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 Commission file number: 0-15895
September 30, 1999
- ------------------
DIGITAL MICROWAVE CORPORATION
-----------------------------
(Exact name of registrant specified in its charter)
DELAWARE 77-0016028
- ---------------------------------------- ---------------------
(State or other jurisdiction (IRS employer
of incorporation or organization) identification number)
170 Rose Orchard Way
SAN JOSE, CA 95134
- ---------------------------------------- ---------------------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (408) 943-0777
----------------
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 outstanding shares of the Registrant's common stock, par value
$.01 per share, was 64,543,343 on November 9, 1999.
INDEX
PAGE
COVER PAGE 1
INDEX 2
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Condensed Consolidated Balance Sheets 3
Condensed Consolidated Statements of Operations 4
Condensed Consolidated Statements of Cash Flows 5
Notes to Condensed Consolidated Financial Statements 6-11
Item 2 - Management's Discussion and Analysis of
Financial Condition and Results of Operations 12-19
Item 3 - Quantitative and Qualitative Disclosures About Market Risk 20
PART II - OTHER INFORMATION
Item 4 - Submission of Matters to a Vote of Security Holders 21
Item 5 - Other Information 21
Item 6 - Exhibits and Reports on Form 8-K 21
SIGNATURE 23
Page 2 of 23
PART I - FINANCIAL INFORMATION
ITEM I - FINANCIAL STATEMENTS
DIGITAL MICROWAVE CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
September 30, 1999 March 31, 1999
------------------ --------------
(Unaudited)
ASSETS
- ------
CURRENT ASSETS:
Cash and cash equivalents $ 17,212 $ 21,518
Short-term investments 13,795 5,745
Accounts receivable, net 69,137 60,253
Inventories 45,097 50,610
Deferred tax asset 2,848 3,009
Other current assets 8,682 12,827
------------------ --------------
TOTAL CURRENT ASSETS 156,771 153,962
PROPERTY AND EQUIPMENT, NET 41,306 43,025
OTHER ASSETS 4,472 5,177
------------------ --------------
TOTAL ASSETS $ 202,549 $ 202,164
------------------ --------------
------------------ --------------
LIABILITIES AND STOCKHOLDERS' EQUITY
- ------------------------------------
CURRENT LIABILITIES:
Current portion of long-term debt $ 1,058 $ 725
Current maturities of capital lease obligations 477 862
Accounts payable 30,987 25,116
Income taxes payable 1,251 1,399
Accrued liabilities 30,262 40,613
------------------ --------------
TOTAL CURRENT LIABILITIES 64,035 68,715
LONG-TERM LIABILITIES:
Long-term debt, net of current portion 1,571 1,896
Capital lease obligations, net of current maturities 309 340
------------------ --------------
TOTAL LIABILITIES 65,915 70,951
------------------ --------------
STOCKHOLDERS' EQUITY:
Common stock and paid-in capital 256,427 251,135
Accumulated deficit (114,001) (115,424)
Accumulated other comprehensive loss (5,792) (4,498)
------------------ --------------
TOTAL STOCKHOLDERS' EQUITY 136,634 131,213
------------------ --------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 202,549 $ 202,164
------------------ --------------
------------------ --------------
See accompanying Notes to Condensed Consolidated Financial Statements.
Page 3 of 23
DIGITAL MICROWAVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
Three Months Ended Six Months Ended
September 30, September 30,
----------------------------------- ------------------------------------
1999 1998 1999 1998
-------------- --------------- --------------- ----------------
NET SALES $ 68,527 $ 55,285 $ 134,480 $ 118,496
Cost of sales 47,911 45,476 95,747 94,978
-------------- --------------- --------------- ----------------
GROSS PROFIT 20,616 9,809 38,733 23,518
-------------- --------------- --------------- ----------------
OPERATING EXPENSES
Research and development 6,336 6,303 12,104 12,886
Selling, general and administrative 12,233 14,998 23,746 31,270
Merger and restructuring charges - - - 7,213
-------------- --------------- --------------- ----------------
TOTAL OPERATING EXPENSES 18,569 21,301 35,850 51,369
-------------- --------------- --------------- ----------------
OPERATING INCOME (LOSS) 2,047 (11,492) 2,883 (27,851)
OTHER INCOME (EXPENSE):
Interest expense (220) (5) (465) (36)
Other income (expense), net (248) 453 (639) 1,389
-------------- --------------- --------------- ----------------
INCOME (LOSS) BEFORE PROVISION
FOR INCOME TAXES 1,579 (11,044) 1,779 (26,498)
Provision for income taxes 316 69 356 97
-------------- --------------- --------------- ----------------
NET INCOME (LOSS) $ 1,263 $ (11,113) $ 1,423 $ (26,595)
-------------- --------------- --------------- ----------------
-------------- --------------- --------------- ----------------
BASIC EARNINGS (LOSS) PER SHARE $ 0.02 $ (0.18) $ 0.02 $ (0.43)
-------------- --------------- --------------- ----------------
-------------- --------------- --------------- ----------------
DILUTED EARNINGS (LOSS) PER SHARE $ 0.02 $ (0.18) $ 0.02 $ (0.43)
-------------- --------------- --------------- ----------------
-------------- --------------- --------------- ----------------
BASIC WEIGHTED AVERAGE SHARES OUTSTANDING
63,924 61,492 63,424 61,421
Impact of diluted stock options and warrants
4,650 - 4,891 -
-------------- --------------- --------------- ----------------
DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING
68,574 61,492 68,315 61,421
-------------- --------------- --------------- ----------------
-------------- --------------- --------------- ----------------
See accompanying Notes to Condensed Consolidated Financial Statements.
