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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarter ended October 31, 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 333-20031
NEOMAGIC CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 77-0344424
[State or other jurisdiction [I.R.S. Employer Identification No.]
of incorporation or organization]
3250 Jay Street
Santa Clara, California 95054
[Address of principal executive offices] [Zip Code]
(408) 988-7020
[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
The number of shares of the Registrant's Common Stock, $.001 par value,
outstanding at October 31, 2000 was 25,802,559.
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Page 1 of 19
NEOMAGIC CORPORATION
FORM 10-Q
INDEX
PAGE
PART I. CONSOLIDATED CONDENSED FINANCIAL INFORMATION
Item 1. Unaudited Consolidated Condensed Financial Statements:
Consolidated Condensed Statements of Operations
Nine months ended October 31, 2000 and 1999 3
Consolidated Condensed Balance Sheets
October 31, 2000 and January 31, 2000 4
Consolidated Condensed Statements of Cash Flows
Nine months ended October 31, 2000 and 1999 5
Notes to Unaudited Consolidated Condensed Financial Statements 6-8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 9-17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 17
Item 2. Changes in Securities and Use of Proceeds 17
Item 3. Defaults Upon Senior Securities 17
Item 4. Submission of Matters to a Vote of Security Holders 18
Item 5. Other Information 18
Item 6. Exhibits and Reports on Form 8-K 18
Signatures 19
Page 2 of 19
Part I. Financial Information
Item I. Financial Statements
NEOMAGIC CORPORATION
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
Three Months Ended Nine Months Ended
-------------------------- --------------------------
October 31, October 31, October 31, October 31,
2000 1999 2000 1999
---------------------------------------------------------
Net sales $ 3,912 $ 70,346 $ 74,697 $ 203,063
Cost of sales 761 51,558 61,206 139,399
--------- --------- --------- ---------
Gross margin 3,151 18,788 13,491 63,664
Operating expenses:
Research and development 5,838 9,202 18,465 29,783
Sales, general and administrative 2,155 4,440 10,541 13,801
In-process research and development -- -- -- 5,348
Amortization of deferred compensation 805 139 1,698 432
--------- --------- --------- ---------
Total operating expenses 8,798 13,781 30,704 49,364
--------- --------- --------- ---------
Income (loss) from operations (5,647) 5,007 (17,213) 14,300
Other income (expense), net:
Income, net of expenses, from the sale of DVD assets 1,500 -- 6,494 --
Interest and other income 1,790 924 4,295 2,640
Interest expense -- (197) (262) (667)
--------- --------- --------- ---------
Income (loss) before income taxes (2,357) 5,734 (6,686) 16,273
Income tax provision (benefit) (935) 1,614 (2,662) 6,382
--------- --------- --------- ---------
Net income (loss) $ (1,422) $ 4,120 $ (4,024) $ 9,891
========= ========= ========= =========
Basic net income (loss) per share $ (.06) $ .16 $ (.16) $ .40
Diluted net income (loss) per share $ (.06) $ .16 $ (.16) $ .38
Weighted average common shares outstanding 25,800 25,039 25,701 24,766
Weighted average common shares outstanding, assuming dilution 25,800 25,761 25,701 25,718
See accompanying notes to consolidated condensed financial statements.
Page 3 of 19
NEOMAGIC CORPORATION
CONSOLIDATED CONDENSED BALANCE SHEETS
(In thousands)
October 31, January 31,
2000 2000
----------- -----------
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 71,612 $ 33,097
Short-term investments 40,574 63,429
Accounts receivable, net 102 18,989
Inventory 582 13,184
Other current assets 3,128 2,170
--------- ---------
Total current assets 115,998 130,869
Property, plant and equipment, net 6,715 10,370
Deferred tax asset 1,034 1,034
Other assets 4,801 6,863
--------- ---------
Total assets $ 128,548 $ 149,136
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable 5,117 21,240
Compensation and related benefits 1,989 2,986
Income taxes payable 941 2,207
Other accruals 2,096 2,334
Obligations under capital leases -- 154
--------- ---------
Total current liabilities 10,143 28,921
Commitments and contingencies
Stockholders' equity:
Common stock 26 25
Additional paid-in-capital 76,741 70,682
Notes receivable from stockholders (520) (525)
Deferred compensation (4,925) (1,074)
Retained earnings 47,083 51,107
--------- ---------
Total stockholders' equity 118,405 120,215
--------- ---------
Total liabilities and stockholders' equity $ 128,548 $ 149,136
========= =========
See accompanying notes to consolidated condensed financial statements.
