismissed the allegations
against Polycom and ViaVideo with prejudice for no consideration. As a one-time
item in the first quarter of 2000, the excess accrual associated with the
expenses we estimated we would incur in connection with this lawsuit, totaling
$1.8 million, was released to income since no further material expenses will be
incurred.
INTEREST INCOME, NET
Interest income, net consists of interest earned on our cash, cash
equivalents and investments less bank charges resulting from the use of
Polycom's bank accounts and interest expense from Polycom's credit facilities.
Interest income, net of interest expense was $2.3 million and $0.5 million for
the three months ended September 30, 2000 and 1999, respectively. For the nine
months ended September 30, 2000 and 1999, interest income, net of interest
expense was $3.9 million and $1.1 million, respectively. The fluctuations in
interest income, net are due primarily to changes in average cash and investment
balances throughout the year the most significant of which relates to the
secondary stock offering which raised $148.3 million in the third quarter of
2000.
PROVISION FOR INCOME TAXES
The provision for income taxes for the three months ended September 30,
2000 was $6.8 million and $4.3 million for the three months ended September 30,
1999. For the nine months ended September 30, 2000, the provision for income
taxes was $18.3 million compared to $9.4 million for the nine months ended
September 30, 1999. The increase in income taxes for the current three and nine
period over the same periods last year were due to our increased profitability
offset by a reduction in the tax provision rate
14
associated with the recent development and implementation of our international
structure. Additionally, the valuation allowance established in prior years was
reversed in the three months ended March 31, 1999 due to our belief that the
deferred tax assets will more likely than not be realized.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 2000, our principal sources of liquidity included
cash and cash equivalents of $186.7 million, short-term investments of $24.7
million and long-term investments of $33.3 million. Additionally, we have a
$15.0 million line of credit with a bank and $8.0 million in other investments
related to non-marketable securities. The line of credit facility contains
provisions that require the maintenance of certain financial ratios and
profitability requirements. As of September 30, 2000, we were in compliance with
these covenants.
We generated cash from operating activities totaling $36.0 million for
the nine month period ended September 30, 2000, and $24.8 million for the nine
month period ended September 30, 1999. The improvement in cash from operating
activities in the 2000 period over the same period of 1999 was due primarily to
the improvements in net income before non-cash items and an increase in the tax
benefit from the exercise of employee stock options. This improvement was offset
somewhat by higher growth in inventories, non-trade receivables and deferred
taxes and a lower increase in current liabilities.
The total net change in cash and cash equivalents for the nine months
ended September 30, 2000 was an increase of $150.7 million. The primary sources
of cash were $148.3 million from a follow-on stock offering (net of issuance
costs), $36.0 million from operating activities and $11.6 million associated
with the exercise of stock options and purchases under the employee stock
purchase plan. The primary uses of cash during this same period were $26.1
million for net purchases of investments, $10.7 million for purchases of
property, plant and equipment and $8.3 million for purchases of licenses. The
positive cash from operating activities was primarily the result of positive net
income before considering non-cash expenses such as depreciation and
amortization, the tax benefits from the exercise of employee stock options and
higher total current liabilities (including accounts payable and taxes payable),
offset by an increase in inventories, trade and non-trade receivables, deferred
taxes and other assets.
Our material commitments consist of obligations under our operating
leases. We also maintain, from time to time, commercial letters of credit as
payments for the importation of certain products. These amounts do not exceed
$300,000 and are outstanding less than 120 days. In addition, our bank has
issued letters of credit to secure the leases on some of our offices. These
letters of credit total less than $200,000 and are secured by our credit
facilities or cash deposits with our banks.
In August 2000, we completed the public offering of 5,608,976 shares of
common stock at a price of $45.438 per share. Of the shares sold, approximately
3.5 million shares were sold by us for net proceeds of approximately $148.3
million, and the balance of shares were sold by a selling stockholder. We intend
to use the net proceeds from this sale primarily for general corporate purposes,
including working capital and capital expenditures. A portion of the proceeds
may also be used to acquire or invest in complementary businesses or products or
to obtain the right to use complementary technologies. Pending such uses, we
intend to invest the net proceeds from this sale in short-term and long-term,
interest-bearing, investment grade obligations.
We believe that our available cash, cash equivalents, investments, the
proceeds from the recent stock offering and our bank line of credit will be
sufficient to meet our operating expenses and capital requirements through at
least the next twelve months. Our future liquidity and cash requirements will
depend on numerous factors, including the introduction of new products and
potential acquisitions of related businesses or technologies.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board (FASB) issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities"
(SFAS 133). SFAS 133, as amended by SFAS 138, established methods of accounting
for derivative financial instruments and hedging activities related to those
instruments as well as other hedging activities, and is effective for the fiscal
years beginning
15
after June 15, 2000. We believe that the adoption of this pronouncement will not
have a material impact on our financial position and results of operations.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin (SAB) 101, "Revenue Recognition," which outlines the basic
criteria that must be met to recognize revenue and provide guidance for
presentation of revenue and for disclosure related to revenue recognition
policies in financial statements filed with the Securities and Exchange
Commission. The effective date of this pronouncement is the fourth quarter of
the fiscal year beginning after December 15, 1999. We believe that adopting SAB
101 will not have a material impact on our financial position and results of
operations.