Page 4 of 23
DIGITAL MICROWAVE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
Six Months Ended
September 30,
---------------------------------------
1999 1998
------------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 1,423 $ (26,595)
Adjustments to reconcile net income (loss) to net cash provided by
(used for) operating activities:
Adjustment to conform year-end of pooled company - 1,804
Depreciation and amortization 8,889 8,997
Provision for uncollectable accounts 433 3,847
Provision for inventory reserves 1,128 3,932
Provision for warranty reserves 3,585 3,967
Changes in assets and liabilities
Decrease (increase) in accounts receivable (9,798) 24,109
Decrease (increase) in inventories 4,020 (14,536)
Decrease in other assets 4,841 3,171
Increase (decrease) in accounts payable 6,029 (11,237)
Decrease in income tax payable (148) (562)
Decrease in other accrued liabilities (13,878) (12,595)
------------- ------------
NET CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES 6,524 (15,698)
------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of available-for-sale securities (9,895) (8,658)
Proceeds from available-for-sale securities 1,845 36,397
Proceeds from the sale of fixed assets and other assets - 1,767
Purchase of property and equipment (7,043) (17,681)
------------- ------------
NET CASH PROVIDED BY (USED FOR) INVESTING ACTIVITIES (15,093) 11,825
------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment of capital lease obligations (415) (895)
Proceeds from sales of Common Stock 5,239 1,007
------------- ------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 4,824 112
------------- ------------
Effect of exchange rate changes in cash (561) (264)
------------- ------------
NET DECREASE IN CASH AND CASH EQUIVALENTS (4,306) (4,025)
Cash and cash equivalents at beginning of period 21,518 27,585
------------- ------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 17,212 $ 23,560
------------- ------------
------------- ------------
SUPPLEMENTAL DATA
Interest paid $ 412 $ 285
Income taxes paid $ 137 $ 428
See accompanying Notes to Condensed Consolidated Financial Statements.
Page 5 of 23
DIGITAL MICROWAVE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
BASIS OF PRESENTATION
The condensed consolidated financial statements include the accounts of
Digital Microwave Corporation and its wholly owned subsidiaries.
Intercompany accounts and transactions have been eliminated. Prior-year
reported results have been restated to reflect the October 1998 merger
with Innova Corporation ("Innova").
While the financial information furnished is unaudited, the financial
statements included in this report reflect all adjustments (consisting
only of normal recurring adjustments) which the Company considers
necessary for a fair presentation of the results of operations for the
interim periods covered and of the financial condition of the Company at
the date of the interim balance sheet. The results for interim periods
are not necessarily indicative of the results for the entire year. The
condensed consolidated financial statements should be read in connection
with the Digital Microwave Corporation financial statements included in
the Company's annual report and Form 10-K for the fiscal year ended March
31, 1999.
CASH AND CASH EQUIVALENTS
For purposes of the consolidated statement of cash flows, the Company
considers all highly liquid debt instruments with an original maturity of
three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or
market where cost includes material, labor and manufacturing overhead.
Inventories consist of (in thousands):
September 30, 1999 March 31, 1999
------------------------- --------------------
(Unaudited)
Raw materials $ 22,563 $ 25,616
Work in process 11,474 9,537
Finished goods 11,060 15,457
------------------------- --------------------
$ 45,097 $ 50,610
------------------------- --------------------
------------------------- --------------------
OTHER ASSETS
Included in other assets are goodwill and other intangibles which are
being amortized on a straight line basis over their useful lives
ranging from 5 to 10 years, as well as minority investments accounted
for using the cost method of accounting.
Page 6 of 23
RESTRUCTURING COSTS
Merger and restructuring charges of $29.9 million were recorded in
Fiscal 1999, of which $7.2 million was recorded in the first quarter of
Fiscal 1999 and consisted of $5.8 million related to the discontinuance
of several internal information technology systems projects and $1.4
million for severance and related costs associated with a reduction in
the Company's workforce. Total Fiscal 1999 charges consisted of $2.7
million for investment banker, legal, and accounting fees related to
the Innova merger consummated in October 1998, $4.2 million for
severance costs, $4.1 million for facility termination costs, a
write-off of $5.8 million related to the discontinuance of several
projects related to the implementation of software purchased for
internal use, and a write-off of goodwill and certain assets related to
the Company's subsidiary, Granger, Inc., totaling $13.1 million. The
assets of Granger, Inc. were sold in March 1999. Approximately $12.2
million of the $29.9 million in merger and restructuring charges will
be a cash outflow, of which $9.8 million has been paid as of September
30, 1999. The remaining amounts are expected to be paid before the end
of Fiscal 2001, and consist of $0.5 million for severance costs, $1.5
million for facility termination costs, and $0.4 million for purchased
commitments of software.
CURRENCY TRANSLATION
The functional currency of the Company's subsidiaries located in the
United Kingdom and Latin America is the U.S. dollar. Accordingly, all
of the monetary assets and liabilities of these subsidiaries are
remeasured into U.S. dollars at the current exchange rate as of the
applicable balance sheet date, and all non-monetary assets and
liabilities are remeasured at historical rates. Sales and expenses are
remeasured at the average exchange rate prevailing during the period.
Gains and losses resulting from the remeasurement of the subsidiaries'
financial statements are included in the Consolidated Statements of
Operations. The Company's other international subsidiaries use their
local currency as their functional currency. Assets and liabilities of
these subsidiaries are translated at the exchange rates in effect at
the balance sheet date, and income and expense accounts are translated
at the average exchange rates during the year. The resulting
translation adjustments are recorded directly to a separate component
of stockholders' equity.