Page 4 of 19
NEOMAGIC CORPORATION
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Nine Months Ended
---------------------------------
October 31, October 31,
2000 1999
-------------- -------------
OPERATING ACTIVITIES:
Net income (loss) $ (4,024) $ 9,891
Adjustments to reconcile net income (loss) to net cash provided by
(used for) operating activities:
Depreciation and amortization 3,814 3,778
Loss on disposal of property, plant and equipment 268 --
Amortization of deferred compensation 1,726 494
Write-off of in-process research and development -- 5,348
Income, net of expenses, on the sale of DVD assets (6,494) --
Changes in operating assets and liabilities:
Accounts receivable 18,887 1,793
Inventory 12,602 (5,080)
Other current assets (208) (981)
Other assets (426) (1,011)
Accounts payable (16,123) (4,884)
Compensation and related benefits (997) (691)
Income taxes payable (1,266) 1,854
Other accruals (988) 993
-------------- -------------
Net cash provided by operating activities 6,771 11,504
============== =============
INVESTING ACTIVITIES:
Proceeds from the sale of DVD assets (net of selling expenses of $2,539) 10,091 --
Purchases of property, plant and equipment (1,536) (6,269)
Purchases of short-term investments (47,994) (118,000)
Maturities of short-term investments 70,765 137,842
Purchase of Optical Drive Development Group -- (3,901)
Purchase of ACL -- (6,523)
-------------- -------------
Net cash provided by investing activities 31,326 3,149
============== =============
FINANCING ACTIVITIES:
Payments on lease obligation (154) (433)
Repayment on note receivable from stockholders 5 29
Net proceeds from issuance of common stock 567 1,359
-------------- -------------
Net cash provided by financing activities 418 955
============== =============
Net increase in cash and cash equivalents 38,515 15,608
Cash and cash equivalents at beginning of period 33,097 36,631
-------------- -------------
Cash and cash equivalents at end of period $ 71,612 $ 52,239
============== =============
Supplemental schedules of cash flow information:
Cash paid during the period for:
Interest $ 262 $ 667
Taxes $ -- $ 4,500
See accompanying notes to consolidated condensed financial statements.
Page 5 of 19
NEOMAGIC CORPORATION
NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
1. Basis of Presentation:
The unaudited consolidated condensed financial statements have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission and include the accounts of NeoMagic Corporation and its wholly owned
subsidiaries collectively (or the "Company"). Certain information and footnote
disclosures, normally included in financial statements prepared in accordance
with generally accepted accounting principles, have been condensed or omitted
pursuant to such rules and regulations. In the opinion of the Company, the
financial statements reflect all adjustments, consisting only of normal
recurring adjustments, necessary for a fair presentation of the financial
position at October 31, 2000, the operating results for the three and nine
months ended October 31, 2000 and 1999, and the cash flows for the nine months
ended October 31, 2000 and 1999. These financial statements and notes should be
read in conjunction with the Company's audited financial statements and notes
thereto for the year ended January 31, 2000, included in the Company's Form 10-K
filed with the Securities and Exchange Commission.
The results of operations for the nine months ended October 31, 2000
are not necessarily indicative of the results that may be expected for the year
ending January 31, 2001.
The third fiscal quarters of 2001 and 2000 ended on October 29, 2000
and October 31, 1999, respectively. For ease of presentation, the accompanying
financial statements have been shown as ending on the last day of the calendar
month of October.
2. Inventory:
Inventory is stated at the lower of cost or market value. Cost is
determined by the first-in, first-out method.
October 31, January 31,
Inventory consists of: 2000 2000
--------------- --------------
(in thousands)
Raw materials $ - $ 3,035
Work in process - 3,085
Finished goods 582 7,064
--------------- --------------
Total $ 582 $ 13,184
=============== ==============
3. Earnings Per Share:
The Company follows the provisions of Statement of Financial Accounting
Standards No. 128 ("SFAS No. 128"), "Earnings per Share." Basic net earnings
(loss) per share is computed by dividing net income (loss) by the weighted
average number of common shares outstanding during the period. Diluted net
income per share is calculated using the weighted average number of common and
dilutive common equivalent shares outstanding (if applicable) during the period.
Dilutive common equivalent shares consist of stock options. Employee stock
options are excluded from the computation of diluted net loss per share for the
three and nine month periods ended October 31, 2000, because the effect would
have been antidilutive.
Page 6 of 19
Per share information calculated on this basis is as follows:
(in thousands, except per share amounts) Three Months Ended Nine Months Ended
October 31, October 31,
---------------------- ----------------------
2000 1999 2000 1999
---------------------- ----------------------
Numerator:
Net income (loss) $ (1,422) $ 4,120 $ (4,024) $ 9,891
Denominator:
Denominator for basic earnings (loss)
per share-weighted average shares outstanding 25,800 25,039 25,701 24,766
Effect of dilutive securities:
Employee stock options n/a 722 n/a 952
---------------------- ----------------------
Denominator for diluted earnings
(loss) per share 25,800 25,761 25,701 25,718
====================== ======================
Basic earnings (loss) per share $ (.06) $ .16 $ (.16) $ .40
Diluted earnings (loss) per share $ (.06) $ .16 $ (.16) $ .38
4. Risks and Uncertainties:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts in the financial statements and
accompanying notes. Actual results could differ from those estimates.
