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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
---------------
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001
COMMISSION FILE NUMBER 000-30229
------------------------
SONUS NETWORKS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 04-3387074
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
5 CARLISLE ROAD, WESTFORD, 01886
MASSACHUSETTS (including Zip Code)
(Address of principal executive
offices)
(978) 692-8999
(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. (1)Yes /X/ No / / (2)Yes /X/ No / /
As of May 3, 2001 there were 202,687,265 shares of Common Stock, $0.001 par
value per share, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
None
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SONUS NETWORKS, INC.
FORM 10-Q
QUARTER ENDED MARCH 31, 2001
TABLE OF CONTENTS
PAGE
--------
PART I--FINANCIAL INFORMATION
Item 1: Financial Statements
Condensed Consolidated Balance Sheets as of March 31, 2001
(unaudited) and December 31, 2000......................... 1
Condensed Consolidated Statements of Operations for the
Three Months Ended March 31, 2001 and 2000 (unaudited).... 2
Condensed Consolidated Statement of Stockholders' Equity for
the Three Months Ended March 31, 2001 (unaudited)......... 3
Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2001 and 2000 (unaudited).... 4
Notes to Condensed Consolidated Financial Statements
(unaudited)............................................... 5
Item 2: Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 12
Cautionary Statements....................................... 16
Item 3: Quantitative and Qualitative Disclosures About Market
Risk...................................................... 24
PART II--OTHER INFORMATION
Item 6: Exhibits and Reports on Form 8-K............................ 24
Signature................................................... 25
PART I--FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
SONUS NETWORKS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
MARCH 31, DECEMBER 31,
2001 2000
----------- ------------
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 42,770 $ 87,108
Marketable securities..................................... 82,101 54,957
Accounts receivable, net.................................. 10,025 14,100
Inventories............................................... 22,499 20,668
Other current assets...................................... 5,953 2,893
-------- --------
Total current assets.................................... 163,348 179,726
Property and equipment, net............................... 24,841 14,273
Goodwill and purchased intangibles, net................... 430,011 --
Other assets, net......................................... 1,258 836
-------- --------
$619,458 $194,835
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term obligations.................. $ 1,335 $ --
Accounts payable.......................................... 16,192 13,439
Accrued expenses.......................................... 20,221 16,239
Deferred revenue.......................................... 16,919 14,451
-------- --------
Total current liabilities............................... 54,667 44,129
LONG-TERM OBLIGATIONS, less current portion................. 389 --
COMMITMENTS................................................. -- --
STOCKHOLDERS' EQUITY:
Preferred stock, $0.01 par value, 5,000,000 shares
authorized;
none issued and outstanding............................. -- --
Common stock, $0.001 par value, 300,000,000 shares
authorized; 203,211,298 and 184,244,474 shares issued
and 202,438,798 and 183,471,974, outstanding at
March 31, 2001 and December 31, 2000, respectively...... 203 184
Capital in excess of par value............................ 844,713 266,488
Accumulated deficit....................................... (166,445) (83,966)
Stock subscriptions receivable............................ -- (238)
Deferred compensation..................................... (114,004) (31,697)
Treasury stock, at cost:
772,500 common shares................................... (65) (65)
-------- --------
Total stockholders' equity.............................. 564,402 150,706
-------- --------
$619,458 $194,835
======== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
1
SONUS NETWORKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
-------------------
2001 2000
-------- --------
REVENUES.................................................... $ 41,499 $ 1,093
Cost of revenues (1)........................................ 18,011 1,462
-------- --------
GROSS PROFIT (LOSS)......................................... 23,488 (369)
OPERATING EXPENSES:
Research and development (1).............................. 13,919 4,844
Sales and marketing (1)................................... 8,488 3,358
General and administrative (1)............................ 2,663 713
Stock-based compensation.................................. 15,423 6,979
Amortization of goodwill and purchased intangibles........ 27,207 --
In-process research and development....................... 40,000 --
-------- --------
Total operating expenses................................ 107,700 15,894
-------- --------
LOSS FROM OPERATIONS........................................ (84,212) (16,263)
Interest expense............................................ (168) (116)
Interest income............................................. 1,901 344
-------- --------
Net loss.................................................... $(82,479) $(16,035)
======== ========
NET LOSS PER SHARE (NOTE 1(G)):
Basic and diluted......................................... $ (0.51) $ (0.69)
======== ========
Pro forma basic and diluted............................... $ (0.14)
========
SHARES USED IN COMPUTING NET LOSS PER SHARE (NOTE 1(G)):
Basic and diluted......................................... 162,091 23,229
======== ========
Pro forma basic and diluted............................... 116,765
========
- ------------------------
(1) Excludes non-cash, stock-based compensation expense as follows:
Cost of revenues.................................... $ 317 $ 73
Research and development............................ 8,576 3,647
Sales and marketing................................. 4,174 2,739
General and administrative.......................... 2,356 520
-------- --------
$ 15,423 $ 6,979
======== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
SONUS NETWORKS, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
(UNAUDITED)
COMMON STOCK CAPITAL IN STOCK
----------------------- EXCESS OF ACCUMULATED SUBSCRIPTIONS DEFERRED
SHARES PAR VALUE PAR VALUE DEFICIT RECEIVABLE COMPENSATION
----------- --------- ---------- ----------- ------------- ------------
Balance, January 1, 2001................ 184,244,474 $184 $266,488 $ (83,966) $(238) $ (31,697)
Issuance of common stock in connection
with the employee stock purchase
program............................. 512,806 1 3,387 -- -- --
Issuance of common stock in connection
with acquisition (Note 2)........... 15,000,000 15 476,498 -- -- --
Issuance of restricted stock awards in
connection with acquisition
(Note 2)............................ 3,000,000 3 75,127 -- -- (75,130)
Deferred compensation related to
unvested stock options assumed in
connection with acquisition
(Note 2)............................ -- -- 22,600 -- -- (22,600)
Exercise of stock options............. 454,018 -- 613 -- -- --
Amortization of deferred
compensation........................ -- -- -- -- -- 15,423
Payment on subscriptions receivable... -- -- -- -- 238 --
Net loss.............................. -- -- -- (82,479) -- --
----------- ---- -------- --------- ----- ---------
Balance, March 31, 2001................. 203,211,298 $203 $844,713 $(166,445) $ -- $(114,004)
=========== ==== ======== ========= ===== =========
TREASURY STOCK TOTAL
------------------- STOCKHOLDERS'
SHARES COST EQUITY
-------- -------- -------------
Balance, January 1, 2001................ 772,500 $(65) $150,706
Issuance of common stock in connection
with the employee stock purchase
program............................. -- -- 3,388
Issuance of common stock in connection
with acquisition (Note 2)........... -- -- 476,513
Issuance of restricted stock awards in
connection with acquisition
(Note 2)............................ -- -- --
Deferred compensation related to
unvested stock options assumed in
connection with acquisition
(Note 2)............................ -- -- --
Exercise of stock options............. 613
Amortization of deferred
compensation........................ -- -- 15,423
Payment on subscriptions receivable... -- -- 238
Net loss.............................. -- -- (82,479)
------- ---- --------
Balance, March 31, 2001................. 772,500 ($65) $564,402
======= ==== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
SONUS NETWORKS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
--------------------
2001 2000
--------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $ (82,479) $(16,035)
Adjustments to reconcile net loss to net cash provided by
(used in) operating activities:
Depreciation and amortization........................... 3,019 759
Amortization of goodwill and purchased intangibles...... 27,207 --
In-process research and development..................... 40,000 --
Amortization of deferred compensation................... 15,423 6,979
Changes in current assets and liabilities:
Accounts receivable................................... 6,097 --
Inventories........................................... (1,350) (1,470)
Other current assets.................................. (1,920) (269)
Accounts payable...................................... 1,897 2,361
Accrued expenses...................................... (847) 1,940
Deferred revenue...................................... (3,211) 14
--------- --------
Net cash provided by (used in) operating
activities.......................................... 3,836 (5,721)
--------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment....................... (10,917) (1,907)
Maturities of marketable securities....................... 2,165 16,151
Purchases of marketable securities........................ (29,309) (17,581)
Other assets.............................................. (513) (479)
Cash used for acquisition, net of cash acquired........... (5,743) --
--------- --------
Net cash used in investing activities............... (44,317) (3,816)
--------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of common stock........................ 3,388 1,609
Proceeds from exercise of stock options................... 613 11
Net proceeds from issuance of preferred stock............. -- 24,710
Payments of stock subscriptions receivable................ 238 --
Proceeds from long-term obligations....................... -- 298
Payments of long-term obligations......................... (96) (288)
Payment of note payable to bank........................... (8,000) --
Repurchase of common stock................................ -- (20)
--------- --------
Net cash provided by (used in) financing
activities.......................................... (3,857) 26,320
--------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........ (44,338) 16,783
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD.............. 87,108 8,885
--------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD.................... $ 42,770 $ 25,668
========= ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest.................. $ 168 $ 111
========= ========
ACQUISITION OF TELECOM TECHNOLOGIES, INC:
Tangible assets........................................... $ 6,312 --
Liabilities assumed....................................... (21,184) --
Goodwill and purchased intangibles........................ 497,218 --
Issuance of common stock in connection with the
acquisition............................................. (476,513) --
Cash acquired............................................. (90) --
--------- --------
Cash used for acquisition, net of cash acquired........... $ 5,743 --
========= ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION
The accompanying unaudited condensed consolidated financial statements have
been prepared by Sonus Networks, Inc. (the "Company" or "Sonus") and reflect all
adjustments, consisting only of normal recurring adjustments, which in the
opinion of management are necessary for a fair statement of the results for the
interim periods. The unaudited condensed consolidated financial statements have
been prepared in accordance with the regulations of the Securities and Exchange
Commission ("SEC"), and omit or condense certain information and footnote
disclosure pursuant to existing SEC rules and regulations. Results for the
interim periods are not necessarily indicative of results to be expected for the
entire fiscal year. These statements should be read in conjunction with the
financial statements and related footnotes included in the Company's annual
report on Form 10-K filed with the SEC on March 28, 2001.