FINANCIAL INSTRUMENTS
The Company enters into forward foreign exchange contracts to hedge
some of its firm committed backlog and certain assets and liabilities
denominated in foreign currencies. At September 30, 1999, the Company
had forward foreign exchange contracts to exchange various foreign
currencies for U.S. dollars in the gross amount of $35.5 million.
Market value gains and losses on forward foreign exchange contracts are
recognized as offsets to the exchange gains or losses on the hedged
transactions.
Page 7 of 23
NET INCOME (LOSS) PER SHARE
The Financial Accounting Standards Board (the "FASB") issued Statement
on Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings per
Share." Under SFAS 128, basic earnings per share are computed by
dividing net income by the weighted average number of common shares
outstanding during the period. Diluted earnings per share are computed
by dividing net income by the weighted average number of common shares
and potentially dilutive securities outstanding during the period. Net
loss per share is computed using only the weighted average number of
common shares outstanding during the period, as the inclusion of
potentially dilutive securities would be anti-dilutive.
MERGERS AND ACQUISITIONS
In October 1998, stockholders approved the issuance of Common Stock of
the Company pursuant to an agreement to merge with Innova Corporation
("Innova"), a Washington corporation, which designs, manufactures,
markets, and supports digital microwave radio links for the worldwide
telecommunications market. Under the terms of the agreement, the
Company exchanged 1.05 shares of its Common Stock for each outstanding
share of Innova stock, stock options, and warrants. The Company issued
approximately 14.7 million shares to Innova shareholders upon
consummation of the merger. The combination qualified as a tax-free
reorganization accounted for as a pooling-of-interests transaction.
Accordingly, the historical financial statements of the Company have
been restated to reflect the results of Innova for all periods
presented.
The following table shows the reconciliation of the historical results
of the Company to the results presented in the accompanying Statements
of Operations (in thousands) for:
Three Months Ended Six Months Ended
September 30, 1998 September 30, 1998
------------------ ------------------
Revenue:
Digital Microwave $ 49,611 $102,614
Innova 5,674 15,882
------------------ ------------------
Total $ 55,285 $118,496
------------------ ------------------
------------------ ------------------
Net loss:
Digital Microwave $ (7,085) $(21,047)
Innova (4,028) (5,548)
------------------ ------------------
Total $(11,113) $(26,595)
------------------ ------------------
------------------ ------------------
LITIGATION AND CONTINGENCIES
The Company is subject to legal proceedings and claims that arise in
the normal course of its business. In the opinion of management, these
proceedings will not have a material adverse effect on the financial
position and results of operations of the Company.
Page 8 of 23
CONCENTRATION OF CREDIT RISK
Trade receivables concentrated with certain customers primarily in the
telecommunications industry and in certain geographic locations
potentially subject the Company to concentration of credit risk. In
addition to sales in Western Europe and North America, the Company
actively markets and sells products in Asia, Eastern Europe, South
America, the Middle East and Africa. The Company performs on-going
credit evaluations of its customers' financial conditions and generally
requires no collateral, although sales to Asia, Eastern Europe, South
America, the Middle East and Africa are primarily paid through letters
of credit. During Fiscal 1999, the Company wrote off two customer
accounts which totaled $4.3 million. No significant customer accounts
have been written off in Fiscal 2000.
COMPREHENSIVE INCOME
In June 1997, the FASB issued Statement on Financial Accounting
Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income," which
establishes standards for reporting and display of comprehensive income
and its components (revenue, expenses, gains and losses) in a full set
of general-purpose financial statements. The following table reconciles
comprehensive income under the provisions of SFAS 130 (in thousands)
for:
Three Months Ended Six Months Ended
September 30, September 30,
--------------------- ------------------------
1999 1998 1999 1998
------- --------- --------- -----------
Net income (loss) $1,263 $(11,113) $ 1,423 $(26,595)
Other comprehensive
income (loss) net of tax:
Unrealized currency loss (765) (1,117) (1,022) (3,293)
Unrealized holding gain (loss)
on short-term investments (263) 28 (272) 28
------- --------- --------- -----------
Comprehensive income (loss) $ 235 $(12,202) $ 129 $ (29,860)
------- --------- --------- -----------
------- --------- --------- -----------
NEW ACCOUNTING PRONOUNCEMENTS
In February 1998, the American Institute of Certified Public
Accountants issued Statement of Position (SOP) 98-1, "Accounting for
the Costs of Computer Software Developed or Obtained for Internal Use,"
which is effective for fiscal years beginning after December 15, 1998.
This SOP requires capitalization of certain costs incurred in the
development of internal-use software, including external direct
material and service costs, employee payroll and payroll-related costs,
and interest. The Company has adopted SOP 98-1 for the fiscal year
ending March 31, 2000. The adoption did not have a material effect on
the Company's financial statements.
In June 1998, the FASB issued Financial Accounting Standards No. 133
("SFAS 133"), "Accounting for Derivative Instruments and Hedging
Activities," which establishes standards for the reporting and display
of comprehensive income and its components in general purpose financial
statements. SFAS 133 is effective for companies with fiscal
Page 9 of 23
years beginning after June 15, 2000. SFAS 133 requires the Company
to recognize all derivatives 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, depending on the nature of the
hedge, changes in the fair value of derivatives will either be 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 hedged item is recognized in earnings. The Company
believes that the adoption of this new pronouncement will not have a
material effect on the Company's financial statements.