In March 2000, the FASB issued FASB Interpretation No. 44, or FIN 44,
Accounting for Certain Transactions involving Stock Compensation, an
interpretation of APB Opinion No. 25. FIN 44 clarifies the application of
Opinion 25 for (a) the definition of employee for purposes of applying Opinion
25, (b) the criteria for determining whether a plan qualifies as a
noncompensatory plan, (c) the accounting consequence for various modifications
to the terms of a previously fixed stock option or award and (d) the accounting
for an exchange of stock compensation awards in a business combination. FIN 44
is effective July 1, 2000, but certain provisions cover specific events that
occurred after either December 15, 1998 or January 12, 2000. The adoption of the
provisions of FIN 44 did not have a material effect on our financial statements.
FACTORS THAT MAY AFFECT FUTURE PERFORMANCE
INVESTORS SHOULD CAREFULLY CONSIDER THE RISKS DESCRIBED BELOW. THE RISKS
DESCRIBED BELOW ARE NOT THE ONLY ONES FACING OUR COMPANY. ADDITIONAL RISKS WE
ARE NOT PRESENTLY AWARE OF OR THAT WE CURRENTLY BELIEVE ARE IMMATERIAL MAY ALSO
IMPAIR OUR BUSINESS OPERATIONS. OUR BUSINESS COULD BE HARMED BY ANY OF THESE
RISKS. THE TRADING PRICE OF OUR COMMON STOCK COULD DECLINE DUE TO ANY OF THESE
RISKS.
OUR QUARTERLY OPERATING RESULTS FLUCTUATE SIGNIFICANTLY AND WE MAY NOT BE ABLE
TO MAINTAIN OUR EXISTING GROWTH RATES.
Our quarterly operating results have fluctuated significantly in the
past and may vary significantly in the future as a result of a number of
factors. These factors include:
o market acceptance of new product introductions and product
enhancements by us or our competitors;
o our prices and those of our competitors' products;
o the timing and size of the orders for our products;
o the mix of products sold;
o fluctuations in the level of international sales;
o the cost and availability of components;
o manufacturing costs;
o the level and cost of warranty claims;
o changes in our distribution network;
o the level of royalties to third parties; and
o changes in general economic conditions.
Although we have had significant revenue growth in recent quarters,
fluctuations in our quarterly operating results due to these or other factors
could prevent us from sustaining these growth rates, and you should not use
these past results to predict future operating margins and results. In
particular, our quarterly revenues and operating results depend upon the volume
and timing of customer orders received during a given quarter, and the
percentage of each order which we are able to ship and recognize as revenue
during each quarter, each of which is difficult to forecast. In addition, the
majority of our orders in a given quarter historically have been shipped in the
third month of that quarter. If this trend continues, any failure or delay in
the closing of orders during the last part of a quarter will seriously harm our
business.
16
As a result of these and other factors, we believe that
period-to-period comparisons of our historical results of operations are not a
good predictor of our future performance. If our future operating results are
below the expectations of stock market analysts, our stock price will decline.
DIFFICULTY IN ESTIMATING CUSTOMER ORDERS COULD HARM OUR OPERATING RESULTS.
We typically ship products within a short time after we receive an
order and historically have had no material backlog. As a result, backlog, at
any point in time, is not a good indicator of future net revenues, and net
revenues for any particular quarter cannot be predicted with any degree of
accuracy. Additionally, orders from our reseller customers are based on the
level of demand from end-users. The uncertainty of end-user demand means that
any quarter could be significantly negatively impacted by lower end-user orders,
which could in turn negatively affect orders we receive from our resellers.
Accordingly, our expectations for both short- and long-term future net revenues
are based almost exclusively on our own estimate of future demand and not on
firm reseller orders. Expense levels are based, in part, on these estimates.
Since a majority of our customer orders are received in the last month of a
quarter, we are limited in our ability to reduce expenses quickly if for any
reason orders and net revenues do not meet our expectations in a particular
period. In addition, we have historically experienced a lag in demand during the
summer months, which adds to the level of difficulty in predicting revenue
levels.
WE DEPEND ON DISTRIBUTORS AND RESELLERS TO SELL OUR PRODUCTS, AND WE ARE SUBJECT
TO RISKS ASSOCIATED WITH THEIR INVENTORIES OF OUR PRODUCTS, THEIR PRODUCT
SELL-THROUGH AND THE SUCCESS OF THEIR BUSINESSES.