The condensed consolidated financial statements include the accounts of
Sonus and its wholly-owned subsidiaries. All material intercompany transactions
and balances have been eliminated.
(B) CASH EQUIVALENTS AND MARKETABLE SECURITIES
Cash equivalents are stated at cost plus accrued interest, which
approximates market value, and have maturities of three months or less at the
date of purchase.
Marketable securities are classified as held-to-maturity, as Sonus has the
intent and ability to hold to maturity. Marketable securities are reported at
amortized cost. Cash equivalents and marketable securities are invested in
high-quality credit instruments, primarily U.S. Government obligations and
corporate obligations with contractual maturities of less than one year. There
have been no gains or losses to date.
(C) CONCENTRATION OF CREDIT RISK, SIGNIFICANT CUSTOMERS AND LIMITED SUPPLIERS
The financial instruments that potentially subject Sonus to concentrations
of credit risk are cash, marketable securities and receivables. Sonus has no
significant off-balance-sheet concentrations such as foreign exchange contracts,
options contracts or other foreign hedging arrangements. Sonus' cash holdings
are diversified between three financial institutions.
For the three months ended March 31, 2001, four customers each contributed
more than 10% of revenues. As of March 31, 2001, two customers each contributed
more than 10% of the Company's accounts receivable balance. Certain components
and software licenses from third-parties used in Sonus' products are procured
from a single source. The failure of a supplier, including a subcontractor, to
deliver on schedule could delay or interrupt Sonus' delivery of products and
thereby adversely affect Sonus' revenues and operating results.
(D) REVENUE RECOGNITION
Sonus recognizes revenue from product sales to end users, resellers and
distributors upon shipment, provided there are no uncertainties regarding
acceptance, persuasive evidence of an arrangement exists, the sales price is
fixed or determinable and collection of the related receivable is probable. If
uncertainties exist, Sonus recognizes revenue when those uncertainties are
resolved. In
5
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
multiple element arrangements, in accordance with Statement of Position 97-2 and
98-9, Sonus uses the residual method when vendor specific evidence does not
exist for one of the delivered elements in the arrangement. Service revenues are
recognized as the services are provided. Maintenance revenues are recognized
ratably over the term of the contract. Amounts collected prior to satisfying the
revenue recognition criteria are reflected as deferred revenue. Warranty costs
are estimated and recorded by Sonus at the time of product revenue recognition.
In December 1999, the SEC issued Staff Accounting Bulletin (SAB) No. 101,
REVENUE RECOGNITION IN FINANCIAL STATEMENTS. This bulletin established
guidelines for revenue recognition. Sonus' revenue recognition policy complies
with this pronouncement.
(E) STOCK-BASED COMPENSATION
Sonus uses the intrinsic value-based method of Accounting Principles Board
(APB) Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, to account for
all of its employee stock-based compensation plans and uses the fair value
method to account for all non-employee stock-based compensation.
(F) COMPREHENSIVE LOSS
Sonus applies Financial Accounting Standards Board Statement of Financial
Accounting Standards (SFAS) No. 130, REPORTING COMPREHENSIVE INCOME. The
comprehensive loss for the period for the three months ended March 31, 2001 and
2000 does not differ from the reported loss.
(G) NET LOSS PER SHARE
Basic net loss per share is computed by dividing the net loss for the period
by the weighted average number of shares of unrestricted common stock
outstanding during the period. Diluted net loss per share is computed by
dividing the net loss for the period by the weighted average number of shares of
unrestricted common stock and potential common stock outstanding during the
period, if dilutive. Potential common stock consists of restricted shares of
common stock, common shares issuable upon the exercise of stock options, and
shares of common stock issued in connection with our acquisition of telecom
technologies, inc. (TTI) which are subject to the achievement of milestones and
employee retention (Note 2). For both basic and diluted net loss per share,
shares of common stock issuable upon the conversion of Sonus' redeemable
convertible preferred stock have been excluded from the date of issuance until
conversion into common stock.
Pro forma basic and diluted net loss per share for the three months ended
March 31, 2000 is computed using the weighted average number of unrestricted
common shares outstanding, including the pro forma effects of the automatic
conversion of Sonus' Series A, B, C and D redeemable convertible preferred stock
into shares of Sonus' common stock which occurred upon the closing of Sonus'
initial public offering, as if such conversion occurred at the date of original
issuance. There were no dilutive shares of potential common stock for these
periods as the Company incurred a net loss in each period.
6
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The following table sets forth the computation of basic and diluted net loss
per share and pro forma basic and diluted net loss per share:
THREE MONTHS ENDED
MARCH 31,
---------------------
2001 2000
--------- ---------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
Net loss.................................................... $(82,479) $(16,035)
======== ========
HISTORICAL--
Weighted average common shares outstanding................ 192,757 66,929
Less weighted average restricted common shares
outstanding............................................. (30,666) (43,700)
-------- --------
Shares used in computing basic and diluted net loss per
share................................................... 162,091 23,229
======== ========
Basic and diluted net loss per share...................... $ (0.51) $ (0.69)
======== ========
PRO FORMA--
Shares used in computing historical basic and diluted net
loss per share.......................................... 23,229
Weighted average number of shares assumed upon conversion
of redeemable convertible preferred stock............... 93,536
--------
Shares used in computing pro forma basic and diluted net
loss per share.......................................... 116,765
========
Pro forma basic and diluted net loss per share............ $ (0.14)
========
Excluded from the computation of diluted net loss per share in the above
table are options to purchase 17,766,738 and 9,381,096 shares of common stock
for the quarters ended March 31, 2001 and 2000, respectively, as their effects
would have been anti-dilutive. Had Sonus recorded net income for the quarter
ended March 31, 2001 and used the treasury stock method in accordance with SFAS
No. 128, EARNINGS PER SHARE, approximately 206,000,000 weighted average shares
of common stock would have been used in the computation of diluted earnings per
share.