OPERATING SEGMENT AND GEOGRAPHIC INFORMATION
The Company is organized into two operating segments: Products and
Services. The Chief Executive Officer has been identified as the Chief
Operating Decision-Maker as defined by SFAS 131, "Disclosures about
Segments of an Enterprise and Related Information." Resources are
allocated to each of these groups using information on their revenues
and operating profits before interest and taxes.
The products operating segment includes the SPECTRUM II, XP4, DXR,
Altium and other digital microwave systems for digital transmission
markets and designs, develops, and manufactures these products in
Seattle, Washington; San Jose, California; and, Wellington, New
Zealand. The Services operating segment includes, but is not limited
to, installation, repair, network design, path surveys, integration,
and other services.
The following table sets forth revenues and operating profit (loss) by
operating segments (in thousands) for:
Three Months Ended Six Months Ended
September 30, September 30,
--------------------- ---------------------
1999 1998 1999 1998
---- ---- ---- ----
Products:
Revenues $ 65,524 $ 48,609 $ 128,164 $ 105,803
Operating income (loss) 2,684 (11,555) 3,480 (27,070)
Services:
Revenues 3,003 6,676 6,316 12,693
Operating income (loss) (637) 63 (597) (781)
Total:
Revenues $ 68,527 $ 55,285 $ 134,480 $ 118,496
Operating income (loss) 2,047 (11,492) 2,883 (27,851)
Page 10 of 23
The following table sets forth revenues from unaffiliated customers by
product (in thousands) for:
Three Months Ended Six Months Ended
September 30, September 30,
------------------------- -------------------------
1999 1998 1999 1998
---- ---- ---- ----
SPECTRUM II $ 30,783 $ 25,563 $ 60,302 $ 56,352
XP4 12,074 5,673 25,148 15,881
DXR 7,408 9,430 18,416 14,935
Altium 11,019 440 16,261 960
Other Products 4,240 7,503 8,037 17,675
----------- ----------- ------------ ------------
Total Products 65,524 48,609 128,164 105,803
Total Services 3,003 6,676 6,316 12,693
----------- ----------- ------------ ------------
Total Revenue $ 68,527 $ 55,285 $ 134,480 $ 118,496
----------- ----------- ------------ ------------
----------- ----------- ------------ ------------
The following table sets forth revenues from unaffiliated customers by
geographic region (in thousands) for:
Three Months Ended Six Months Ended
September 30, September 30,
------------------------- ------------------------
1999 1998 1999 1998
---- ---- ---- ----
United States $ 14,566 $ 7,459 $ 26,420 $ 17,000
Mexico 7,176 4,119 10,470 5,613
Other Americas 6,063 12,979 10,336 23,083
Europe 16,201 20,506 34,940 47,251
Africa 4,069 3,848 11,332 5,403
China 10,248 2,374 21,683 4,947
Other Asia/Pacific 10,204 4,000 19,299 15,199
----------- ---------- ----------- -----------
Total Revenue $ 68,527 $ 55,285 $ 134,480 $ 118,496
----------- ---------- ----------- -----------
----------- ---------- ----------- -----------
Long-lived assets by country and consisting of net property and
equipment was as follows (in thousands):
September 30, 1999 March 31, 1999
------------------ --------------
United States $ 27,717 $ 28,043
United Kingdom 9,828 11,621
Other foreign countries 3,761 3,361
------------------ --------------
Total property and equipment, net $ 41,306 $ 43,025
------------------ --------------
------------------ --------------
Page 11 of 23
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following table sets forth the percentage relationships of certain items
from the Company's Condensed Consolidated Statements of Operations as
percentages of net sales:
Three Months Ended Six Months Ended
September 30, September 30,
--------------------- ------------------
1999 1998 1999 1998
-------- ---------- ------- --------
Net sales 100.0% 100.0% 100.0% 100.0%
Cost of sales 69.9 82.3 71.2 80.2
-------- ---------- ------- --------
Gross profit 30.1 17.7 28.8 19.8
Research & development 9.2 11.4 9.0 10.9
Selling, general & administrative 17.9 27.1 17.7 26.3
Restructuring costs - - - 6.1
-------- ---------- ------- --------
Operating income (loss) 3.0 (20.8) 2.1 (23.5)
Other income (expense), net (0.7) 0.8 (0.8) 1.1
-------- ---------- ------- --------
Income (loss) before provision
for income taxes 2.3 (20.0) 1.3 (22.4)
Provision for income taxes 0.5 0.1 0.2 -
-------- ---------- ------- --------
Net income (loss) 1.8% (20.1)% 1.1% (22.4)%
-------- ---------- ------- --------
-------- ---------- ------- --------
NET SALES
Net sales for the second quarter of Fiscal 2000 were $68.5 million, compared to
$55.3 million reported in the same quarter of Fiscal 1999. The increase in net
sales was primarily due to increased sales of the Spectrum II, XP4 and the
recently introduced Altium-TM- product lines. Sales in the Asia/Pacific region
increased to $20.5 million in the second quarter of Fiscal 2000 compared to $6.4
million in the same quarter of Fiscal 1999. Sales to China, included in the
Asia/Pacific region, were $10.2 million in the second quarter of Fiscal 2000 and
$2.4 million in the comparable quarter of the prior year. Sales increased in the
Americas to $27.8 million in the second quarter of Fiscal 2000 compared to $24.6
million in the second quarter of Fiscal 1999. Sales to U.S. customers, included
in the Americas region, were $14.6 million in the second quarter of Fiscal 2000
compared to $7.5 million in the second quarter of Fiscal 1999. However, the
Company experienced sales declines in Europe, as sales there were $16.2 million
in the second quarter of Fiscal 2000 compared to $20.5 million in the second
quarter of Fiscal 1999.