We sell a significant amount of our products to distributors and
resellers who maintain their own inventory of products for sale to dealers and
end-users. A substantial percentage of the total products sold during a
particular quarter consists of distributor stocking orders. We typically provide
special cost or early payment incentives for distributors to purchase the
minimum or more than the minimum quantities required under their agreements with
us. If these resellers are unable to sell an adequate amount of their inventory
of our products in a given quarter to dealers and end-users or if resellers
decide to decrease their inventories, it would negatively affect the volume of
our sales to these resellers and also negatively affect our net revenues. Also,
if we choose to eliminate or reduce stocking incentive programs, quarterly
revenues may fail to meet our expectations or be lower than historical levels.
Our revenue estimates are based largely on end-user sales reports that
our resellers provide to us on a monthly basis. To date, we believe this data
has been generally accurate in North America but less reliable outside of this
region. To the extent that this sales and channel inventory data is inaccurate
in either North America or outside of North America, we may not be able to make
revenue estimates or may find that our previous estimates were inaccurate.
Many of our distributors and resellers that carry multiple Polycom
product lines, and from whom we derive significant revenues, are
undercapitalized. The failure of these businesses to establish and sustain
profitability or obtain financing could have a significant negative effect on
our future revenue levels and profitability. For example, in the third quarter
of 2000, we increased our bad debt provision by $0.6 million related to a
specific reseller. The loss of distributors or resellers could harm our
business. Lucent Technologies, one of our larger resellers, has spun off its
business equipment division, now known as Avaya Inc. We do not yet know how this
spin-off will affect us. In connection with this restructuring, if the combined
business from Lucent and Avaya yields a significant reduction in the amount of
orders to us, it could harm our business.
Late in the first quarter of 2000, we began shipping the ViewStation FX
product. The timing of this delivery date likely created confusion in our
reseller customer base and end-user customer market as these groups waited to
see if this new ViewStation product was more desirable than the existing
products. Therefore, the timing of this new product release likely had a
negative effect on our 2000 first quarter sales-in to resellers and sales-out to
end-users. We cannot assure you that a similar situation will not happen again.
17
WE MAY EXPERIENCE DELAYS IN PRODUCT INTRODUCTIONS AND OUR PRODUCTS MAY CONTAIN
DEFECTS WHICH COULD ADVERSELY AFFECT MARKET ACCEPTANCE FOR THESE PRODUCTS AND
OUR REPUTATION AND SERIOUSLY HARM OUR RESULTS OF OPERATIONS.
Since the beginning of 1998, our revenue growth has been due in large
part to new product introductions in the video communications product line.
Although we are continuing to introduce new products, such as the ViaVideo,
ViewStation 4000, ViewStation FX and SoundPoint Pro 3.0 products, we cannot
assure you that new product releases will be timely or that they will be made at
all. In fact, the ViewStation FX and ViaVideo were delayed from their original
release dates, which we believe negatively affected our net revenues in the
first nine months of 2000. Additionally, we cannot assure you that any new or
existing product introductions will be free from defects or produce the revenue
growth experienced in 1998 and 1999.
In the past we have experienced other delays in the introduction of
certain new products and enhancements and believe that such delays may occur in
the future. For instance, we experienced delays in introducing the ViewStation
MP and WebStation in 1998 from their original expected release dates due to
unforeseen technology and manufacturing ramping issues. Similar delays occurred
during the introduction of the ShowStation IP, SoundStation Premier and
ShowStation, affecting the first customer ship dates of these products. Any
similar delays in the future for other new product offerings such as VoIP,
desktop or other product line extensions could adversely affect market
acceptance for these products and our reputation and seriously harm our results
of operations. Further, due to the dynamic nature of the network access market
sector, any delays in NetEngine product line extensions would seriously harm our
business.
WE HAVE LIMITED SUPPLY SOURCES FOR SOME KEY COMPONENTS OF OUR PRODUCTS, AND OUR
OPERATIONS COULD BE HARMED BY SUPPLY INTERRUPTIONS, COMPONENT DEFECTS OR
UNAVAILABILITY OF THESE COMPONENTS.
Some key components used in our products are currently available from
only one source and others are available from only a limited number of sources,
including some key integrated circuits and optical elements. We also obtain
certain plastic housings, metal castings and other components from suppliers
located in Singapore and China, and any political or economic instability in
that region in the future, or future import restrictions, may cause delays or an
inability to obtain these supplies. We have no supply commitments from our
suppliers and generally purchase components on a purchase order basis either
directly or through our contract manufacturers. We and our contract
manufacturers have had limited experience purchasing volume supplies of various
components for our product lines and some of the components included in our
products, such as microprocessors and other integrated circuits, have from time
to time been subject to limited allocations by suppliers. In the event that we
or our contract manufacturers were unable to obtain sufficient supplies of
components or develop alternative sources as needed, our operating results could
be seriously harmed. In particular we have recently encountered some development
delays and component shortages relating to our network access products, and if
such conditions continue, our business will suffer. Moreover, our operating
results would be seriously harmed by receipt of a significant number of
defective components, an increase in component prices or our inability to obtain
lower component prices in response to competitive price reductions.
