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, 2002
Commission File No. 0-27742
CYLINK CORPORATION
(Exact name of registrant as specified in its charter)
California 95-3891600
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3131 Jay Street
Santa Clara, California 95054
(Address of principal executive offices)
(408) 855-6000
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
------- --------
As of May 13, 2002, there were 33,013,000 shares of the Registrant's
common stock outstanding.
CYLINK CORPORATION
FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 2002
INDEX
Page
----
PART I FINANCIAL INFORMATION
Item 1 Financial Statements
a) Condensed Consolidated Balance Sheets at March 31, 2002 and
December 31, 2001 1
b) Condensed Consolidated Statements of Operations for the three
months ended March 31, 2002 and April 1, 2001 2
c) Condensed Consolidated Statements of Cashflows for the three
months ended March 31, 2002 and April 1, 2001 3
d) Notes to Condensed Consolidated Financial Statements 4
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations 7
PART II OTHER INFORMATION 20
Item 1. Legal Proceedings 20
Item 6. Exhibits and Reports on Form 8-K 21
Signature 22
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CYLINK CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share and par value data; unaudited)
March 31, December 31,
2002 2001
--------- ---------
Assets
Current assets:
Cash and cash equivalents $ 11,978 $ 9,606
Accounts receivable, net of allowances of $1,028 and $1,057 5,856 10,102
Recoverable income taxes 474 50
Inventories 4,904 4,832
Other current assets 1,372 2,026
--------- ---------
Total current assets 24,584 26,616
Restricted cash 1,400 1,400
Property and equipment, net 5,541 6,075
Acquired technology, goodwill and other intangibles, net 16,109 16,648
Notes receivable from employee 1,039 1,021
Other assets 668 932
--------- ---------
$ 49,341 $ 52,692
========= =========
Liabilities and Shareholders' Equity
Current liabilities:
Equipment line of credit $ 104 $ 139
Accounts payable 2,553 2,757
Accrued liabilities 5,433 5,439
Income taxes payable 410 412
Deferred revenue 2,970 2,130
--------- ---------
Total current liabilities 11,470 10,877
--------- ---------
Deferred revenue and other accruals, less current portion 1,844 1,927
Commitments and contingencies (Note 6)
Shareholders' equity:
Preferred stock, $0.01 par value; 5,000,000 shares authorized;
none issued and outstanding -- --
Common stock, $0.01 par value; 55,000,000 shares authorized;
32,883,000 and 32,872,000 shares issued and outstanding 329 329
Additional paid-in capital 158,365 158,359
Deferred compensation -- --
Accumulated other comprehensive income (loss) 11 (18)
Accumulated deficit (122,678) (118,782)
--------- ---------
Total shareholders' equity 36,027 39,888
--------- ---------
$ 49,341 $ 52,692
========= =========
See accompanying notes to condensed consolidated financial statements.
1
CYLINK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data; unaudited)
Three Months Ended
---------------------
March 31, April 1,
2002 2001
-------- --------
Revenue $ 7,099 $ 12,612
Cost of revenue 2,637 4,345
-------- --------
Gross profit 4,462 8,267
-------- --------
Operating expenses:
Research and development, net 2,918 5,945
Selling and marketing 3,056 5,749
General and administrative 2,036 3,014
Amortization of acquired intangibles 510 862
-------- --------
Total operating expenses 8,520 15,570
-------- --------
Loss from operations (4,058) (7,303)
Other income (expense):
Interest income, net 46 190
Other expense, net (86) (19)
Write-down of investment in unaffiliated company (222) --
-------- --------
Total other income (expense) (262) 171
-------- --------
Loss before income taxes (4,320) (7,132)
Income tax benefit (424) --
-------- --------
Net loss $ (3,896) $ (7,132)
======== ========
Loss per share - basic & diluted: $ (0.12) $ (0.22)
======== ========
Shares used in per share calculation - basic & diluted 32,956 32,262
======== ========
See accompanying notes to condensed consolidated financial statements.