NOTE 2. ACQUISITION OF TELECOM TECHNOLOGIES, INC.
On January 18, 2001, Sonus acquired privately-held telecom
technologies, inc. (TTI). Upon the closing of this acquisition, an aggregate of
10,800,000 shares of Sonus common stock (Merger Shares) were exchanged for all
outstanding shares of TTI common stock. Of the 10,800,000 shares issued to the
TTI stockholders, 1,200,000 shares were placed into escrow as security for TTI's
indemnity obligations under the merger agreement and will be released to TTI
stockholders upon expiration of those indemnity obligations, expected to be on
the first anniversary of the closing date. In addition to the Merger Shares, the
TTI stockholders will have the right to receive up to an aggregate of 4,200,000
additional shares of Sonus common stock which have been issued and placed in
escrow in the event that TTI achieves certain specified business expansion and
product development milestones from time to time prior to December 31, 2002.
7
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 2. ACQUISITION OF TELECOM TECHNOLOGIES, INC. (CONTINUED)
Sonus has also issued contingent awards of 3,000,000 shares of common stock
under the 2000 Retention Plan (the Plan) to certain employees of TTI who became
employees of Sonus as a result of the acquisition. These awards will vest in
equal installments on each of October 31, 2002, November 30, 2002, January 31,
2003 and February 28, 2003, if (i) the recipients do not voluntarily terminate
employment with TTI or Sonus prior to such vesting dates and (ii) the business
expansion and product development escrow release conditions are satisfied in
whole or in part. The portion of the total number of shares of Sonus common
stock awarded to each employee that will be deemed vested on each vesting date
will not exceed the proportion of all of the shares escrowed in the acquisition
subject to the satisfaction of the business expansion and product development
escrow release conditions that have been released prior to such vesting date.
Generally, any awards forfeited by employees who terminate employment with TTI,
other than a termination by Sonus or TTI without cause, prior to the date on
which they would otherwise vest, may be reallocated to remaining TTI employees,
awarded to replacement hires or returned to Sonus as provided by the terms of
the Plan. As of March 31, 2001, the value of the 3,000,000 shares awarded under
the Plan is $75,130,000. This amount is being expensed during the approximate
two-year vesting period and is adjusted for changes in the fair value of Sonus
common stock on the date the related milestone release conditions are earned for
accounting purposes.
The acquisition was accounted for using the purchase method of accounting in
accordance with APB Opinion No. 16, BUSINESS COMBINATIONS. Accordingly, the
total purchase price was allocated to the assets acquired and liabilities
assumed based upon their estimated fair values. The purchase price has been
determined by using the average market value of Sonus common stock for the
period from two days before to two days after the announcement of the TTI
acquisition ($41.61 per share) to value the 10,800,000 Sonus common shares
issued to the TTI stockholders at the closing date and adding the fair value of
liabilities assumed and expenses of the acquisition. Additionally, the purchase
price is increased as escrowed shares subject to milestone conditions are earned
for accounting purposes. As of March 31, 2001, the purchase price has been
computed as follows, in thousands:
Fair market value of shares issued.......................... $498,619
Liabilities assumed......................................... 21,184
Acquisition expenses........................................ 6,327
--------
$526,130
========
In accordance with APB Opinion No. 16 and with the assistance of valuation
experts, the purchase price was allocated to the tangible and intangible assets
acquired based upon their fair values. Based upon these appraisals, the purchase
price allocation is as follows, in thousands:
Tangible assets............................................. $ 6,312
Intangible assets:
Workforce, developed technology and customer list......... 32,300
In-process research and development....................... 40,000
Deferred compensation related to unvested options......... 22,600
Goodwill.................................................. 424,918
--------
$526,130
========
8
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 2. ACQUISITION OF TELECOM TECHNOLOGIES, INC. (CONTINUED)
To the extent that any of the escrowed shares are earned for accounting
purposes, the purchase price and goodwill will be adjusted by the value of such
shares on the date the relevant escrow release condition is satisfied.
Sonus engaged third-party appraisers to conduct a valuation of the tangible
and intangible assets and to assist in the determination of useful lives for
such assets. Based on the results of the appraisal, $40,000,000 was allocated to
in-process research and development, which was expensed in the first quarter of
fiscal 2001. The amounts allocated to developed technology, customer list,
assembled workforce and goodwill are being amortized over their estimated useful
lives of three years. During the first quarter of fiscal 2001, amortization of
goodwill and purchased intangibles of approximately $27,207,000 was recorded.
Deferred compensation was computed based on the intrinsic value of the unvested
TTI options assumed by Sonus and will be expensed over the remaining vesting
period of up to four years.
The valuation of in-process research and development was determined using
the income method. Revenue and expense projections for the in-process
development project were prepared by the management of Sonus through 2008 and
the present value was computed using a discount rate of 22.5%. The in-process
project is not expected to reach technological feasibility until the end of
2001, at an estimated cost to complete of approximately $5,000,000. In the event
that the project is not completed and technological feasibility is not achieved,
there is no alternative future use for the in-process technology. The
assumptions used for the valuation of in-process research and development are
the responsibility of management.
PRO FORMA INFORMATION
The following unaudited pro forma information presents a summary of the
consolidated results of operations of Sonus and TTI as if the acquisition had
occurred on January 1, 2000. The pro forma adjustments give effect to the
amortization of goodwill and purchased intangibles and stock-based compensation
expense but excludes the one-time write-off of in-process research and
development.
THREE MONTHS ENDED
MARCH 31,
---------------------
2001 2000
--------- ---------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
Revenues................................................ $ 41,833 $ 11,003
Net loss................................................ (53,603) (66,144)
Basic and diluted net loss per share.................... (0.32) (1.94)
Pro forma basic and diluted net loss per share.......... (0.52)
The pro forma results are not necessarily indicative of what would have
occurred if the acquisition had been in effect for the periods presented. In
addition, they are not intended to be a projection of future results and do not
reflect any synergies that might be achieved from combined operations.
9
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 3. INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out basis) or
market and consist of the following, in thousands:
MARCH 31, DECEMBER 31,
2001 2000
--------- ------------
Raw materials......................................... $ 2,092 $ 3,082
Work in progress...................................... 4,392 3,021
Finished goods........................................ 16,015 14,565
------- -------
$22,499 $20,668
======= =======
NOTE 4. STOCKHOLDERS' EQUITY
(A) STOCK SPLIT
On October 6, 2000, the Company effected a three-for-one stock split in the
form of a stock dividend. All shares of common stock, common stock options and
per share amounts in the accompanying financial statements and footnotes have
been retroactively adjusted to reflect the stock split.
(B) INITIAL PUBLIC OFFERING
On May 31, 2000, the Company completed its initial public offering of
17,250,000 shares of common stock, which includes the exercise of the
underwriters' over-allotment option of 2,250,000 shares, at $7.67 per share. The
proceeds from the initial public offering were $121,600,000, after deducting the
underwriters' discounts and commissions and estimated offering expenses paid by
us of $10,600,000.
(C) STOCK-BASED COMPENSATION
Stock-based compensation expenses include the amortization of deferred
employee compensation and other equity related expenses for non-employees.
In connection with certain employee stock option grants and the issuance of
employee restricted common stock during the years ended December 31, 1999 and
2000, Sonus recorded deferred compensation representing the aggregate difference
between the exercise price or purchase price and the fair value of the common
stock on the date of grant or sale for accounting purposes. The deferred
compensation is recognized as an expense over the vesting period of the
underlying stock options and restricted common stock.