Additionally, our video communications products are designed based on integrated
circuits produced by Philips and video equipment produced by Sony. If we could
no longer obtain integrated circuits or video equipment from these suppliers, we
would incur substantial expense and take substantial time in redesigning our
products to be compatible with components from other manufacturers, and we
cannot assure you that we would be successful in obtaining these components from
alternative sources in a timely or cost-effective manner. Additionally, both
Sony and Philips are our competitors in the video communications market, which
may adversely affect our ability to obtain necessary components. The failure to
obtain adequate supplies could prevent or delay product shipments, which could
harm our business. We also rely on the introduction schedules of some key
components in the development or launch of new products, in particular, our
network access products. Any delays in the availability of these key components
could harm our business.
18
WE RELY ON THIRD-PARTY LICENSE AGREEMENTS AND TERMINATION OR IMPAIRMENT OF THESE
AGREEMENTS MAY CAUSE DELAYS OR REDUCTIONS IN PRODUCT INTRODUCTIONS OR SHIPMENTS,
WHICH WOULD HARM OUR BUSINESS.
We have licensing agreements with various suppliers for software
incorporated into our products. For example, we license video communications
source code from RADVision, Telesoft, Omnitel, Adtran and EBSNet, video
algorithm protocols from Real Networks and Ezenia!, development source code from
Digital Equipment and Philips Semiconductor, audio algorithms from Lucent
Technologies, communication software from DataBeam, digitizer and pen software
from Scriptel and Windows software from Microsoft. In addition, for our new
network access products, we have interoperability agreements with Jetstream
Communications and Tollbridge Technologies, and we depend significantly on these
agreements and our ability to secure similar licenses from other gateway
providers. These third-party software licenses may not continue to be available
to us on commercially reasonable terms, if at all. The termination or impairment
of these licenses could result in delays or reductions in new product
introductions or current product shipments until equivalent software could be
developed, licensed and integrated, if at all possible, which would harm our
business.
LOWER THAN EXPECTED MARKET ACCEPTANCE OF OUR PRODUCTS AND PRICE COMPETITION
WOULD NEGATIVELY IMPACT OUR BUSINESS.
If our products are not accepted by the market, our profitability could
be harmed. For example, we lowered the price of the ShowStation IP by 23%
effective March 1999 due to market acceptance issues for this product. Similar
price reductions and demand issues could occur for any of our products which
could negatively impact our net revenues and profitability. Further, through the
end of 1999, growth rates of voice and video product sales from our sales
channels to end-users have been significant. Future growth rates for these and
our other products may not achieve these levels of growth, and sales of our
video products were down slightly in the first quarter of 2000 from the fourth
quarter of 1999.
Our profitability could also be negatively affected in the future as a
result of continuing competitive price pressure in the conferencing equipment
and network access device markets. Although past price reductions have been
driven by our desire to expand the market for our products, and we expect that
in the future we may further reduce prices or introduce new products that carry
lower margins in order to further expand the market or to respond to competitive
pricing pressures, such actions may not have the desired impact.
INTERNATIONAL SALES ARE ACCOUNTING FOR AN INCREASING PORTION OF OUR NET
REVENUES, AND RISKS INHERENT IN INTERNATIONAL SALES COULD HARM OUR BUSINESS.
International sales are accounting for an increasing portion of our net
revenues, and we anticipate that international sales will continue to account
for a significant portion of our net revenues for the foreseeable future.
International sales are subject to certain inherent risks, including unexpected
changes in regulatory requirements and tariffs, difficulties in staffing and
managing foreign operations, longer payment cycles, problems in collecting
accounts receivable and potentially adverse tax consequences. Additionally,
international net revenues may fluctuate as a percentage of net revenues in the
future as we introduce new products, since we expect to initially introduce any
new products in North America and also because of the additional time required
for product homologation and regulatory approvals of new products in
international markets. To the extent we are unable to expand international sales
in a timely and cost-effective manner, our business could be harmed. We cannot
assure you that we will be able to maintain or increase international market
demand for our products. Additionally, to date, a substantial majority of our
international sales has been denominated in U.S. currency; however, if
international sales were denominated in local currencies in the future, these
transactions would be subject to currency fluctuation risks.
19
OUR BUSINESS COULD SUFFER AS A RESULT OF OUR INTEGRATION OF ATLAS COMMUNICATION
ENGINES OR OTHER ACQUIRED COMPANIES.