Under wafer supply agreements with the Company's foundry providers, the
Company must provide rolling 12-month forecasts of anticipated purchases and
place binding purchase orders three to four months in advance. With the
additional time to assemble and test wafers and finished goods, the Company can
have orders outstanding that will not be available for delivery to customers for
up to six months from the date the purchase order is placed. This limits the
Company's ability to react to fluctuations in demand for its products, which can
be unexpected and dramatic. To the extent the Company cannot accurately forecast
the number of wafers required, it may have either a shortage or an excess supply
of wafers, which could have an adverse effect on the Company's financial
condition and results of operations. As of October 31, 2000, the Company had no
outstanding purchase orders with its manufacturing partners for the delivery of
wafers. The Company has announced that it expects declines in revenues, gross
margins, and results of operations for fiscal 2001 and fiscal 2002 based on its
exit from the multimedia accelerator business. Accordingly, the Company placed
end-of-life orders with its manufacturing partners, and as a result incurred
cancellation charges of $2.6 million in the first quarter of fiscal 2001. Also,
in the first quarter of fiscal 2001, the Company reserved an additional $6.9
million for excess inventory and $2.4 million for lower of cost or market
considerations based on expectations of its customers' end-of-life requirements
for its notebook PC graphics products. During the second and third quarters of
fiscal 2001, stronger than anticipated demand for the Company's products
resulted in the release of inventory reserves of $2.2 million and $0.9 million,
respectively, related to products sold in the quarters for which reserves had
been previously provided. The Company is monitoring its inventory levels for
product on hand, and current inventories are reserved for end-of-life product.
5. Divestitures:
In April 2000, pursuant to an asset purchase agreement, the Company
sold the principal assets of the DVD product group to LSI Logic (Buyer). The
assets primarily consisted of fixed assets and intangible
Page 7 of 19
assets. In exchange for the assets sold to the Buyer, the Company received $11.7
million in a lump-sum cash payment. An additional $2.3 million was contingent on
the Company's performance of certain obligations related to the transfer of
licenses with third parties to the Buyer. The Company wrote-off approximately
$3.6 million in capitalized intellectual property, fixed assets and prepaid
expenses related to the DVD product group which was transferred to the Buyer. In
addition, the Company accrued approximately $1.6 million in transaction costs
and approximately $2.3 million in retention packages for the affected employees
during the first quarter. During the second quarter the Company incurred
additional costs of $0.3 million. During the third quarter the Company received
a $1.5 million cash payment which was previously contingent on the Company's
performance of certain obligations related to the transfer of licenses with
third parties to the buyer. These transactions have been recorded in Income, net
of expenses, from the sale of DVD assets on the Consolidated Condensed
Statements of Operations for the three and nine months ended October 31, 2000.
As a result, the Company has recorded a total pre-tax gain of approximately $6.5
million on the sale, which is recorded in Income, net of expenses, from the sale
of DVD assets on the Consolidated Condensed Statements of Operations for the
nine months ended October 31, 2000.
6. Recently Issued Accounting Pronouncements:
In June 1998, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 133, ("SFAS 133") "Accounting
for Derivative Instruments and Hedging Activities." SFAS 133 will require
companies to record all derivatives held on the balance sheet at fair value.
Derivatives that are not hedges must be adjusted to fair value through
income. If the derivative is a hedge, changes in the fair value of the
derivative is either offset against the change in fair value of the hedged
assets, liabilities, or firm commitments through earnings, or recognized in
other comprehensive income until the value related to the ineffective portion
of a hedge, if any, is recognized in earnings. The Company expects to adopt
SFAS 133 as of the beginning of its fiscal year 2002. The effect of adoption
of SFAS 133 is currently being evaluated, but is not expected to have a
material effect on the Company's financial position or results of operations.
Page 8 of 19
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
When used in this discussion, the words "expects," "anticipates,"
"believes" and similar expressions are intended to identify forward-looking
statements. Such statements reflect management's current intentions and
expectations. However, actual events and results could vary significantly based
on a variety of factors including, and not limited to: the abilities of
manufacturing subcontractors to make adequate and timely deliveries, access to
advanced production process technologies from manufacturing subcontractors,
recruiting and retaining employees including those with engineering expertise in
new disciplines. In particular, the Company's new product development efforts
and customer engagements in System-on-Chip integration and MPEG-4 represent new
endeavors and consequently carry greater risks of successful and timely
execution. Additional risk factors are listed in the Company's Form 10-K filing
for the fiscal year ended January 31, 2000.
OVERVIEW
The Company designed, developed and marketed high-performance
semiconductor solutions for sale to original equipment manufacturers of mobile
computing products including notebook PCs, and over the last several years,
began development of silicon solutions for digital cameras and DVD drives. In
April 2000, the Company successfully concluded the sale of the DVD product group
to LSI Logic. The Company pioneered the first commercially available
high-performance silicon technology that integrated DRAM, complex logic and
analog circuits into a single chip. The Company's proprietary MagicWare(TM)
technology eliminates the need to drive signals off-chip to discrete memory,
achieving a performance advantage while actually lowering the power consumption
and extending the battery life for smaller, lighter weight portable devices. The
first commercial application for the Company's technology was in the design,
development and marketing of multimedia accelerators for sale to notebook
computer manufacturers. The Company's MagicGraph128(TM) and MagicMedia256(TM)
families of pin-compatible multimedia accelerators incorporate 128-bit and
256-bit memory buses, respectively.