Net sales for the first half of Fiscal 2000 were $134.5 million, compared to
$118.5 million reported in the first half of Fiscal 1999. The increase in net
sales was primarily due to increased sales of the Spectrum II, XP4, DXR and the
recently introduced Altium-TM- product lines. Sales in the Asia/Pacific region
increased over 100% to $41.0 million in the first half of Fiscal 2000 compared
to $20.1 million in the same period of Fiscal 1999. Sales to China, included in
the
Page 12 of 23
Asia/Pacific region, were $21.7 million in the first half of Fiscal 2000 and
$4.9 million in the first half of the prior year. The Company also saw a
substantial increase in sales in Africa to $11.3 million in the first half of
Fiscal 2000 compared to $5.4 million in the first half of Fiscal 1999. Sales
increased in the Americas to $47.2 million in the first half of Fiscal 2000
compared to $45.7 million in the first half of Fiscal 1999. Sales to U.S.
customers, included in the Americas region, were $26.4 million in the first half
of Fiscal 2000 compared to $17.0 million in the first half of Fiscal 1999.
However, the Company experienced sales declines in Europe as sales there were
$34.9 million in the first half of Fiscal 2000 compared to $47.3 million in the
first half of Fiscal 1999 as a few large customer contracts were completed last
year.
During the second quarter of Fiscal 2000, the Company received $71.2 million in
new orders shippable over the next twelve months, compared to $57.7 million in
the second quarter of Fiscal 1999, an increase of 23%. During the first half of
Fiscal 2000, the Company received $139.0 million in new orders shippable over
the next twelve months, compared to $112.0 million in the first half of Fiscal
1999, an increase of 24%. The backlog at September 30, 1999 was $68.4 million,
compared to $63.9 million at March 31, 1999.
The Company includes in its backlog purchase orders with respect to which a
delivery schedule has been specified for product shipment within one year.
Orders in the Company's current backlog are subject to changes in delivery
schedules or to cancellation at the option of the purchaser without significant
penalty. Accordingly, although useful for scheduling production, backlog as of
any particular date may not be a reliable measure of sales for any future
period.
GROSS PROFIT
Gross profit as a percentage of net sales for the second quarter of Fiscal 2000
was 30.1% compared to 17.7% in the same quarter of Fiscal 1999. The increase in
gross profit was primarily the result of improved manufacturing capacity
utilization and cost reductions resulting from reductions in facilities and
personnel in the second half of Fiscal 1999. See page 7, "Notes to Condensed
Consolidated Financial Statements - Restructuring Costs."
Gross profit as a percentage of net sales for the first half of Fiscal 2000 was
28.8% compared to 19.8% in the first half of Fiscal 1999. The increase in gross
profit was primarily the result of improved manufacturing capacity utilization
and cost reductions resulting from reductions in facilities and personnel in the
second half of Fiscal 1999. See page 7, "Notes to Condensed Consolidated
Financial Statements - Restructuring Costs."
RESEARCH AND DEVELOPMENT
In both the second quarter of Fiscal 2000 and in the same period in Fiscal 1999,
research and development expenses were $6.3 million. As a percentage of net
sales, research and development expenses decreased to 9.2% in the second quarter
of Fiscal 2000 compared to 11.4% in the second quarter of Fiscal 1999 due to an
increase in net sales.
Page 13 of 23
In the first half of Fiscal 2000, research and development expenses decreased by
$0.8 million to $12.1 million from $12.9 million in the same period in Fiscal
1999. As a percentage of net sales, research and development expenses were 9.0%
in the first half of Fiscal 2000 compared to 10.9% in the first half of Fiscal
1999. This decrease was due primarily to workforce reductions in the first and
third quarters of Fiscal 1999. See page 7, "Notes to Condensed Consolidated
Financial Statements - Restructuring Costs."
Research and development expenses in the first half of Fiscal 2000 were
primarily for further development of the Altium product line. The Company
intends to continue its new product rollouts in order to maintain and enhance
its competitive position.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
In the second quarter of Fiscal 2000, selling, general and administrative
expenses decreased to $12.2 million from $15.0 million in the second quarter of
Fiscal 1999. As a percentage of net sales, selling, general and administrative
expenses were 17.9% in the second quarter of Fiscal 2000 compared to 27.1% in
the comparable quarter of Fiscal 1999.
In the first half of Fiscal 2000, selling, general and administrative expenses
decreased to $23.7 million from $31.3 million in the first half of Fiscal 1999.
As a percentage of net sales, selling, general and administrative expenses were
17.7% in the first half of Fiscal 2000 compared to 26.3% in the comparable
period of Fiscal 1999.
The decrease in selling, general and administrative expenses in absolute dollars
was attributable to workforce reductions and other cost initiatives taken in the
first and third quarters of Fiscal 1999. See page 7, " Notes to Condensed
Consolidated Financial Statements - Restructuring Costs."
MERGER AND RESTRUCTURING EXPENSES
The restructuring costs of $7.2 million in the first half of Fiscal 1999
consisted of a write off of $5.8 million related to the discontinuance of
several internal information technology ("IT") systems projects and $1.4 million
for severance and related costs associated with a reduction in the Company's
workforce. See page 7, " Notes to Condensed Consolidated Financial Statements -
Restructuring Costs."