We completed the acquisition of Atlas Communication Engines, or Atlas,
in December 1999. The integration of Atlas' product offerings and operations
with our product offerings and operations and the coordination of the two
companies' sales and marketing efforts have required substantial attention from
management. The diversion of the attention of management and any difficulties
encountered in the transition process could harm our business. The difficulties
of assimilation may be increased by the necessity of integrating personnel with
disparate business backgrounds and combining two different corporate cultures
which may result in problems with employee retention. In addition, the process
of combining the two organizations could cause the interruption of, or a loss of
momentum in, the activities of either or both of the companies' businesses,
which could have an adverse effect on the combined operations. As a result of
the acquisition, our cost of sales and operating expenses will likely increase
in absolute dollars. In fact, we are currently recruiting both management and
technical staff to be added to this group. Should future expected revenues from
Atlas' products not occur, or occur later or in an amount less than expected,
the higher costs and expenses could harm our business. We may make additional
acquisitions in the future. Failure to achieve the anticipated benefits of any
acquisition or to successfully integrate the operations of the companies could
also harm our business and results of operations. Additionally, we cannot assure
you that we will not incur material charges in future quarters to reflect
additional costs associated with any future acquisitions we may make.
THE COMPLETION OF OUR ACQUISITION OF CIRCA COMMUNICATIONS LTD. IS CONTINGENT
UPON CERTAIN CONDITIONS.
In September 2000, we signed a definitive agreement to acquire Circa
Communications Ltd, or Circa, a Canadian corporation which develops voice over
internet protocol, or VoIP, telephony products. We believe that the acquisition
of Circa will augment our VoIP technology, product development and product
offerings. We currently anticipate that this acquisition will be completed by
the end of the first quarter of 2001, however the acquisition is subject to the
fulfillment of certain conditions by Circa, including the general availability
of certain of Circa's VoIP products. In the event that Circa does not satisfy
the conditions required for us to complete the acquisition, it is probable we
will not consummate the acquisition. If we do not consummate the Circa
acquisition, our plans to augment our VoIP technology, product development and
product offerings would be delayed, and this delay would harm our business.
CONFLICTS WITH OUR CHANNEL PARTNERS COULD HURT SALES OF OUR PRODUCTS.
We have various OEM agreements with some major telecommunications
equipment manufacturers, such as Lucent Technologies, whereby we manufacture our
products to work with the equipment of the OEM. These relationships can create
channel conflicts with our other distributors who directly compete with the OEM
partner, which could adversely affect revenue from non-OEM channels. Because
many of our distributors also sell equipment that competes with our product
lines, the distributors could devote more attention to the other product lines,
which could harm our business. Further, other channel conflicts could arise
which cause distributors to devote resources to other non-Polycom communications
equipment, which would negatively affect our business or results of operations.
We currently have agreements with video communications equipment
suppliers under which these equipment suppliers resell our SoundPoint PC voice
products along with their video communications products. We compete with these
equipment suppliers in the voice conferencing market and, as such, we cannot
assure you that they will enter into future agreements to resell or supply any
of our new or enhanced conferencing products. Further, some of our current video
products and video products under development are directly competitive with the
products of these suppliers. As a consequence, competition between us and these
suppliers is likely to increase, resulting in a strain on the existing
relationship between the companies. Any such strain could limit the potential
contribution of these relationships to our business.
In addition, we depend on several key agreements, including our
agreement with Jetstream Communications in the network access products market.
Conflicts may occur in this evolving market as we seek other relationships.
These conflicts could harm our business.
20
OUR SUCCESS DEPENDS ON OUR ABILITY TO ASSIMILATE NEW TECHNOLOGIES IN OUR
PRODUCTS AND TO PROPERLY TRAIN OUR RESELLERS IN THE USE OF THOSE PRODUCTS.
The markets for voice and video communications products and network
access products are characterized by rapidly changing technology, evolving
industry standards and frequent new product introductions. The success of our
new products depends on several factors, including proper new product
definition, product cost, timely completion and introduction of new products,
differentiation of new products from those of our competitors and market
acceptance of these products. Additionally, properly addressing the complexities
associated with DSL and ISDN compatibility, reseller training, technical and
sales support as well as field support are also factors that may affect our
success in this market. Further, the shift of communications from
circuit-switched to IP-based technologies over time may require us to add new
resellers and gain new core technological competencies. We are attempting to
address these needs and the need to develop new products through our internal
development efforts and joint developments with other companies. We cannot
assure you that we will successfully identify new voice, video and network
access product opportunities and develop and bring new voice, video and network
access products to market in a timely manner. Further, we cannot assure you that
competing technologies developed by others will not render our products or
technologies obsolete or noncompetitive. The failure of our new voice, video and
network access product development efforts and any inability to service or
maintain the necessary third-party interoperability licenses would harm our
business and results of operations.