All of the Company's net sales to date were derived from sales of
its multimedia accelerator products, and the Company expects this trend to
continue through fiscal 2001. The Company generally recognizes revenue upon
title passage for product sales directly to customers. The Company's policy
is to defer recognition of revenue of shipments to distributors until the
distributors sell the product, however, with the multimedia accelerator
product at its end-of-life, revenue will be recognized for all non returnable
product sales, even through distributors for the 2001 fiscal year end,
because the distributors do not have the right of return for these
end-of-life products. Historically, a majority of the Company's sales have
been to a limited number of customers. The Company expects that a substantial
portion of sales of its products will be to a limited number of customers for
the foreseeable future. The customers contributing significant amounts of net
sales have varied and will continue to vary depending on the timing and
success of new product introductions by the Company and its customers.
On April 20, 2000 the Company announced a change in strategy, ceasing
further development efforts in its existing notebook multimedia product line,
and focusing future development efforts on technologies and products to enable
multimedia communications. As a result, the Company undertook a significant
resizing of its operations, and reduced its workforce by approximately 50% in
the first quarter of fiscal 2001 compared to the end of the fourth quarter of
fiscal 2000. Included in this total are employees of the Company's DVD product
line, which was sold to LSI Logic Corporation in a transaction announced on
April 14, 2000.
Page 9 of 19
Going forward the Company expects a multi-quarter decline in its
existing business as it focuses on technology and product developments in its
new direction. During the first quarter of fiscal 2001 the Company restructured
its operations to protect its financial strength. In the second quarter of
fiscal 2001, the Company set the basic parameters of its new direction,
commenced significant engineering activities, and began engaging major players
in the first of its new product areas. During the third quarter of fiscal 2001
the Company continued to refine and evolve its products, while adding key staff
with new skills, and will continue to do so over the next few quarters. While
the Company expects a net loss for the fiscal year as a whole, it is managing
its spending prudently and expects to end the fiscal year with more than $100
million in cash. The Company remains on its plan to drive the first of its new
product efforts for market entry with revenues anticipated from its
System-on-Chip technology beginning late in the second half of next year.
The Company's fiscal year end is January 31. Any references herein to a
fiscal year refers to the year ended January 31 of such year. The third fiscal
quarters of 2001 and 2000 ended on October 29, 2000 and October 31, 1999,
respectively. For ease of presentation, the accompanying financial statements
have been shown as ending on the last day of the calendar month of October.
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, certain financial
data as a percentage of net sales:
Three Months Ended Nine Months Ended
October 31, October 31,
------------------ -----------------
2000 1999 2000 1999
----- ----- ----- -----
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of sales 19.5 73.3 81.9 68.6
Gross margin 80.5 26.7 18.1 31.4
Operating expenses:
Research and development 149.2 13.1 24.7 14.7
Sales, general and administrative 55.1 6.3 14.1 6.8
Acquired in process research and development -- -- -- 2.6
Amortization of deferred compensation 20.6 .2 2.3 .2
Total operating expenses 224.9 19.6 41.1 24.3
Income (loss) from operations (144.4) 7.1 (23.0) 7.1
Income, net of expenses, from the sale of
DVD assets 38.3 -- 8.7 --
Interest and other income 45.8 1.4 5.7 1.2
Interest expense -- (.3) (.4) (.3)
Income (loss) before income taxes (60.3) 8.2 (9.0) 8.0
Provision (benefit) for income taxes (23.9) 2.3 (3.6) 3.1
Net income (loss) (36.4)% 5.9% (5.4)% 4.9%
NET SALES
The Company's net sales to date have been generated from the sale of
its multimedia accelerators. The Company's products are used in, and its
business has been dependent upon, the notebook personal computer industry with
sales primarily in Asia, Japan and the United States. Net sales were $3.9
million for the three months ended October 31, 2000, compared to $70.3 million
for the three months ended October 31, 1999. Net sales for the three months
ended October 31, 2000 included approximately $1.5 million related to the
reversal of reserves previously provided for rebates and sales returns. The
Company
Page 10 of 19
determined in the third quarter that these amounts were no longer necessary
due to settlement of rebate amounts with its customers and a decline in the
exposure related to sales returns as a result of the significant decrease in
sales. Net sales were $74.7 million for the nine months ended October 31,
2000, compared to $203.1 million for the nine months ended October 31, 1999.
Net sales decreased primarily due to end-of-life announcements for the
Company's multimedia products and declining market share. The Company expects
that net sales for the remainder of fiscal 2001 will continue to decline
substantially based on the current availability of product and customer
demand for end-of-life product.
Sales to customers located outside the United States (including sales
to the foreign operations of customers with headquarters in the United States
and foreign system manufacturers that sell to United States-based OEMs)
accounted for 98.5% and 81.8% of net sales in the three months ended October 31,
2000 and 1999, respectively. Export sales accounted for 85.3% and 81.4% of net
sales in the nine months ended October 31, 2000 and 1999, respectively. The
Company expects that export sales will continue to represent a significant
portion of net sales, although there can be no assurance that export sales as a
percentage of net sales will remain at current levels. All sales transactions
were denominated in United States dollars.
Three customers accounted for 34%, 16% and 13% of net sales for the
three months ended October 31, 2000. Five customers accounted for 22%, 19%,
15%, 13% and 11% of net sales in the three months ended October 31, 1999.
Four customers accounted for 26%, 22%, 15% and 14% of net sales for the nine
months ended October 31, 2000. Four customers accounted for 20%, 13%, 13% and
12% of net sales for the nine months ended October 31, 1999. These sales
consisted almost exclusively of graphic chips and accordingly the Company
does not expect these sales to remain significant.