2
CYLINK CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands; unaudited)
Three months ended
--------------------
March 31, April 1,
2002 2001
-------- --------
Cash flows from operating activities:
Net loss $ (3,896) $ (7,132)
Adjustments to reconcile net loss to net
cash used in operating activities:
Loss on disposition of fixed assets 19 --
Depreciation 706 825
Amortization 510 862
Amortization of imputed interest on note receivable (18) --
Deferred compensation related to stock options -- 272
Changes in operating assets and liabilities:
Accounts receivable 4,246 2,476
Recoverable income taxes (424) --
Inventories (72) 1,088
Other assets (293) (953)
Accounts payable (204) (1,372)
Accrued liabilities 12 (1,239)
Income taxes payable (2) 244
Deferred revenue 757 1,919
-------- --------
Net cash provided by (used in) operating activities 1,341 (3,010)
Cash flows from investing activities:
Acquisition of property and equipment (191) (129)
Collections of receivable from former employee 1,000 --
Write down of investment in unaffiliated company 222 --
Adjustments to acquisition price of Celotek Corporation -- (231)
-------- --------
Net cash provided by (used in) investing
activities 1,031 (360)
-------- --------
Cash flows from financing activities:
Proceeds from issuance of common stock, net 6 7
Other (35) (44)
-------- --------
Net cash used in financing activities (29) (37)
-------- --------
Effect of exchange rate changes on
cash and cash equivalents 29 85
-------- --------
Net increase (decrease) in cash and cash equivalents 2,372 (3,322)
Cash and cash equivalents at beginning of period 9,606 15,250
-------- --------
Cash and cash equivalents at end of period $ 11,978 $ 11,928
======== ========
See accompanying notes to condensed consolidated financial statements.
3
CYLINK CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. Basis of Presentation
The unaudited condensed consolidated financial statements included herein
contain all adjustments, consisting only of normal recurring adjustments, which,
in the opinion of management, are necessary to state fairly the consolidated
financial position, results of operations and cash flows of Cylink Corporation
("Cylink" or the "Company") for the periods presented. These financial
statements should be read in conjunction with the Company's audited financial
statements included in the Company's Annual Report on Form 10-K for the year
ended December 31, 2001. Interim results of operations are not necessarily
indicative of the results to be expected for the full year.
The statements have been prepared in accordance with generally accepted
accounting principles in the United States of America for interim financial
information and the instructions to Form 10-Q and Article 10 of Regulation S-X.
Certain 2001 financial statement amounts were reclassified to conform with
2002 classifications. These reclassifications had no effect on net loss or
shareholders' equity as previously reported.
2. Accounting Changes
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 141 ("SFAS 141"), "Business
Combinations", which was effective for business combinations initiated after
that date. In August 2001, the FASB issued SFAS 144, "Impairment or Disposal of
Long-Lived Assets", which is effective for fiscal years beginning after December
15, 2001. In July the FASB issued SFAS 143, "Accounting for Retirement
Obligations." The adoption of SFAS 141, SFAS 143 and SFAS 144 did not have a
material effect on our financial condition or results of operations.
Accounting for Business Combinations, Goodwill and Intangible Assets: In
June 2001, the FASB issued SFAS 142, "Goodwill and Other Intangible Assets".
SFAS 142 requires that goodwill is no longer amortized, but tested for
impairment at least annually, or more frequently if certain indications arise.
The Company has adopted SFAS 142 effective January 1, 2002. Cylink is required
to complete the transitional goodwill impairment test by June 30, 2002. Cylink
completed initial goodwill impairment tests as of January 1, 2002 and March 31,
2002 and has determined that no impairment of goodwill had occurred as of those
dates. Therefore, no impairment loss was recorded for the three months ended
March 31, 2002. Subsequent impairment losses, if any, will be reflected in
operating income or loss in the consolidated statement of operations. The fair
value of the Company may be dependent on the future valuation of the Company's
stock, projected future cashflows of the business, and other factors that might
affect the independent valuation of the Company when compared to its carrying
value and may require Cylink to make an additional determination prior to June
30, 2002. The Company is not able to predict at this time whether the
determination of fair value under SFAS 142 will result in an impairment of
goodwill at that future date. Given the $16.1 million net carrying value of its
investment in intangibles at March 31, 2002, an impairment determination could
have a material impact on Cylink's financial position and results of operations.