MANUFACTURING DISRUPTIONS OR CAPACITY CONSTRAINTS WOULD HARM OUR BUSINESS.
We subcontract the manufacture of our SoundStation, SoundStation
Premier, SoundPoint Pro and ViewStation product families and are currently
migrating the production of our new network access products to Celestica, a
third-party contract manufacturer. We use Celestica's Thailand facilities,
and should there be any disruption in services due to natural disaster or
economic or political difficulties in Thailand and Asia, or for any other
reason, such disruption would harm our business and results of operations.
Also, Celestica is currently the sole source manufacturer of these product
lines, and if this subcontractor experiences an interruption in operations or
otherwise suffers from capacity constraints, we would experience a delay in
shipping these products and we may not be able to meet any demand for our
products, either of which could negatively affect revenues in the quarter of
the disruption and harm our reputation. In addition, operating in the
international environment exposes us to certain inherent risks, including
unexpected changes in regulatory requirements and tariffs, difficulties in
staffing and managing foreign operations and potentially adverse tax
consequences, all of which could harm our business and results of operations.
PRODUCT OBSOLESCENCE AND OTHER ASSET IMPAIRMENT CAN NEGATIVELY AFFECT OUR
RESULTS OF OPERATIONS.
We operate in a high technology market which is subject to rapid and
frequent technology changes. These technology changes can and do often render
existing technologies obsolete. These obsolescence issues can require
write-downs in inventory value when it is determined that the existing inventory
cannot be sold at or above net realizable value. This situation occurred during
the first quarter of 2000 for the ShowStation IP when we recorded additional
excess and obsolescence charges. In addition, if the introduction of our
SoundPoint Pro product has a materially negative effect on the future sales of
our SoundPoint product, our net revenues could be reduced and an excess and
obsolescence issue concerning our SoundPoint inventory could result, which could
lower our profitability. The potential for new products to render existing
products obsolete or reduce the demand for existing products exists for every
one of our products. We cannot assure you that future inventory, investment,
license, fixed asset or other asset writedowns will not happen. If future
writedowns do occur, they could harm our business.
OUR RECENT TRANSITION TO A NEW ENTERPRISE RESOURCE PLANNING SYSTEM COULD
ADVERSELY AFFECT OUR OPERATIONS.
We recently migrated our operations to a new enterprise resource
planning system which affects almost every facet of our business operations.
Typically, these conversions negatively affect a company's ability to conduct
business initially due to problems such as historical data conversion errors,
the required
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personnel training time associated with the new system, delays in
implementation or unforeseen technical problems during conversion. If problems
arise during this transition, we could experience delays in or lack of shipping,
an inability to support our existing customer base, delays in paying vendors,
delays in collecting from customers, an inability to place or receive product
orders or other operational problems. If this were to occur, our profitability
or financial position could be negatively impacted.
FAILURE TO ADEQUATELY SERVICE AND SUPPORT OUR PRODUCTS COULD HARM OUR RESULTS OF
OPERATIONS.
Our recent growth has been due in large part to an expansion into
product lines with more complex technologies and protocols, including our
recently introduced network access products. This has increased the need for
increased product warranty and service capabilities. If we cannot develop and
train our internal support organization or maintain our relationship with our
outside technical support, it could harm our business.
OUR CASH FLOW COULD FLUCTUATE DUE TO OUR ABILITY TO COLLECT RECEIVABLES.
In 1999 and through the first nine months of 2000, we initiated a
significant investment in Europe and Asia to expand our business in these
regions. In Europe and Asia, as with other international regions, credit terms
are typically longer than in the United States. Therefore, as Europe, Asia and
other international regions grow as a percentage of our net revenues, as
happened in 1999 and through the first nine months of 2000, accounts receivable
balances will likely increase over previous years. Additionally, sales in the
network access and video communications markets typically have longer payment
periods over our traditional experience in the voice communications market.
Therefore, if network access and video products constitute a greater percentage
of net revenues, accounts receivable balances will likely increase. These
increases would cause our days sales outstanding to increase over prior years
and will negatively affect future cash flows. Although we have been able to
offset the effects of these influences through additional incentives offered to
resellers at the end of the quarter in the form of prepaid discounts, these
additional incentives have lowered our profitability.
OUR STOCK PRICE FLUCTUATES AS A RESULT OF THE CONDUCT OF OUR BUSINESS AND STOCK
MARKET FLUCTUATIONS.
The market price of our common stock has experienced significant
fluctuations and may continue to fluctuate significantly. The market price of
our common stock may be significantly affected by a variety of factors,
including:
o statements or changes in opinions, ratings or earnings
estimates made by brokerage firms or industry analysts
relating to the market in which we do business or relating to
us specifically;
o the announcement of new products or product enhancements by us
or our competitors;
o technological innovations by us or our competitors;
o quarterly variations in our results of operations;
o general market conditions or market conditions specific to
particular industries; and
o international macroeconomic factors.