GROSS MARGIN
Gross margin was $3.2 million and $18.8 million for the three months
ended October 31, 2000 and 1999, respectively. The gross margin percentages
increased to 80.5% for the three months ended October 31, 2000 from 26.7% for
the three months ended October 31, 1999. Gross margin was $13.5 million and
$63.7 million for the nine months ended October 31, 2000 and 1999, respectively.
The gross margin percentages decreased to 18.1% for the nine months ended
October 31, 2000 from 31.4% for the nine months ended October 31, 1999. The
increase in gross margin percentage in the third quarter of fiscal 2001 was
primarily due to the reversal of $1.5 million of reserves related to rebates and
sales returns recorded in prior periods, the release of inventory reserves of
$0.9 million specifically related to products sold in the quarter which had
previously been reserved, and a $0.5 million reimbursement in the quarter from a
manufacturing partner due to lower than expected production yields. The decrease
in gross margin percentage for the nine months ended October 31, 2000 was due
primarily to inventory write-offs and reserves and cancellation penalties to our
manufacturing partners of $11.9 million related to restructuring the business in
the first quarter of fiscal 2001.
The Company announced in February 2000 that it expected declines in
revenues, gross margins, and results of operations for fiscal 2001 based on
restructuring the business and the delay of the introduction of its new
products. As a result of the restructuring and the Company's end-of-life
product announcement, the Company's existing products experienced sharp
declines in demand and a portion of the Company's inventories on hand and on
order at April 30, 2000 were not sellable in sufficient quantities and at
acceptable prices which necessitated inventory write-offs for excess
quantities, cancellation penalties to its manufacturing partners and lower of
cost or market considerations. These write-offs had a material adverse effect
on gross margins and results of operations for the three months ended April
30, 2000 and the nine months ended October 31, 2000.
Page 11 of 19
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses include compensation and associated
costs relating to development personnel, operating system software costs and
prototyping costs, which are comprised of photomask costs and pre-production
wafer costs. Research and development expenses were $5.8 million and $9.2
million for the three months ended October 31, 2000 and 1999, respectively.
Research and development expenses were $18.5 million and $29.8 million for the
nine months ended October 31, 2000 and 1999, respectively. Research and
development expense decreased in the current year due to a reduction in the
number of employees, an overall effort to reduce expenses and research and
development funding of $0.3 million. The Company has made, and intends to
continue to make, significant investments in research and development to remain
competitive by developing new and enhanced products to serve its identified
markets. Because the Company's projections for downward revenue will result in
corresponding cost control, research and development expenses are expected to
decrease in absolute dollars in fiscal 2001.
SALES, GENERAL AND ADMINISTRATIVE EXPENSES
Sales, general and administrative expenses were $2.2 million and $4.4
million for the three months ended October 31, 2000 and 1999, respectively.
Sales, general and administrative expenses were $10.5 million and $13.8 million
for the nine months ended October 31, 2000 and 1999, respectively. Sales,
general and administrative expenses decreased in absolute dollars due primarily
to lower outside commissions on lower sales, and the Company's ongoing cost
reduction efforts offset in part by $0.8 million of employee related severance
expenses incurred in the first quarter of fiscal 2001 in connection with
restructuring the business. Sales, general and administrative expenses increased
as a percentage of sales due to the decline in sales. Because the Company's
projections for downward revenue will result in decreased commissions and cost
control, sales, general and administrative expenses are expected to decrease in
absolute dollars in fiscal 2001.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT
The Company incurred approximately $5.3 million of charges for acquired
in-process research and development ("IPRD") in connection with its fiscal 2000
acquisitions of the Optical Drive Storage Group from Mitel Semiconductor and
Associative Computers, Ltd., ("ACL"). The amount allocated to the acquired
in-process research and development was determined using the income approach,
which discounts expected future cash flows from each of the technologies under
development to their net present value, at an appropriate risk-adjusted rate of
return. The technologies under development were analyzed to determine their
technological accomplishments; the existence and utilization of core
technologies; the existence of any alternative future uses; their technological
feasibility; and the stage of completion of the development activities,
including the efforts required to complete the remaining development activities.
The technologies under development were classified as developed technology, IPRD
completed, IPRD to be completed or future development activities. Projected
future net cash flows attributable to each of these categories were discounted
to their net present value using a discount rate which was derived based on the
Company's estimated weighted average cost of capital plus a risk premium to
account for the inherent uncertainty surrounding the successful completion of
each project and the associated estimated cash flows. The IPRD charge includes
only the fair value of IPRD completed. The technologies underlying the IPRD
amounts were deemed to have no alternative future uses. The fair value assigned
to developed technology
Page 12 of 19
is included in other assets, and no value was assigned to the IPRD to be
completed or future development activities. The Company believes that these fair
values do not exceed the amount a third party would pay for each such in-process
technology. Failure to timely deliver commercially viable products to the
market, or to achieve market acceptance or the revenue and expense forecasts
could have a significant impact on the financial results and operations of the
acquired businesses.