OTHER INCOME (EXPENSE)
The increase in interest expense in the second quarter of Fiscal 2000 of $0.2
million was primarily attributable to higher debt balances as compared to the
same quarter of the prior year. Other income (expense), net changed to $0.2
million expense in the second quarter of Fiscal 2000 from $0.5 million income in
the second quarter of Fiscal 1999 primarily due to the cost of foreign exchange
contracts as well as foreign exchange gains and losses.
The increase in interest expense in the first half of Fiscal 2000 of $0.5
million was primarily attributable to higher debt balances as compared to the
same period of the prior year. Other income (expense), net changed to $0.6
million expense in the first half of Fiscal 2000 from $1.4 million income in the
first half of Fiscal 1999 primarily due to the cost of foreign exchange
contracts as well as foreign exchange gains and losses.
Page 14 of 23
PROVISION FOR INCOME TAXES
In the first half of Fiscal 2000, the Company recorded a provision for income
taxes at less than the statutory rate primarily due to the anticipated
utilization of net operating loss carry forwards in Fiscal 2000. The Company did
not record a tax benefit in the first half of Fiscal 1999, as it could not be
certain of profitability in Fiscal 1999.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities in the first half of Fiscal 2000 was
$6.5 million, compared to net cash used for operating activities of $15.7
million in the first half of Fiscal 1999. The improvement in cash provided by
operations was primarily the result of a substantial net loss for the first half
of Fiscal 1999 compared to net income for the first half of Fiscal 2000. In
addition, inventories decreased $4.0 million in the first half of Fiscal 2000
compared to an increase of $14.5 million in the same period of Fiscal 1999 as a
result of a decrease in purchases and improved sales volume.
Accounts receivable increased $9.8 million in the first half of Fiscal 2000 due
to an increase in sales volume and the timing of shipments as 60% of the
Company's Fiscal 2000 second quarter shipments occurred in the last month of the
period compared to 42% last month shipments in Fiscal 1999 second quarter.
Purchases of property and equipment decreased to $7.0 million in the first half
of Fiscal 2000 from $17.7 million in the first half of Fiscal 1999. The Fiscal
1999 activity was mostly attributable to test equipment purchases by the
Company's Seattle manufacturing location and payments on the Company's new
service and repair facility in the United Kingdom which occurred in the first
half of Fiscal 1999. Additionally, the Company received $5.2 million from the
exercise of employee stock options and warrants in the first half of Fiscal 2000
compared to $1.0 million in the first half of Fiscal 1999.
At September 30, 1999, the Company's principal sources of liquidity consisted of
$31.0 million in cash and cash equivalents and short-term investments and a
$40.0 million asset-based borrowing facility with a U.S. lender. As of September
30, 1999, the Company had borrowed $2.6 million under the agreement and had
available $20.0 million for future borrowings. This credit facility does not
require the maintenance of financial covenants. The credit facility is scheduled
to expire on November 30, 1999. The Company has received an extension to
December 31, 1999 in order to review the terms and conditions of the renewal.
On October 1, 1999 the Securities and Exchange Commission declared the Company's
Registration Statement on Form S-3 effective. Under the Registration Statement,
the Company may sell up to $100 million in debt securities, common stock, debt
warrants and common stock warrants. However, there can be no assurance that the
Company will be able to sell these securities on commercially reasonable terms
or at all.
The Company believes that it has the financial resources needed to meet its
business requirements for the foreseeable future.
Page 15 of 23
YEAR 2000 READINESS
The Company is aware of the issues associated with the programming code in
existing computer systems as the year 2000 approaches. The "Year 2000" problem
is concerned with whether computer systems will properly recognize date
sensitive information when the year changes to 2000. Systems that do not
properly recognize such information could generate erroneous data or cause a
system to fail. The Year 2000 problem is pervasive and complex, as virtually
every company's computer operation will be affected in some way. Many of the
Company's computer programs, which process its operational and financial
transactions, were designed and developed without considering the impact of the
upcoming change in century. If not corrected, the Company's computer programs
and products could fail or create erroneous results by or at the year 2000.
The Company has taken steps to ensure that its products and computer programs
will continue to operate on and after January 1, 2000. The Company formed a
project team consisting of staff from Manufacturing, Customer Service, Finance,
Human Resources, Sales, Marketing, Legal, Engineering, and Information
Technology (IT) departments, led by a project manager. A five-phase solution
process has been established consisting of (1) awareness, (2) assessment, (3)
renovation, (4) validation, and (5) implementation. The Company has completed
this five-phase process with respect to most of its Year 2000 issues. The
Company's Year 2000 project team identified its manufacturing IT system as its
highest priority and has implemented Year 2000 upgrades to its manufacturing
systems. The Company's network operating systems also are Year 2000-ready. The
Company's personal computers have been evaluated and upgrades were installed to
correct noncompliance. Some older personal computers were replaced or taken out
of service.
The Company has completed an assessment of all of its products. Most of its
hardware products are not affected by the Year 2000 issue because no internal
clock exists in these products. Year 2000 readiness testing has been completed
for newer products, including the Altium product line and network software
products. Some older network software products are not Year 2000-ready and the
Company has developed an upgrade plan for customers who are using this software.
There can be no assurance that customers will properly upgrade their software
and we cannot predict the resulting impact on customers' networks if they are
not upgraded.
The Company mailed letters to its primary suppliers and subcontractors to
determine whether they are developing plans to address processing transactions
in the Year 2000 and to monitor their progress toward Year 2000 capability. All
critical vendors contacted have responded, and the Year 2000 team has visited
the critical vendors to ensure that processes are actually in place as
represented.