In addition, in recent years the stock market has experienced extreme price
and volume fluctuations. These fluctuations have had a substantial effect on the
market prices for many high technology companies, such as Polycom. These
fluctuations are often unrelated to the operating performance of the specific
companies.
BUSINESS INTERRUPTIONS COULD ADVERSELY AFFECT OUR BUSINESS.
Our operations are vulnerable to interruption by fire, earthquake,
power loss, telecommunications failure and other events beyond our control. We
do not have a detailed disaster recovery plan. In addition, we do not carry
sufficient business interruption insurance to compensate us for losses that may
occur and any losses or damages incurred by us could have a material adverse
effect on our business.
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OUR RESELLER CUSTOMER CONTRACTS ARE TYPICALLY SHORT-TERM AND EARLY TERMINATIONS
OF OUR CONTRACTS MAY HARM OUR RESULTS OF OPERATIONS.
We do not typically enter into long-term contracts with our reseller
customers, and we cannot be certain as to future order levels from our reseller
customers. When we do enter into a long-term contract, the contract is generally
terminable at the convenience of the customer. In the event of an early
termination by one of our major customers, it is unlikely that we will be able
to rapidly replace that revenue source, which would harm our results of
operations.
FAILURE TO MANAGE OUR GROWTH MAY HARM OUR BUSINESS.
Our business has grown in recent years through both internal expansion
and acquisitions, and continued growth may cause a significant strain on our
infrastructure and internal systems. To manage our growth effectively, we must
continue to improve and expand our management information systems and continue
resource additions such as headcount, capital and processes in a timely and
efficient manner. We cannot assure you that resources will be available when we
need them or that we will have sufficient capital to fund these resource needs.
In addition, our success depends to a significant extent on the management
skills of our executive officers. If we are unable to manage growth effectively,
or we experience a shortfall in resources, our results of operations will be
harmed.
IF WE FAIL TO SUCCESSFULLY COMPETE IN OUR MARKETS, OUR BUSINESS AND RESULTS OF
OPERATIONS WOULD BE SIGNIFICANTLY HARMED.
In the video communications market, our major competitors include
PictureTel, Tandberg, Sony, VCON and VTEL. Many of these companies have
substantial financial resources and production, marketing, engineering and other
capabilities with which to develop, manufacture, market and sell their products.
In addition, with advances in telecommunications standards, connectivity and
video processing technology and the increasing market acceptance of video
communications, other established or new companies may develop or market
products competitive with our video communications products. In addition, our
video streaming products employ technology from Microsoft and Real Networks who
both have solutions competitive with our products. The market for voice
communications equipment, particularly voiceconferencing, is highly competitive
and subject to rapid technological change, regulatory developments and emerging
industry standards. We expect competition to persist and increase in the future.
In the voice communications equipment market segment, our major competitors
include ClearOne, SoundGear, NEC, Gentner and other companies that offer lower
cost, full-duplex speakerphones such as Lucent Technologies and Hello Direct.
Hello Direct, one of our resellers, offers a competitive product under the Hello
Direct name through an OEM relationship with Gentner. Most of these companies
have substantial financial resources and production, marketing, engineering and
other capabilities with which to develop, manufacture, market and sell their
products. In addition, all major telephony manufacturers produce hands-free
speakerphone units that are a lower cost than our voice communications products.
Our network access products have significant competition from Efficient
Networks, Netopia, 3Com and Cisco Systems.
We cannot assure you that we will be able to compete successfully
against our current or future competitors. We expect our competitors to continue
to improve the performance of their current products and to introduce new
products or new technologies that provide improved performance characteristics.
New product introductions by our competitors could cause a significant decline
in sales or loss of market acceptance of our existing products and future
products. We believe that the possible effects from ongoing competition may be
the reduction in the prices of our products and our competitors' products or the
introduction of additional lower priced competitive products. We expect this
increased competitive pressure may lead to intensified price-based competition,
resulting in lower prices and gross margins which would significantly harm our
results of operations.
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WE RELY ON PATENTS, TRADEMARKS, COPYRIGHTS AND TRADE SECRETS TO PROTECT OUR
PROPRIETARY RIGHTS, WHICH MAY NOT BE SUFFICIENT TO PROTECT OUR INTELLECTUAL
PROPERTY.
We rely on a combination of patent, copyright, trademark and trade
secret laws and confidentiality procedures to protect our proprietary rights.
Others may independently develop similar proprietary information and techniques
or gain access to our intellectual property rights or disclose such technology.