The total charge for IPRD for the Optical Drive Storage Group
transaction, completed in February 1999, was approximately $2.0 million. The
technologies acquired from this group were mixed signal analog and digital video
disk ("DVD") optical storage read-channel technologies. The Optical Drive
Storage Group's development efforts were estimated to be approximately 50%
complete at the date of the acquisition. The Company planned to integrate these
technologies with its embedded DRAM technologies and develop products for the
DVD Notebook, DVD Desktop and DVD Player/Recorder markets. Prior to the
acquisition, the Optical Drive Storage Group had generated no revenues. Revenue
from commercially viable products for these markets was not anticipated until
late calendar 2000 or in 2001. The discount rates used for the IPRD technologies
and developed technologies were 40% and 25%, respectively.
The total charge for IPRD for the ACL transaction, completed in
February 1999, was approximately $3.3 million. The technologies acquired from
ACL were associative array (parallel) processing architectures that enabled high
speed computing. ACL's development efforts were estimated to be approximately
42% complete at the date of the acquisition. The Company planned to integrate
these technologies with its embedded DRAM technologies and develop products for
the digital camera and camcorder markets. Prior to the acquisition, ACL had
generated no revenues. Revenues from commercially viable products for the above
markets were not anticipated until late calendar 2001. The discount rates used
for the IPRD technologies and developed technologies were each 50%.
Except for the Company's plans to no longer pursue the development
activities acquired from the Optical Drive Storage Group (DVD product group),
there have been no significant changes in the assumptions used in the IPRD
analyses relating to the timing of expected future revenues or the amount of
development expenses and efforts expected to be required to bring the in-process
research and development technologies to completion and to achieve such
revenues. The Company successfully concluded the sale of the DVD group to LSI
Logic in April, 2000. The gain from the sale of the DVD group of $6.5 million is
included in Income, net of expenses, from the sale of DVD assets on the
Consolidated Condensed Statements of Operations.
AMORTIZATION OF DEFERRED COMPENSATION
In May 2000, the Company granted stock options to employees and
recorded deferred stock compensation within stockholders equity of $6.7 million,
representing the difference between the fair market value of the common stock at
the date of grant and the exercise price of these options at the date of grant.
Amortization of deferred compensation was $817,000 and $141,000 for the three
months ended October 31, 2000 and 1999, respectively. These amounts include
amortization of deferred compensation charged to cost of sales of $12,000 and
$2,000 for the three months ended October 31, 2000 and 1999, respectively.
Amortization of deferred compensation was $1,726,000 and $437,000 for the nine
months ended October 31, 2000 and 1999, respectively. These amounts include
amortization of deferred compensation charged to cost of sales of $28,000 and
$5,000 for the nine months ended October 31, 2000 and 1999, respectively.
Page 13 of 19
INCOME, NET OF EXPENSES, FROM THE SALE OF DVD ASSETS
In April 2000, pursuant to an asset purchase agreement, the Company
sold the principal assets of the DVD product group to LSI Logic ("Buyer"). The
assets primarily consisted of fixed assets and intangible assets. In exchange
for the assets sold to the Buyer, the Company received $11.7 million in a
lump-sum cash payment. An additional $0.8 million is contingent on the Company's
performance of certain obligations related to the transfer of licenses with
third parties to the Buyer. The Company wrote-off approximately $3.6 million in
capitalized intellectual property, fixed assets and prepaid expenses related to
the DVD product group which was transferred to the Buyer. In addition, the
Company accrued approximately $1.9 million in transaction costs and
approximately $2.3 million in retention packages for the affected employees. As
a result, the Company recorded a pre-tax gain of approximately $6.5 million on
the sale, which is recorded in Income, net of expenses, from the sale of DVD
assets on the Consolidated Condensed Statements of Operations.
INTEREST AND OTHER INCOME
The Company earns interest on its cash and short-term investments.
Interest and other income was $1.8 million and $0.9 million for the three months
ended October 31, 2000 and 1999, respectively. Interest and other income was
$4.3 million and $2.6 million for the nine months ended October 31, 2000 and
1999, respectively. The increase in interest and other income stemmed from
higher interest income earned on higher cash and short-term investment balances
offset in part by a loss on disposal of assets of $0.3 million in the first
quarter of fiscal 2001 related to restructuring the business.
INTEREST EXPENSE
The Company pays interest and bank commissions on wafer purchases and
interest on its leases. Interest expense was $0 and $197,000 for the three
months ended October 31, 2000 and 1999, respectively. Interest expense was
$262,000 and $667,000 for the nine months ended October 31, 2000 and 1999,
respectively. The decrease in interest expense from fiscal 2000 to fiscal 2001
reflects lower interest and bank commission on reduced purchases and sales and
lower capital lease balances.
INCOME TAXES
The Company's effective tax benefit rate for the three months ended
October 31, 2000 was 40% compared to an effective tax rate of 30%, excluding the
effect of the in-process research and development charge of $5.3 million for the
three months ended October 31, 1999. The Company's effective tax rate for the
nine months ended October 31, 2000 was a tax benefit of 40%, compared to an
effective tax rate of 30% for the nine months ended October 31, 1999. This rate
varies from the statutory rate of 35% due to the effect of the research and
development credit.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash, cash equivalents and short-term investments
increased $15.7 million in the nine months ended October 31, 2000 to $112.2
million from $96.5 million at January 31, 2000. The increase in cash, cash
equivalents and short-term investments stems primarily from cash provided from
investing activities, cash provided from operating activities and to a lesser
extent, cash provided by financing activities.