The Company has spent approximately $0.8 million investigating and remedying
issues related to Year 2000 readiness involving internal operations, including
purchases of software test tools, software upgrades, and upgrading a security
system related to Year 2000 readiness. In addition, the Company estimates that
$0.4 million of internal personnel costs have been incurred to date supporting
the Company's Year 2000 readiness plan.
The Company has developed a contingency plan to operate in the event that any
critical systems are noncompliant on January 1, 2000. This contingency plan
includes, but is not limited to: 1)
Page 16 of 23
transitioning to alternate suppliers, 2) responding to customers faced with
Year 2000 issues, 3) operating in a manual mode, i.e., without computer
systems, 3) using generators to maintain communications, and 4) identifying
alternative data processing service providers.
Based on the steps being taken to address this issue and the progress to date,
the Company's management believes that the Year 2000 readiness expenses will not
have a material adverse effect on the Company's earnings. However, there can be
no assurance that Year 2000 problems will not occur with respect to the
Company's computer or other systems. Furthermore, the Year 2000 problem may
impact other entities with which the Company transacts business, and the Company
cannot predict the effect of the Year 2000 problem on such entities or the
resulting effect on the Company. As a result, if preventative and/or corrective
actions by the Company or those the Company does business with are not made in a
timely manner, the Year 2000 issue could have a material adverse effect on the
Company's business, financial condition, and results of operations.
EUROPEAN MONETARY UNION
In January 1999, a new currency called the "euro" was introduced in certain
Economic and Monetary Union ("EMU") countries. During 2002, all EMU countries
are expected to be operating with the euro as their single currency. Uncertainty
exists as to the effect the euro currency will have on the marketplace.
Additionally, all of the rules and regulations have not yet been defined and
finalized by the European Commission with regard to the euro currency. However,
the Company has assessed the effect the euro formation will have on its internal
systems and the sale of its products. The Company's European sales and operating
transactions are based primarily in U.S. dollars or U.K. pounds sterling,
neither of which are subject to the euro conversion. While the Company does have
some sales denominated in the European Currency Unit, this currency is
successfully being converted in the market to the new European Monetary Unit at
parity. In addition, the Company upgraded its internal computer systems to
convert the European currency to the euro. The cost of upgrading the Company's
systems in connection with the euro conversion was not material and no material
adverse effect on the Company's business, financial condition, and results of
operations is expected due to the upgrade.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
INTEREST RATE RISK
It is the Company's policy not to enter into derivative financial instruments
except for hedging of foreign currency exposures. The Company hedges certain
portions of its exposure to foreign currency fluctuations through the use of
forward foreign exchange contracts. The Company enters into forward foreign
exchange contracts for purposes other than trading; however, the Company does
not engage in any foreign currency speculation. Forward foreign exchange
contracts represent agreements to buy or sell a specified amount of foreign
currency at a specified price in the future. These contracts generally have
maturities that do not exceed one month. At September 30, 1999, the Company had
forward foreign exchange contracts to exchange various foreign currencies for
U.S. dollars in the aggregate amount of $35.5 million, primarily in New Zealand
dollars, British pounds, and European Monetary Units. Gains and losses
associated with currency rate changes on forward foreign exchange contracts are
recorded currently in income as they offset corresponding gains and losses on
the foreign currency-denominated assets and liabilities being hedged. Therefore,
the carrying value of forward foreign
Page 17 of 23
exchange contracts approximates their fair value. The Company believes that
the credit risk with respect to its forward foreign exchange contracts is
minimal because the Company enters into contracts with major financial
institutions. Market risk with respect to forward foreign exchange contracts
is offset by the corresponding exposure related to the underlying assets and
liabilities.
FOREIGN CURRENCY RATE RISK
Although nearly all of the Company's sales and expenses are denominated in U.S.
dollars, the Company has experienced some foreign exchange gains and losses to
date, and expects to incur additional gains and losses in Fiscal 2000. The
Company did engage in foreign currency hedging activities during the quarter
ended September 30, 1999, as explained above, and intends to continue doing so
as needed.
FACTORS THAT MAY AFFECT FUTURE FINANCIAL RESULTS
The statements in this Form 10-Q concerning the Company's future products,
expenses, revenues, gross margins, liquidity and cash needs, as well as the
Company's plans and strategies, contain forward-looking statements concerning
the Company's future operations and financial results within the meaning of
Section 27A of the Securities Act and Section 21E of the Exchange Act. These
forward-looking statements are based on current expectations and the Company
assumes no obligation to update this information. Numerous factors, such as
economic and competitive conditions, timing and volume of incoming orders,
shipment volumes, product margins, and foreign exchange rates, could cause
actual results to differ materially from those described in these statements,
and prospective investors and stockholders should carefully consider the
factors set forth in the Company's Registration Statement on Form S-3,
effective October 1, 1999, and those set forth below in evaluating these
forward-looking statements.
Sales of the Company's products are concentrated in a small number of customers.
For the first half of Fiscal 2000 ended September 30, 1999, the top three
customers accounted for 28% of the net sales. As of September 30, 1999, three of
the Company's customers accounted for 27% of the backlog. The worldwide
telecommunications industry is dominated by a small number of large
corporations, and the Company expects that a significant portion of its future
product sales will continue to be concentrated in a limited number of customers.
The loss of any existing customer, a significant reduction in the level of sales
to any existing customer, or the failure of the Company to gain additional
customers could harm the Company's business, financial condition and results of
operations. In addition, a substantial portion of shipments may occur near the
end of each quarter. Accordingly, the Company's results are difficult to predict
and delays in product delivery or closing of a sale can cause revenues and net
income to fluctuate significantly from anticipated levels and from quarter to
quarter.