In addition, we cannot assure you that any patent or registered trademark owned
by us will not be invalidated, circumvented or challenged in the U.S. or foreign
countries, that the rights granted thereunder will provide competitive
advantages to us or that any of our pending or future patent applications will
be issued with the scope of the claims sought by us, if at all. Furthermore,
others may develop similar products, duplicate our products or design around our
patents. In addition, foreign intellectual property laws may not protect our
intellectual property rights. Litigation may be necessary to enforce our patents
and other intellectual property rights, to protect our trade secrets, to
determine the validity of and scope of the proprietary rights of others, or to
defend against claims of infringement or invalidity. Litigation could result in
substantial costs and diversion of resources and could harm our business.
WE FACE AND MIGHT IN THE FUTURE FACE INTELLECTUAL PROPERTY INFRINGEMENT CLAIMS
THAT MIGHT BE COSTLY TO RESOLVE.
We have from time to time received, and may in the future receive,
communications from third parties asserting patent or other intellectual
property rights covering our products. For example, we have recently been named
in (along with approximately 90 manufacturers or distributors of electronic or
semiconductor products) and served with a complaint filed by the Lemelson
Medical, Education and Research Foundation alleging patent infringement by us.
If we do not prevail in any litigation as a result of such allegations, our
business may be adversely affected.
In addition, our industry is characterized by uncertain and conflicting
intellectual property claims and vigorous protection and pursuit of intellectual
property rights or positions, which have on occasion resulted in significant and
often protracted and expensive litigation. In the past, we have been involved in
such litigation, which adversely affected our operating results. We cannot
assure you that intellectual property claims will not be made against us in the
future or that we will not be prohibited from using the technologies subject to
any such claims or be required to obtain licenses and make corresponding royalty
payments. In addition, the necessary management attention to and legal costs
associated with litigation can have a significant adverse effect on operating
results.
IF WE FAIL TO SUCCESSFULLY ATTRACT AND RETAIN QUALIFIED PERSONNEL, OUR BUSINESS
WILL BE HARMED.
Our future success will depend in part on our continued ability to
hire, assimilate and retain qualified personnel. Competition for such personnel
is intense, and we may not be successful in attracting or retaining such
personnel. The loss of any key employee, the failure of any key employee to
perform in his or her current position or our inability to attract and retain
skilled employees, particularly technical and management, as needed, could harm
our business. The loss of the services of any executive officer or other key
technical or management personnel could harm our business.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Polycom's exposure to market risk for changes in interest rates relates
primarily to its investment portfolio and bank borrowings. Polycom does not use
derivative financial instruments in its investment portfolio, and its investment
portfolio includes primarily highly liquid instruments with a maturity of no
more than two years.
Polycom is subject to fluctuating interest rates that may impact,
adversely or otherwise, its results of operations or cash flows from its
variable rate bank borrowings, available-for-sale securities and cash and cash
equivalents.
The table below presents principal amounts and related weighted average
interest rates by year of maturity for Polycom's cash, debt investment portfolio
and debt obligations:
As of September 30, 2000:
Expected Maturity
2000 2001 2002 TOTAL
---- ---- ---- -----
(in thousands, except interest rates)
ASSETS
Cash and cash equivalents $ 186,685 --- --- $ 186,685
Average interest rates 4.84% --- --- 4.84%
Investments (debt securities) $ 13,917 $ 28,010 $ 15,130 $ 57,057
Average interest rates 5.53% 4.95% 6.11% 5.40%
LIABILITIES
Bank line of credit --- --- --- ---
Average interest rates 9.50% --- --- 9.50%
The estimated fair value of Polycom's cash and cash equivalents
approximates the principal amounts reflected above based on the short maturities
of these financial instruments. The estimated fair value of Polycom's debt
obligations approximates the principal amounts reflected above based on rates
currently available to Polycom for debt with similar terms and remaining
maturities. Polycom also holds a $1.0 million investment in publicly traded
equity securities. The market risk for this investment is driven by movements in
the market price of this investment.
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PART II OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
Not Applicable.
Item 2. CHANGES IN SECURITIES
Not Applicable.
Item 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable
Item 5. OTHER INFORMATION
Not Applicable
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) List of Exhibits
NUMBER EXHIBIT
- ------ -------------------------------------------------------------
27.1 Financial Data Schedule
(b) Reports on Form 8-K:
A report on Form 8-K was filed on July 24, 2000, to announce
that Polycom issued a press release dated July 19, 2000
reporting its operating results for the second quarter ended
June 30, 2000.
A report on Form 8-K was filed on August 2, 2000, regarding a
two-for-one split of the Polycom's common stock effected as a
stock dividend to stockholders of record as of the close of
business on August 15, 2000, and distributed on August 31,
2000.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: November 10, 2000 POLYCOM, INC.
/s/ MICHAEL R. KOUREY
---------------------------
Michael R. Kourey
Chief Financial Officer
(Principal Financial and
Accounting Officer)
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