Cash and cash equivalents provided by operating activities for the nine
months ended October 31, 2000 was $6.7 million, compared to $11.5 million of net
cash provided by operating activities for the nine months ended October 31,
1999. The cash provided by operating activities stems primarily from a
Page 14 of 19
decrease in accounts receivable and inventory, offset in part by decreases in
accounts payable, income taxes payable, compensation and related benefits, other
accruals, other assets and an increase in other current assets.
Net cash provided by investing activities for the nine months ended
October 31, 2000 was $31.4 million compared to $3.1 million of net cash provided
by investing activities for the nine months ended October 31, 1999. Net cash
provided by investing activities related primarily to net proceeds from the sale
of the DVD product group of $10.1 million and net maturities of short-term
investments of $22.8 million, partially offset by purchases of property, plant
and equipment. Continued operation of the Company's business may require higher
levels of capital equipment purchases, technology investments, foundry
investments and other payments to secure manufacturing capacity. The timing and
amount of future investments will depend primarily on the level of the Company's
future revenues.
Net cash provided by financing activities was $0.4 million for the nine
months ended October 31, 2000, compared to $1.0 million of net cash provided by
financing activities for the nine months ended October 31, 1999. The net cash
provided by financing activities primarily represents net proceeds from the
issuance of common stock offset in part by payments on lease obligations.
At October 31, 2000, the Company's principal sources of liquidity
included cash, cash equivalents and short-term investments of $112.2 million.
The Company believes that it will not generate cash from operations over the
upcoming twelve months, and believes the current cash, cash equivalents and
short-term investments will satisfy the Company's projected working capital and
capital expenditure requirements through the next twelve months. Investments
will continue in new product development in new and existing areas of
technology. The Company's future capital requirements will depend on many
factors including the rate of net sales, the timing and extent of spending to
support research and development programs, the timing of any new product
introductions and enhancements to existing products, and market acceptance of
the Company's products.
IMPACT OF CURRENCY EXCHANGE RATES
The Company does not use derivative financial instruments for
speculative or trading purposes. The Company's accounting policies for these
instruments are based on the Company's designation of such instruments as
hedging transactions. The criteria the Company uses for designating an
instrument as a hedge include its effectiveness in risk reduction and one-to-one
matching of derivative instruments to underlying transactions. There were no
foreign exchange contracts outstanding as of October 31, 2000.
Notwithstanding the measures the Company has adopted, due to the
unpredictability and volatility of currency exchange rates and currency
controls, there can be no assurance that the Company will not experience
currency losses in the future, nor can the Company predict the effect of
exchange rate fluctuations upon future operating results. The Company
experienced such fluctuations during fiscal 2000 which negatively impacted the
Company's gross margin and results of operations.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS
The Company's quarterly and annual results of operations are affected by
a variety of factors that could materially adversely affect net sales, gross
margin and operating results. These factors include, among others, the abilities
of manufacturing subcontractors to make adequate and timely deliveries, access
Page 15 of 19
to advanced production process technologies from manufacturing subcontractors,
recruiting and retaining employees including those with engineering expertise in
new disciplines. In particular, the Company's new product development efforts
and customer engagements in System-on-Chip integration and MPEG-4 represent new
endeavors and consequently carry greater risks of successful and timely
execution. Any one or more of these factors could result in the Company failing
to achieve its expectations as to future revenues and profits. The Company may
be unable to adjust spending sufficiently in a timely manner to compensate for
any unexpected sales shortfall, which could materially adversely affect
quarterly operating results. Accordingly, the Company believes that
period-to-period comparisons of its operating results should not be relied upon
as an indication of future performance. In addition, the results of any
quarterly period are not indicative of results to be expected for a full fiscal
year. In future quarters, the Company's operating results may be below the
expectations of public market analysts or investors. Since the Company's
announcement of its expectation of declining revenues, gross margins and
operating results, the market price of the Common Stock has been and is expected
to be for some time in the future, materially adversely affected.
DEPENDENCE ON NEW PRODUCT DEVELOPMENT, NEW MARKETS AND RAPID TECHNOLOGICAL
CHANGE
During the first fiscal quarter of this year, the Company changed its
primary market and business focus. The Company closed all new product
development efforts in multimedia ICs for notebook computers. The Company's
other new product plans and development efforts were reconsidered as well.
The Company is focused on semiconductors related to streaming video and
multimedia communications over the Internet. New product planning during the
first quarter focused on handheld Internet appliances and MPEG-4 video
compression technology. Additional planning efforts were begun in the area of
broadband cellular communications. The Company's future business, financial
condition and results of operations will depend to a significant extent on its
ability to develop new products that address these market opportunities. As a
result, the Company believes that significant expenditures for research and
development will continue to be required in the future. Handheld Internet
appliances, MPEG-4 streaming video and broadband cellular communications are
relatively new technologies, and are characterized by rapidly changing
infrastructure, evolving industry standards and uncertain average selling
prices. The Company must anticipate the features and functionality that
consumers and infrastructure providers will demand, incorporate those features
and functionality into products that meet the exacting design requirements of
equipment manufacturers, price its products competitively and introduce the
products to the market on a timely basis. The success of new product
introductions is dependent on several factors, including proper new product
definition, timely completion and introduction of new product designs, the
ability of strategic manufacturing partners to effectively design and implement
the manufacture of new products, quality of new products, differentiation of new
products from those of the Company's competitors and market acceptance of the
Company's and its customers' products. There can be no assurance that the
products the Company expects to introduce will incorporate the features and
functionality demanded by system manufacturers and consumers, will be
successfully developed, or will be introduced within the appropriate window of
market demand.