Upon the closing of our acquisition of TTI, Sonus recorded deferred
stock-based compensation of $22,600,000 related to the intrinsic value of
unvested TTI stock options assumed by Sonus. This deferred compensation will be
recognized as an expense over the remaining vesting period of the underlying
stock options of up to four years. Additionally, Sonus recorded $75,130,000 of
deferred stock-based compensation on 3,000,000 restricted shares of common stock
awarded to TTI employees under the Plan. This deferred compensation will be
expensed over the approximate two-year vesting period of the retention shares
and will be adjusted for changes in the fair value of Sonus common
10
SONUS NETWORKS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED)
NOTE 4. STOCKHOLDERS' EQUITY (CONTINUED)
stock on the date the related milestone release conditions are earned for
accounting purposes. (See Note 2).
Sonus has valued the stock options and the issuances of restricted common
stock to non-employees based upon the fair market value of the services rendered
where Sonus believes the value of these services is more readily determinable
than the value of the options or restricted stock. All other grants of options
and issuances of restricted stock to non-employees are valued based upon the
Black-Scholes option pricing model. As of March 31, 2001, Sonus has 135,000
stock options and 120,000 shares of restricted common stock outstanding to
non-employees. In accordance with Emerging Issues Task Force 96-18, Sonus will
record the value at the time the services are provided. Total stock-based
compensation expense was $15,423,000 and $6,979,000 for the three months ended
March 31, 2001 and 2000, respectively.
11
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and Results
of Operations contains forward-looking statements, which are subject to a number
of risks and uncertainties. These forward-looking statements are based on our
current expectations, assumptions, estimates and projections about ourselves and
our industry. Our actual results could differ materially from those anticipated
in these forward-looking statements as a result of various factors, including
the factors set forth in "Cautionary Statements" beginning on page 16 of this
Quarterly Report on Form 10-Q. This discussion should be read in conjunction
with the condensed consolidated unaudited financial statements and related notes
for the periods specified. Further reference should be made to the Company's
Annual Report on Form 10-K.
OVERVIEW
We are a leading provider of voice infrastructure products for the new
public network. We offer a new generation of carrier-class switching equipment
and software that enable voice services to be delivered over packet-based
networks.
Since our inception, we have incurred significant losses and, as of
March 31, 2001 had an accumulated deficit of $166.4 million. We have not
achieved profitability on a quarterly or an annual basis, and anticipate that we
will continue to incur net losses. We have a lengthy sales cycle for our
products and, accordingly, we expect to incur sales and other expenses before we
realize the related revenues. We expect to incur significant sales and
marketing, research and development and general and administrative expenses and,
as a result, we will need to generate significant revenues to achieve and
maintain profitability.
We sell our products through a direct sales force, resellers and
distributors. Customers' decisions to purchase our products to deploy in
commercial networks involve a significant commitment of resources and a lengthy
evaluation, testing and product qualification process. We believe these long
sales cycles, as well as our expectation that customers will tend to
sporadically place large orders with short lead times, will cause our revenues
and results of operations to vary significantly and unexpectedly from quarter to
quarter. We expect to recognize revenues from a limited number of customers for
the foreseeable future.
We recognize revenue from product sales to end users, resellers and
distributors upon shipment, provided there are no uncertainties regarding
acceptance, persuasive evidence of an arrangement exists, the sales price is
fixed or determinable and collection of the related receivable is probable. If
uncertainties exist, we recognize revenue when those uncertainties are resolved.
Service revenue is recognized as the services are performed. Maintenance
revenues are recognized ratably over the term of the contract. Amounts collected
prior to satisfying our revenue recognition criteria are reflected as deferred
revenue. We estimate and record warranty costs at the time of product revenue
recognition. For the three months ended March 31, 2001, we recognized
$41.5 million in revenue. As of March 31, 2001, we had a total of $16.9 million
in deferred revenue. See note 1(d) to our unaudited condensed consolidated
financial statements.
ACQUISITION OF TELECOM TECHNOLOGIES, INC.
On January 18, 2001, we acquired TTI. Upon the closing of this acquisition,
we issued an aggregate of 10,800,000 shares of common stock in exchange for all
outstanding capital stock of TTI. Of the 10,800,000 shares issued to the TTI
shareholders, 1,200,000 shares were placed into escrow as security for indemnity
obligations under the merger agreement, and will be released to TTI shareholders
upon expiration of those indemnity obligations, expected to be on the first
anniversary of the closing date. In addition, TTI shareholders have the right to
receive an aggregate of 4,200,000 additional shares of common stock which have
been placed in escrow in the event that TTI achieves
12
certain specified business expansion and product development milestones from
time to time prior to December 31, 2002. In connection with our acquisition of
TTI, we adopted our 2000 Retention Plan and issued 3,000,000 shares of common
stock under this plan to certain employees of TTI who became employees of Sonus,
which are subject to continued employment and the attainment of business
expansion and product development milestones.
We have accounted for the acquisition as a purchase for financial reporting
purposes. Accordingly, Sonus' financial statements for the quarter ended
March 31, 2001 reflect the results of operations of TTI since the date of
acquisition. The purchase price was allocated to TTI's assets and liabilities
based on the fair value of the assets acquired and the liabilities assumed. Any
excess of the purchase price over the fair value of the net tangible assets and
identifiable intangible assets acquired has been classified as goodwill. In
addition, a portion of the purchase price has been allocated to in-process
research and development. Goodwill and other intangibles are being amortized by
charges to operations over their estimated useful lives of three years and
purchased in-process research and development was charged to operations at the
time of closing. The in-process project is not expected to reach technological
feasibility until the end of 2001, at an estimated cost to complete of
approximately $5,000,000. Sonus has recorded deferred stock-based compensation
relating to the issuance of awards under our 2000 Retention Plan. The amount of
charges for stock-based compensation, in-process research and development and
amortization of goodwill and other intangibles will be significant and will
therefore have a material negative impact on the combined company's future
operating results. See Note 2 to our condensed consolidated financial
statements.
Over our next several quarters the sources from which TTI has historically
derived revenue are expected to decline significantly as we shift TTI's focus to
the development and deployment of its INtelligentIP softswitch product line. In
addition, as a result of TTI's sale of its network testing software product
line, we expect revenues related to these products to decline or cease in 2001.
As of March 31, 2001, Sonus recognized its first revenues related to the
INtelligentIP softswitch product line.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2001 AND 2000
REVENUES. Revenues were $41.5 million for the first quarter of 2001, an
increase of $40.4 million, from $1.1 million for the first quarter of 2000. The
increase in revenues was the result of a significant increase in the sale of
voice infrastructure products including initial revenues associated with the
INtelligentIP softswitch product line acquired from TTI. For the first quarter
of 2001, four customers each contributed more than 10% of our revenues.
COST OF REVENUES. Costs of revenues consist primarily of amounts paid to
contract manufacturers, manufacturing and service personnel and related costs.
Cost of revenues were $18.0 million, or 43.4% of revenues, for the first three
months of 2001, an increase of $16.5 million from $1.5 million in the first
quarter of 2000. The increase is primarily the result of an increase in product
manufacturing and personnel costs associated with revenues recorded in fiscal
2001. We expect cost of revenues to decrease modestly as a percentage of
revenues based on product mix changes and improved efficiencies as our revenue
increases.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
consist primarily of salaries and related personnel costs, recruiting expenses
and prototype costs related to the design, development, testing and enhancement
of our products. We expense our research and development costs as incurred.
Research and development expenses were $13.9 million in the first three months
of 2001, an increase of $9.1 million from $4.8 million in the first quarter of
2000. The increase reflects costs primarily associated with a significant
increase in personnel and personnel-related expenses including our acquisition
of TTI, and, to a lesser extent, prototype and software expenses for the
development of our products. We believe that the rapid technological innovation
is critical to our long-
13
term success and we intend to continuously enhance our products and technologies
to meet the evolving requirements of our customers and markets.