Wireless infrastructure suppliers are experiencing, and will likely continue to
experience, intense price pressure which has resulted, and is expected to
continue to result, in downward pricing pressure on the Company's products. As a
result, the Company has experienced, and expects to continue to experience,
declining average sales prices for its products. The Company's ability to
maintain its gross profit margins is dependent upon its ability to continue to
introduce new products and product enhancements. Any inability of the Company to
respond to increased price competition would harm the Company's business,
financial condition and results of operations.
Page 18 of 23
The markets for the Company's products are extremely competitive, and the
Company expects that competition will increase. The Company considers its
primary competitors to be L. M. Ericsson, Alcatel, Siemens AG, P-COM, Inc. and
the Microwave Communications Division of Harris Corporation. In addition, other
existing competitors presently include SIAE, Sagem, Lucent, NEC, Nokia, ATI, a
subsidiary of World Access and Northern Telecom. Many of these companies have
more extensive engineering, manufacturing, and marketing capabilities and
significantly greater financial, technical, and personnel resources than the
Company. The Company believes that its ability to compete successfully will
depend on a number of factors, both within and outside its control, including
price, quality, availability, customer service and support, breadth of product
line, product performance and features, rapid time-to-market delivery
capabilities, reliability, timing of new product introductions by the Company,
its customers and its competitors, and the ability of its customers to obtain
financing.
The Company expects that international sales will continue to account for the
majority of its net product sales for the foreseeable future. As a result, the
Company is subject to the risks of doing business internationally, including
unexpected changes in regulatory requirements, fluctuations in foreign currency
exchange rates, imposition of tariffs and other barriers and restrictions, the
burdens of complying with a variety of foreign laws, and general economic and
geopolitical conditions, including inflation and trade relationships. In
addition, recent worldwide economic events, particularly in Latin America and
Asia, including depreciation of currencies, failures of financial institutions,
stock market declines, and reduction in planned capital investment at key
enterprises, may cause the Company's international revenues to decrease. There
can be no assurance that currency fluctuations, changes in the rate of inflation
or any of the factors mentioned above will not harm the Company's business,
financial condition and results of operations.
The Company's manufacturing operations are highly dependent upon the delivery of
materials by outside suppliers in a timely manner. In addition, the Company
depends in part upon subcontractors to assemble major components and subsystems
used in its products in a timely and satisfactory manner. While the Company
enters into long-term or volume purchase agreements with a few of its suppliers,
no assurance can be given that materials, components, and subsystems will be
available in the quantities required by the Company, if at all. The inability of
the Company to develop alternative sources of supply quickly and on a
cost-effective basis could materially impair the Company's ability to
manufacture and deliver its products in a timely manner which could harm the
Company's business, financial condition and results of operations. There can be
no assurance that the Company will not experience material supply problems or
component or subsystem delays in the future.
The Company has pursued, and will continue to pursue, growth opportunities
through internal development and acquisitions of complementary businesses and
technologies. Acquisitions may involve difficulties in the retention of
personnel, diversion of management's attention, unexpected legal liabilities,
and tax and accounting issues. There can be no assurance that the Company will
be able to successfully identify suitable acquisition candidates, complete
acquisitions, integrate acquired businesses into its operations, or expand into
new markets. Once integrated, acquired businesses may not achieve comparable
levels of revenues, profitability, or productivity as the existing business of
the Company or otherwise perform as expected. The Company's failure to manage
its growth effectively could harm the Company's business, financial condition
and results of operations.
Page 19 of 23
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For a description of the Company's market risks, see page 17, "Item 2 -
Management's Discussion and Analysis of Financial Condition and Results of
Operations - Quantitative and Qualitative Disclosures About Market Risk."
Page 20 of 23
PART II - OTHER INFORMATION
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Company held an Annual Meeting of Stockholders on August 10, 1999.
(b) At the Annual Meeting of Stockholders, the following directors were elected:
Votes
--------------------------
For Withheld
---------- --------
Charles D. Kissner 53,730,588 231,551
Richard C. Alberding 53,720,000 242,139
Paul S. Bachow 53,735,350 226,789
John W. Combs 53,738,594 223,545
James D. Meindl 53,720,994 241,145
V. Frank Mendicino 53,734,777 227,362
Howard Oringer 53,737,894 224,245
(c) At the Annual Meeting of Stockholders, the following additional matters were
voted upon;
1. A proposal to ratify and approve the company's 1999 stock
incentive plan.
Affirmative votes: 47,017,819
Negative votes: 6,776,770
Abstain: 167,550
Non-votes: 0
2. A proposal to ratify the selection of Arthur Andersen LLP as
independent public accountants for the fiscal year ending
March 31, 2000.
Affirmative votes: 53,754,560
Negative votes: 105,662
Abstain: 101,917
Non-votes: 0
ITEM 5 - OTHER INFORMATION
None
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
For a list of exhibits to this Form 10-Q, see the exhibit index located
on page 20.
(b) Reports on Form 8-K
None
Page 21 of 23
EXHIBIT INDEX
Exhibit
Number Description
- -----------------------------------------------------
3.1 Amended and Restated Bylaws, dated as of August 10, 1999.
27.1 Financial Data Schedule for the quarter ended September 30, 1999.
27.2 Restated Financial Data Schedule for the quarter ended September 30, 1998.
Page 22 of 23
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DIGITAL MICROWAVE CORPORATION
Date: November 12, 1999 By /s/ Carl A. Thomsen
----------------- --------------------------------
Carl A. Thomsen
Senior Vice President,
Chief Financial Officer and Secretary
Page 23 of 23