The Company intends to continue relying in part upon the integration of
large DRAM with analog and logic circuitry on a single chip as a primary means
of product differentiation. The integration of large DRAM memory with analog and
logic circuitry on a single chip is highly complex and is critical to the
Company's success. Because of the complexity of its products, however, the
Company has experienced delays from time to time in completing development and
introduction of new products. In addition, the Company is now embarked on the
development of new products in markets in which the company has no history. In
the event that there are delays in the completion of development of future
products, including
Page 16 of 19
the products currently under development for introduction over the next 12 to 18
months, the Company's potential future business, financial condition, and
results of operations will be materially adversely affected. Although the
development cycles for the memory and logic portions of the Company's products
have been relatively synchronized to date, there can be no assurance that this
synchronization will continue in the future. In addition, there can be no
assurance that fundamental advances in either the memory or logic components of
the Company's products will not significantly increase the complexity inherent
in the design and manufacture of the Company's products, rendering the Company's
product technologically infeasible or uncompetitive. The time required for
competitors to develop and introduce competing products may be shorter and
manufacturing yields may be better than those experienced by the Company.
The Company is no longer pursuing new product development or new sales
opportunities in its notebook multimedia product line, and anticipates a rapid
decline in revenues from sales of its existing products in this market. The
Company does not anticipate completing new product developments in other markets
prior to the decline of its multimedia product revenues. This situation will
have a material adverse effect on the Company's business, financial condition
and results of operations in fiscal 2001.
DEPENDENCE ON QUALIFIED PERSONNEL
The Company's future success depends in part on the continued service
of its key engineering, sales, marketing, manufacturing, finance and executive
personnel, and its ability to identify, hire and retain additional personnel.
There is intense competition for qualified personnel in the semiconductor
industry, and there can be no assurance that the Company will be able to
continue to attract and retain qualified personnel necessary for the development
of its business. The Company's restructuring placed increased demands on the
Company's resources and will likely require the addition of new management
personnel and the development of additional expertise by existing management
personnel. The Company has experienced the loss of certain personnel and also
reduced personnel in its restructuring. If the Company's headcount is not
appropriate for its future direction and the Company fails to recruit key
personnel critical to its future direction in a timely manner, it may have a
material adverse effect on the Company's business, financial condition and
results of operations.
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings.
In December 1998, the Company filed a lawsuit in the United States
District Court for the District of Delaware against Trident Microsystems, Inc.
("Trident"). The suit alleges that Trident's embedded DRAM graphics accelerators
infringe certain patents held by the Company. In January 1999, Trident filed a
counter claim against the Company alleging an attempted monopolization in
violation of antitrust laws, arising from the Company's filing of the patent
infringement action against Trident in December. The Court has stayed all
litigation concerning Trident's antitrust claim pending resolution of the
Company's claim for patent infringement. The patent infringement claim is
scheduled for trial to commence on January 15, 2001. Management believes the
Company has valid defenses against Trident's claims. There can be no assurance
as to the results of the patent infringement suit and the counter-suit for
antitrust filed by Trident.
ITEM 2. Changes in Securities and Use of Proceeds
None.
ITEM 3. Defaults Upon Senior Securities.
None.
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ITEM 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Stockholders was held on September 6, 2000. The
matters voted upon at the meeting and results of the voting with
respect to those matters were as follows:
1) Election of Directors
VOTES FOR WITHHELD
---------- --------
Kamran Elahian 22,223,293 325,759
Prakash C. Agarwal 22,219,061 329,991
Brian P. Dougherty 22,216,983 332,069
James Lally 22,216,583 332,469
Klaus Wiemer 22,216,833 332,219
2) Proposal to amend the 1997 Employee Stock Purchase Plan.
VOTES FOR AGAINST ABSTAIN
--------- ------- -------
20,346,096 2,140,392 62,564
3) Proposal to ratify the appointment of Ernst & Young LLP as the
Company's independent auditors.
VOTES FOR AGAINST ABSTAIN
--------- ------- -------
22,396,645 114,831 37,576
ITEM 5. Other Information.
Not applicable.
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
EXHIBIT
NUMBER DESCRIPTION
------- -----------
27.1 Financial Data Schedule
(b) Reports on Form 8-K
The Company did not file any reports on Form 8-K during the three
months ended October 31, 2000.
Page 18 of 19
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.
NEOMAGIC CORPORATION
(Registrant)
/s/ Stephen T. Lanza
-----------------------
STEPHEN T. LANZA
Chief Financial Officer
(Principal Financial and Accounting Officer)
December 13, 2000
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