SALES AND MARKETING EXPENSES. Sales and marketing expenses consist
primarily of salaries and related personnel expenses, commissions, travel and
entertainment expenses, promotions, customer evaluations and other marketing
expenses. Sales and marketing expenses were $8.5 million in the first quarter of
2001, an increase of $5.1 million from $3.4 million in the first quarter of
2000. The increase reflects costs primarily associated with the hiring of
additional U.S. and international sales and marketing personnel including our
acquisition of TTI, commissions and the opening of international sales offices
and, to a lesser extent, travel-related expenses, marketing program costs and
trade shows. We intend to continue to expand our domestic and international
sales force and marketing efforts, and as a result, expect that the dollar
amounts of sales and marketing expenses will increase in future periods.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
consist primarily of salaries and related expenses for executive and
administrative personnel, recruiting expenses and professional fees. General and
administrative expenses were $2.7 million in the first quarter of 2001, an
increase of $2.0 million from $0.7 million in the first quarter of 2000. The
increase reflects the hiring of additional general and administrative personnel
including our acquisition of TTI, and, to a lesser extent, costs associated with
being a public company. We expect that the dollar amounts of general and
administrative expenses will increase in future periods as a result of expansion
of business activity and the costs associated with being a publicly-traded
company.
STOCK-BASED COMPENSATION EXPENSES. Stock-based compensation expenses
include the amortization of stock compensation charges resulting from the
granting of stock options, including those TTI stock options assumed by Sonus,
stock awards to TTI employees under the 2000 Retention Plan, and the sales of
restricted common stock to employees and compensation expense associated with
the grant of stock options and issuance of restricted stock to non-employees.
See Note 4(c) to our unaudited condensed consolidated financial statements.
Deferred compensation related to the granting of stock options and sales of
restricted common stock to employees, including those TTI stock options assumed
by Sonus, are being amortized over the vesting periods of four to five years.
The deferred compensation associated with the 2000 Retention Plan awarded to TTI
employees will be expensed over the approximate two-year vesting period of the
retention shares. These amounts will be adjusted for changes in the fair value
of Sonus common stock on the date the related milestone release conditions are
earned for accounting purposes. The compensation expense associated with
non-employees is recorded at the time services are provided.
Stock-based compensation expenses were $15.4 million in the first quarter of
2001, an increase of $8.4 million from $7.0 million in the first quarter of
2000. This increase is primarily due to the amortization of deferred stock-based
compensation resulting from the TTI unvested stock options assumed by Sonus and
retention stock awards issued to TTI employees. Based on the grant of stock
options, sale of restricted common stock and grant of awards of restricted
common stock through March 31, 2001, we expect stock-based compensation expense
to impact our results through fiscal 2005.
GOODWILL, PURCHASED INTANGIBLES AND IN-PROCESS RESEARCH AND DEVELOPMENT
EXPENSES. In January 2001, Sonus acquired certain intellectual property,
in-process research and development and intangible assets in connection of our
acquisition of TTI, which resulted in the recording of $457.2 million of
goodwill and other intangibles. The goodwill and purchased intangibles are being
amortized over a three-year period. Results of operations for the quarter ended
March 31, 2001, includes $27.2 million in amortization of goodwill and purchased
intangibles and a $40.0 million write-off of purchased in-process research and
development.
14
INTEREST INCOME (EXPENSE), NET. Interest income, net of interest expense
increased $1.5 million to $1.7 million for the first three months of 2001,
compared to $0.2 million for the same period in fiscal 2000. This increase
reflects higher invested balances as a result of our May 2000 initial public
offering and private financings, partially offset by interest expense from
incurred borrowings through March 2001.
INCOME TAXES. No provision for income taxes has been recorded for the three
months ended March 31, 2001 and 2000, due to accumulated net losses. We did not
record any tax benefits relating to these losses or other tax benefits due to
the uncertainty surrounding the realization of these future tax benefits.
LIQUIDITY AND CAPITAL RESOURCES
Prior to our initial public offering, we financed our operations primarily
through private sales of redeemable convertible preferred stock totaling
$70.7 million in net proceeds. Upon the closing of our initial public offering
on May 31, 2000, the Company received cash proceeds, net of underwriters'
discount and offering expenses, totaling $121.6 million, and all of our
redeemable convertible preferred stock converted into 96,957,222 shares of
common stock. At March 31, 2001, cash and cash equivalents and marketable
securities totaled $124.9 million.
Net cash provided by operating activities was $3.8 million for the three
months ended March 31, 2001, as compared to cash used in operating activities of
$5.7 million for the three months ended March 31, 2000. The cash provided by
operating activities in the first quarter of 2001 reflects higher non-cash
charges for stock-based compensation, amortization of goodwill and purchased
intangibles, in-process research and development and depreciation, and decreases
in accounts receivable offset by the net loss.
Net cash used in investing activities was $44.3 million for the three months
ended March 31, 2001, as compared to $3.8 million for the three months ended
March 31, 2001. Net cash used in investing activities reflects net purchases of
marketable securities of $27.1 million, purchases of property and equipment,
primarily computers and test equipment for our development and manufacturing
activities of $10.9 million and merger expenses associated with our acquisition
of TTI of $5.7 million for the quarter ended March 31, 2001. The timing and
amount of future capital expenditures will depend primarily on our future
growth.
Net cash used in financing activities was $3.9 million for the three months
ended March 31, 2001, as compared to cash provided by financing activities of
$26.3 million for the three months ended March 31, 2000. The net cash used in
the first quarter of 2001 was due to the repayment of $8.0 million in a bank
note payable assumed as part of the acquisition of TTI, offset in part by the
sale of common stock. The net cash provided in the first quarter of 2000 is
primarily the result of the sale of Series D redeemable convertible preferred
stock in March of 2000.
We believe our current cash and cash equivalents will be sufficient to meet
our anticipated cash needs for working capital and capital expenditures for at
least 12 months. If our existing resources and cash generated from operations
are insufficient to satisfy our liquidity requirements, we may seek to sell
additional equity or debt securities. The sale of additional equity or
convertible debt securities could result in additional dilution to our
stockholders, and we cannot be certain that additional financing will be
available in amounts or on terms acceptable to us, if at all. If we are unable
to obtain this additional financing, we may be required to reduce the scope of
our planned product development and sales and marketing efforts, which could
harm our business, financial condition and operating results.
15
CAUTIONARY STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of the Securities Litigation Reform Act of 1995 that involve
risks and uncertainties. Our actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including those set forth in the following cautionary statements and elsewhere
in this Quarterly Report on Form 10-Q. If any of the following risks were to
occur, our business, financial condition or results of operations would likely
suffer and the trading price of our common stock would likely decline.
WE EXPECT THAT A MAJORITY OF OUR REVENUES WILL BE GENERATED FROM A LIMITED
NUMBER OF CUSTOMERS AND OUR REVENUES WILL NOT GROW IF WE DO NOT SUCCESSFULLY
SELL PRODUCTS TO THESE CUSTOMERS.
To date, we have shipped our products to a limited number of customers and
only during the first quarter of fiscal 2000 did we begin to recognize revenues.
We expect that in the foreseeable future, substantially all of our revenues will
depend on sales of our products to a limited number of customers. For example,
for the quarter ended March 31, 2001, four customers each contributed more than
10% of our revenues. The customers to whom we have shipped products are
currently using our products in laboratory testing or internal trials or have
deployed our products in their commercial networks. Our customers may not, or
may not continue to, deploy our products in their commercial networks on a
timely basis, or at all, and any delay or failure by our customers to introduce
commercial services based on our products, or a downturn in their business,
would seriously harm our ability to sell products and generate revenues.
WE WILL NOT BE SUCCESSFUL IF WE DO NOT GROW OUR CUSTOMER BASE.
Our future success will depend on our ability to attract additional
customers beyond our current limited number. The growth of our customer base
could be adversely affected by:
- customer unwillingness to implement our new voice infrastructure products;
- any delays or difficulties that we may incur in completing the development
and introduction of our planned products or product enhancements;
- our customers inability to raise capital to finance their business plans;
- new product introductions by our competitors;
- any failure of our products to perform as expected; or
- any difficulty we may incur in meeting customers' delivery requirements.
If we do not expand our customer base to include additional customers that
deploy our products in operational commercial networks, our revenues will not
grow significantly, or at all.
THE MARKET FOR VOICE INFRASTRUCTURE PRODUCTS FOR THE NEW PUBLIC NETWORK IS NEW
AND EVOLVING AND OUR BUSINESS WILL SUFFER IF IT DOES NOT DEVELOP AS WE EXPECT.
The market for our products is rapidly evolving. Packet-based technology may
not be widely accepted as a platform for voice and a viable market for our
products may not develop or be sustainable. If this market does not develop, or
develops more slowly than we expect, we may not be able to sell our products in
significant volumes, or at all.
16
WE ARE ENTIRELY DEPENDENT UPON OUR VOICE INFRASTRUCTURE PRODUCTS AND OUR FUTURE
REVENUES DEPEND UPON THEIR COMMERCIAL SUCCESS.
Our future growth depends upon the commercial success of our voice
infrastructure products. We intend to develop and introduce new products and
enhancements to existing products in the future. We may not successfully
complete the development or introduction of these products. If our target
customers do not adopt, purchase and successfully deploy our current or planned
products, our revenues will not grow.
BECAUSE OUR PRODUCTS ARE SOPHISTICATED AND DESIGNED TO BE DEPLOYED IN COMPLEX
ENVIRONMENTS, THEY MAY HAVE ERRORS OR DEFECTS THAT WE FIND ONLY AFTER FULL
DEPLOYMENT, WHICH COULD SERIOUSLY HARM OUR BUSINESS.
Our products are sophisticated and are designed to be deployed in large and
complex networks. Because of the nature of our products, they can only be fully
tested when substantially deployed in very large networks with high volumes of
traffic. Some of our customers have only recently begun to commercially deploy
our products and they may discover errors or defects in the software or
hardware, or the products may not operate as expected.
If we are unable to fix errors or other performance problems that may be
identified after full deployment of our products, we could experience:
- loss of, or delay in, revenues;
- loss of customers and market share;
- a failure to attract new customers or achieve market acceptance for our
products;
- increased service, support and warranty costs and a diversion of
development resources; and
- costly and time-consuming legal actions by our customers.
IF WE DO NOT RESPOND RAPIDLY TO TECHNOLOGICAL CHANGES OR TO CHANGES IN INDUSTRY
STANDARDS, OUR PRODUCTS COULD BECOME OBSOLETE.
The market for voice infrastructure products for the new public network is
likely to be characterized by rapid technological change and frequent new
product introductions. We may be unable to respond quickly or effectively to
these developments. We may experience difficulties with software development,
hardware design, manufacturing or marketing that could delay or prevent our
development, introduction or marketing of new products and enhancements. The
introduction of new products by our competitors, the market acceptance of
products based on new or alternative technologies or the emergence of new
industry standards could render our existing or future products obsolete. If the
standards adopted are different from those that we have chosen to support,
market acceptance of our products may be significantly reduced or delayed. If
our products become technologically obsolete, we may be unable to sell our
products in the marketplace and generate revenues.
WE DEPEND UPON CONTRACT MANUFACTURERS AND ANY DISRUPTION IN THESE RELATIONSHIPS
MAY CAUSE US TO FAIL TO MEET THE DEMANDS OF OUR CUSTOMERS AND DAMAGE OUR
CUSTOMER RELATIONSHIPS.
We rely on a small number of contract manufacturers to manufacture our
products according to our specifications and to fill orders on a timely basis.
Our contract manufacturers provide comprehensive manufacturing services,
including assembly of our products and procurement of materials. Each of our
contract manufacturers also builds products for other companies and may not
always have sufficient quantities of inventory available to fill our orders or
may not allocate their internal resources to fill these orders on a timely
basis. We do not have long-term supply contracts with our manufacturers and they
are not required to manufacture products for any specified period. We do
17
not have internal manufacturing capabilities to meet our customers' demands.
Qualifying a new contract manufacturer and commencing commercial-scale
production is expensive and time consuming and could result in a significant
interruption in the supply of our products. If a change in contract
manufacturers results in delays in our fulfillment of customer orders or if a
contract manufacturer fails to make timely delivery of orders, we may lose
revenues and suffer damage to our customer relationships.
WE HAVE BEEN IN BUSINESS FOR A SHORT PERIOD OF TIME AND YOUR BASIS FOR
EVALUATING US IS LIMITED.
We were founded in August 1997, and only during the first quarter of fiscal
2000 did we begin to recognize any revenues. We have a limited meaningful
operating history upon which you may evaluate us and our prospects. Moreover, we
cannot be sure that we have accurately identified all of the risks to our
business. Also, our assessment of the prospects for our success may prove
inaccurate.
THE UNPREDICTABILITY OF OUR QUARTERLY RESULTS MAY ADVERSELY AFFECT THE TRADING
PRICE OF OUR COMMON STOCK.
Our revenues and operating results will vary significantly from quarter to
quarter due to a number of factors, many of which are outside of our control and
any of which may cause our stock price to fluctuate. Generally, purchases by
service providers of telecommunications equipment from manufacturers have been
unpredictable and clustered, rather than steady, as the providers build out
their networks. The primary factors that may affect our revenues and results
include the following:
- fluctuation in demand for our voice infrastructure products and the timing
and size of customer orders;
- the length and variability of the sales cycle for our products and the
corresponding timing of recognizing or deferring revenues;
- new product introductions and enhancements by our competitors and us;
- changes in our pricing policies, the pricing policies of our competitors
and the prices of the components of our products;
- our ability to develop, introduce and ship new products and product
enhancements that meet customer requirements in a timely manner;
- the mix of product configurations sold;
- our ability to obtain sufficient supplies of sole or limited source
components;
- our ability to attain and maintain production volumes and quality levels
for our products;
- costs related to acquisitions of complementary products, technologies or
businesses; and
- general economic conditions, as well as those specific to the
telecommunications, networking and related industries and other factors.
As with other telecommunications product suppliers, we may recognize a
substantial portion of our revenue in a given quarter from sales booked and
shipped in the last weeks of that quarter. As a result, a delay in customer
orders is likely to result in a delay in shipments and recognition of revenue
beyond the end of a given quarter, which would have a significant impact on our
operating results for that quarter.
Our operating expenses are largely based on anticipated organizational
growth and revenue trends. As a result, a delay in generating or recognizing
revenues for the reasons set forth above, or for any other reason, could cause
significant variations in our operating results. We believe that
quarter-to-quarter comparisons of our operating results are not a good
indication of our future performance. It is likely that in some future quarters,
our operating results may be below the
18
expectations of public market analysts and investors. In this event, the price
of our common stock will probably substantially decrease.
WE MAY NOT BECOME PROFITABLE.
We have incurred significant losses since inception and expect to continue
to incur losses in the future. As of March 31, 2001, we had an accumulated
deficit of $166.4 million and had only recognized cumulative revenues since
inception of $93.3 million through March 31, 2001. We have not achieved
profitability on a quarterly or annual basis. As a result of our acquisition of
TTI, we expect to incur significant expenses for stock-based compensation and
amortization of goodwill and purchased intangibles, which will make achieving
profitability more difficult in the near to mid-term.
Our revenues may not grow and we may never generate sufficient revenues to
achieve or sustain profitability. We expect to continue to incur significant and
increasing sales and marketing, product development, administrative and other
expenses. As a result, we will need to generate significant revenues to achieve
and maintain profitability.
WE WILL NOT RETAIN CUSTOMERS OR ATTRACT NEW CUSTOMERS IF WE DO NOT ANTICIPATE
AND MEET SPECIFIC CUSTOMER REQUIREMENTS OR IF OUR PRODUCTS DO NOT INTEROPERATE
WITH OUR CUSTOMERS' EXISTING NETWORKS.
To achieve market acceptance for our products, we must effectively
anticipate, and adapt in a timely manner to, customer requirements and offer
products and services that meet changing customer demands. Prospective customers
may require product features and capabilities that our current products do not
have. The introduction of new or enhanced products also requires that we
carefully manage the transition from older products in order to minimize
disruption in customer ordering patterns and ensure that adequate supplies of
new products can be delivered to meet anticipated customer demand. If we fail to
develop products and offer services that satisfy customer requirements, or to
effectively manage the transition from older products, our ability to create or
increase demand for our products would be seriously harmed and we may lose
current and prospective customers.
Many of our customers will require that our products be designed to
interface with their existing networks, each of which may have different
specifications. Issues caused by an unanticipated lack of interoperability may
result in significant warranty, support and repair costs, divert the attention
of our engineering personnel from our hardware and software development efforts
and cause significant customer relations problems. If our products do not
interoperate with those of our customers' networks, installations could be
delayed or orders for our products could be cancelled, which would seriously
harm our gross margins and result in loss of revenues or customers.
IF WE FAIL TO COMPETE SUCCESSFULLY, OUR ABILITY TO INCREASE OUR REVENUES OR
ACHIEVE PROFITABILITY WILL BE IMPAIRED.
Competition in the telecommunications market is intense. This market has
historically been dominated by large companies, such as Lucent Technologies and
Nortel Networks, both of whom are our direct competitors. We also face
competition from other large telecommunications and networking companies,
including Cisco Systems, that have entered our market by acquiring companies
that design competing products. In addition, a number of smaller and mostly
private companies, including Convergent Networks, Unisphere Networks and others,
have announced plans for new products that address similar market opportunities
that we address. Because this market is rapidly evolving, additional competitors
with significant financial resources may enter these markets and further
intensify competition.
Many of our current and potential competitors have significantly greater
selling and marketing, technical, manufacturing, financial and other resources,
including the ability to offer vendor-sponsored financing programs. If we are
unable or unwilling to offer vendor-sponsored financing, prospective customers
may decide to purchase products from one of our competitors who offers this type
of
19
financing. Furthermore, some of our competitors are currently selling
significant amounts of other products to our current and prospective customers.
Our competitors' broad product portfolios coupled with already existing
relationships may cause our customers to buy our competitors' products or harm
our ability to attract new customers.
To compete effectively, we must deliver innovative products that:
- provide extremely high reliability and voice quality;
- scale easily and efficiently;
- interoperate with existing network designs and other vendors' equipment;
- provide effective network management;
- are accompanied by comprehensive customer support and professional
services; and
- provide a cost-effective and space-efficient solution for service
providers.
If we are unable to compete successfully against our current and future
competitors, we could experience price reductions, order cancellations, loss of
revenues and reduced gross margins.
WE AND OUR CONTRACT MANUFACTURERS RELY ON SINGLE OR LIMITED SOURCES FOR SUPPLY
OF SOME COMPONENTS OF OUR PRODUCTS AND IF WE FAIL TO ADEQUATELY PREDICT OUR
MANUFACTURING REQUIREMENTS OR IF OUR SUPPLY OF ANY OF THESE COMPONENTS IS
DISRUPTED, WE WILL BE UNABLE TO SHIP OUR PRODUCTS.
We and our contract manufacturers currently purchase several key components
of our products, including commercial digital signal processors, from single or
limited sources. We purchase these components on a purchase order basis. If we
overestimate our component requirements, we could have excess inventory, which
would increase our costs. If we underestimate our requirements, we may not have
adequate supply, which could interrupt manufacturing of our products and result
in delays in shipments and revenues.
We currently do not have long-term supply contracts with our component
suppliers and they are not required to supply us with products for any specified
periods, in any specified quantities or at any set price, except as may be
specified in a particular purchase order. In the event of a disruption or delay
in supply, or inability to obtain products, we may not be able to develop an
alternate source in a timely manner or at favorable prices, or at all. A failure
to find acceptable alternative sources could hurt our ability to deliver
high-quality products to our customers and negatively affect our operating
margins. In addition, our reliance on our suppliers exposes us to potential
supplier production difficulties or quality variations. Our customers rely upon
our ability to meet committed delivery dates, and any disruption in the supply
of key components would seriously impact our ability to meet these dates and
could result in legal action by our customers, loss of customers or harm to our
ability to attract new customers.
IF WE ARE NOT ABLE TO OBTAIN NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY AT
ACCEPTABLE PRICES, OR AT ALL, OUR PRODUCTS COULD BECOME OBSOLETE.
We have incorporated third-party licensed technology into our current
products. From time to time, we may be required to license additional technology
from third parties to develop new products or product enhancements. Third-party
licenses may not be available or continue to be available to us on commercially
reasonable terms. The inability to maintain or re-license any third-party
licenses required in our current products or to obtain any new third-party
licenses to develop new products and product enhancements could require us to
obtain substitute technology of lower quality or performance standards or at
greater cost, and delay or prevent us from making these products or
enhancements, any of which could seriously harm the competitiveness of our
products.
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OUR FAILURE TO MANAGE OUR EXPANSION EFFECTIVELY IN A RAPIDLY CHANGING MARKET
COULD INCREASE OUR COSTS, HARM OUR ABILITY TO SELL FUTURE PRODUCTS AND IMPAIR
OUR FUTURE GROWTH.
We intend to expand our operations rapidly and plan to hire a significant
number of employees during 2001. Our growth has placed, and our anticipated
growth will continue to place, a significant strain on our management systems
and resources. Our ability to successfully offer our products and implement our
business plan in a rapidly evolving market requires effective planning and
management processes. We expect that we will need to continue to improve our
financial, managerial and manufacturing controls and reporting systems, and will
need to continue to expand, train and manage our work force worldwide. If we
fail to implement adequate control systems in an efficient and timely manner,
our costs may be increased and our growth could be impaired and we may not be
able to accurately anticipate and fulfill market demand, the result of which
will be a loss of revenues and customers.
IF WE FAIL TO HIRE AND RETAIN NEEDED PERSONNEL, THE IMPLEMENTATION OF OUR
BUSINESS PLAN COULD SLOW OR OUR FUTURE GROWTH COULD HALT.
Competition for highly skilled engineering, sales, marketing and support
personnel is intense because there are a limited number of people available with
the necessary technical skills and understanding of our market. Any failure to
attract, assimilate or retain qualified personnel to fulfill our current or
future needs could impair our growth. The support of our products requires
highly trained customer support and professional services personnel. Once we
hire them, they may require extensive training in our voice infrastructure
products. If we are unable to hire, train and retain our customer support and
professional services personnel, we may not be able to increase sales of our
products. Our future success depends upon the continued services of our
executive officers who have critical industry experience and relationships that
we rely on to implement our business plan. Most of our officers or key employees
are not bound by an employment agreement for any specific term. The loss of the
services of any of our officers or key employees could delay the development and
introduction of, and negatively impact our ability to sell, our products.
OUR ABILITY TO COMPETE AND OUR BUSINESS COULD BE JEOPARDIZED IF WE ARE UNABLE TO
PROTECT OUR INTELLECTUAL PROPERTY OR BECOME SUBJECT TO INTELLECTUAL PROPERTY
RIGHTS LITIGATION, WHICH COULD REQUIRE US TO INCUR SIGNIFICANT COSTS.
We rely on a combination of patent, copyright, trademark and trade secret
laws and restrictions on disclosure to protect our intellectual property rights.
Despite our efforts to protect our proprietary rights, unauthorized parties may
attempt to copy or otherwise obtain and use our products or technology.
Monitoring unauthorized use of our products is difficult and we cannot be
certain that the steps we have taken will prevent unauthorized use of our
technology, particularly in foreign countries where the laws may not protect our
proprietary rights as fully as in the United States. If competitors are able to
use our technology, our ability to compete effectively could be harmed.
In addition, we may also become involved in litigation as a result of
allegations that we infringe the intellectual property rights of others. Any
parties asserting that our products infringe upon their proprietary rights would
force us to defend ourselves and possibly our customers or contract
manufacturers against the alleged infringement. These claims and any resulting
lawsuit, if successful, could subject us to significant liability for damages
and invalidation of our proprietary rights. Any potential intellectual property
litigation also could force us to do one or more of the following:
- stop selling, incorporating or using our products that use the challenged
intellectual property;
- obtain from the owner of the infringed intellectual property right a
license to sell or use the relevant technology, which license may not be
available on reasonable terms, or at all; or
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- redesign those products that use any allegedly infringing technology.
Any lawsuits regarding intellectual property rights, regardless of their
success, would be time-consuming, expensive to resolve and would divert our
management's time and attention.
ANY INVESTMENTS OR ACQUISITIONS WE MAKE COULD DISRUPT OUR BUSINESS AND SERIOUSLY
HARM OUR FINANCIAL CONDITION.
Although we have no current agreements to do so, we intend to consider
investing in, or acquiring, complementary products, technologies or businesses.
In the event of future investments or acquisitions, we could, and in connection
with our recent acquisition of TTI, we did:
- issue stock that would dilute our current stockholders' percentage
ownership;
- incur debt or assume liabilities;
- incur significant amortization expenses related to goodwill and other
intangible assets; or
- incur large and immediate write-offs for in-process research and
development and stock-based compensation.
Our integration of any acquired products, technologies or businesses,
including those associated with our acquisition of TTI, will also involve
numerous risks, including:
- problems and unanticipated costs associated with combining the purchased
products, technologies or businesses;
- diversion of management's attention from our core business;
- adverse effects on existing business relationships with suppliers and
customers;
- risks associated with entering markets in which we have limited or no
prior experience; and
- potential loss of key employees, particularly those of the acquired
organizations.
We may be unable to successfully integrate any products, technologies,
businesses or personnel that we might acquire in the future, including those
associated with our acquisition of TTI, without significant costs or disruption
to our business.
WE MAY FACE RISKS ASSOCIATED WITH OUR INTERNATIONAL EXPANSION THAT COULD IMPAIR
OUR ABILITY TO GROW OUR REVENUES ABROAD.
Our expansion into international markets will require significant management
attention and financial resources to successfully develop direct and indirect
international sales and support channels. In addition, we may not be able to
develop international market demand for our products, which could impair our
ability to grow our revenues.
We have limited experience marketing and distributing our products
internationally and, to do so, we expect that we will need to develop versions
of our products that comply with local standards. Furthermore, international
operations are subject to other inherent risks, including:
- greater difficulty collecting accounts receivable and longer collection
periods;
- difficulties and costs of staffing and managing international operations;
- the impact of differing technical standards outside the United States;
- the impact of recessions in economies outside the United States;
- unexpected changes in regulatory requirements and currency exchange rates;
- certification requirements;
- reduced protection for intellectual property rights in some countries; and
- potentially adverse tax consequences.
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IF WE ARE SUBJECT TO UNFAIR HIRING CLAIMS, WE COULD INCUR SUBSTANTIAL COSTS IN
DEFENDING OURSELVES.
Companies in our industry whose employees accept positions with competitors
frequently claim that their competitors have engaged in unfair hiring practices.
We may be subject to claims of this kind in the future as we seek to hire
qualified personnel. Those claims may result in material litigation. We could
incur substantial costs defending ourselves or our employees against those
claims, regardless of their merits. In addition, defending ourselves from those
types of claims could divert our management's attention from our operations. If
we are found to have engaged in unfair hiring practices, or our employees are
found to have violated agreements with previous employers, we may suffer a
significant disruption in our operations.
WE MAY NEED ADDITIONAL CAPITAL IN THE FUTURE, WHICH MAY NOT BE AVAILABLE TO US,
AND IF IT IS AVAILABLE, MAY DILUTE OWNERS OF OUR COMMON STOCK.
We may need to raise additional funds through public or private debt or
equity financings in order to:
- fund ongoing operations;
- take advantage of opportunities, including more rapid expansion or
acquisition of complementary products, technologies or businesses;
- develop new products; or
- respond to competitive pressures.
Any additional capital raised through the sale of equity may dilute an
investor's percentage ownership of our common stock. Furthermore, additional
financings may not be available on terms favorable to us, or at all. A failure
to obtain additional funding could prevent us from making expenditures that may
be required to grow or maintain our operations.
OUR STOCK PRICE MAY BE VOLATILE.
The market for technology stocks has been and will likely continue to be
extremely volatile. The following factors could cause the market price of our
common stock to fluctuate significantly:
- loss of any of our major customers;
- the addition or departure of key personnel;
- variations in our quarterly operating results;
- announcements by us or our competitors of significant contracts, new
products or product enhancements, acquisitions, distribution partnerships,
joint ventures or capital commitments;
- changes in financial estimates by securities analysts;
- sales of common stock or other securities by us or by our stockholders in
the future;
- any acquisitions, distribution partnerships, joint ventures or capital
commitments;
- the impact of recessions in economies outside the United States;
- unexpected changes in regulatory requirements and currency exchange rates;
- certification requirements;
- reduced protection for intellectual property rights in some countries; and
- potentially adverse tax consequences.
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SALES OF A SUBSTANTIAL AMOUNT OF OUR COMMON STOCK IN THE FUTURE COULD CAUSE OUR
STOCK PRICE TO FALL.
Some stockholders who acquired shares prior to our initial public offering
hold a substantial number of shares of our common stock that have not yet been
sold in the public market. Sales of a substantial number of shares of our common
stock within a short period of time in the future could cause our stock price to
fall. In addition, the sale of these shares could impair our ability to raise
capital through the sale of debt or additional stock.
INSIDERS HAVE SUBSTANTIAL CONTROL OVER US AND COULD LIMIT YOUR ABILITY TO
INFLUENCE THE OUTCOME OF KEY TRANSACTIONS, INCLUDING A CHANGE OF CONTROL.
As of February 15, 2001, our executive officers, directors and entities
affiliated with them beneficially own, in the aggregate, approximately 24.9% of
our outstanding common stock. These stockholders, if acting together, would be
able to influence significantly all matters requiring approval by our
stockholders, including the election of directors and the approval of mergers or
other business combination transactions.
PROVISIONS OF OUR CHARTER DOCUMENTS AND DELAWARE LAW MAY HAVE ANTI-TAKEOVER
EFFECTS THAT COULD PREVENT A CHANGE OF CONTROL.
Provisions of our amended and restated certificate of incorporation, amended
and restated by-laws and Delaware law could make it more difficult for a third
party to acquire us, even if doing so would be beneficial to our stockholders.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We do not currently use derivative financial instruments. We generally place
our marketable security investments in high-quality credit instruments,
primarily U.S. Government obligations and corporate obligations with contractual
maturities of less than one year. We do not expect any material loss from our
marketable security investments and therefore believe that our potential
interest rate exposure is not material.
PART II--OTHER INFORMATION
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits: None
(b) Reports on Form 8-K: The Company filed a Current Report on Form 8-K on
February 2, 2001 in connection with our acquisition of telecom technologies,
inc.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
Dated: May 14, 2001 SONUS NETWORKS, INC.
By: /s/ STEPHEN J. NILL
------------------------------------------
Stephen J. Nill, CHIEF FINANCIAL OFFICER,
VICE PRESIDENT OF FINANCE AND
ADMINISTRATION AND TREASURER (AUTHORIZED
OFFICER AND PRINCIPAL FINANCIAL AND
ACCOUNTING OFFICER)
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