Had the Company been accounting for its goodwill under SFAS 142 for all periods
presented, the Company's net loss would have been as follows:
4
Three months ended:
-------------------------
March 31, April 1,
2002 2001
-------------------------
(in thousands)
Reported net loss (3,896) (7,132)
Add back goodwill amortization,
net of income taxes -- 352
-------- --------
Proforma adjusted net loss (3,896) (6,780)
======== ========
3. Inventories
March 31, December 31,
2002 2001
------ ------
(in thousands)
Inventories:
Raw materials $1,731 $2,482
Work in process and subassemblies 1,995 1,171
Finished goods 1,178 1,179
------ ------
$4,904 $4,832
====== ======
4. Loss Per Share
Basic loss per share is based on the weighted-average number of common
shares outstanding, excluding shares in escrow. Diluted loss per share is based
on the weighted-average number of shares outstanding and dilutive potential
common shares outstanding, excluding contingent shares held in escrow. The
Company's only potentially dilutive securities are stock options. As of March
31, 2002 and April 1, 2001, the Company had 7,606,000 and 7,156,000 stock
options outstanding with a weighted average exercise price of $3.87 and $6.32,
respectively. These options expire on various dates through 2008. All
potentially dilutive securities have been excluded from the computation of
diluted loss per share, as their effect is anti-dilutive on the net loss for the
periods presented.
5. Comprehensive Loss
The components of comprehensive loss, consisting of the Company's reported
net loss and unrealized gains or losses in the translation of foreign
currencies, are as follows:
5
Three Months Ended
----------------------------
Mar 31, April 1,
2002 2001
-------- --------
Net loss $ (3,896) $ (7,132)
Other comprehensive income 29 85
-------- --------
Total comprehensive loss $ (3,867) $ (7,047)
======== ========
6. Commitments and Contingencies
Cylink is currently engaged in litigation. See Part II, Item 1. "Legal
Proceedings."
7. Restructuring Charge
In the fourth quarter of 2001, the Company recorded a $1.4 million charge
to accrue for losses relative to the estimated costs of excess leased facilities
and related furniture and equipment, net of estimated proceeds from planned
subleasing of excess office space in Santa Clara. The current and long-term
portions of the restructuring reserve of approximately $0.7 million each are
reflected in accrued liabilities and in non-current liabilities in the condensed
consolidated balance sheet as of March 31, 2002. The reserves were essentially
unused through March 31, 2002, but will be utilized primarily for lease
termination costs associated with the Company's headquarters in future periods.
8. Goodwill & Other Intangible Assets
Changes in the carrying amount of goodwill for the three months ended
March 31, 2002 are as follows (in thousands):
Total
----------
Balance as of December 31, 2001 $ 5,888
Goodwill Acquired during the period -
Write-off of Cylink-Belgium (29)
----------
Balance as of March 31, 2002 $ 5,859
==========
In connection with the adoption of SFAS No. 142 "See Note 2", the
company performed a transitional impairment test on goodwill and determined that
no impairment was necessary.
Information regarding the Company's other intangible assets follow (in
thousands):
As of March 31, 2002 As of December 31, 2001
------------------------------------ ------------------------------------
Carrying Accumulated Carrying Accumulated
Amount Amortization Net Amount Amortization Net
---------- ---------- ----------- ---------- ---------- ----------
Developed Technology $ 12,077 $ (2,736) $ 9,341 $ 12,077 $ (2,304) $ 9,773
Customer Base 894 (285) 609 894 (240) 654
Acquired Workforce 509 (209) 300 509 (176) 333
---------- ---------- ----------- ---------- ---------- ----------
Total $ 13,480 $ (3,230) $ 10,250 $ 13,480 $ (2,720) $ 10,760
========== ========== =========== ========== ========== ==========
Amortization expense of other intangible assets was $510,000, for the
three months ended March 31, 2002.
The estimated amortization for each of the five fiscal years subsequent
to December 31, 2001 is as follows:
Year Ended Amortization
December 31, Expense
------------ ---------
2002 $ 2,040
2003 2,040
2004 1,996
2005 1,848
2006 1,728
------------ ---------
Total $ 9,652
=========
6
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements
within the "safe harbor" provisions of the Private Securities Litigation Reform
Act of 1995. All statements included or incorporated by reference in this
Quarterly Report, other than statements that are purely historical are
forward-looking statements. Words such as "anticipates," "expects," "intends,"
"plans," "believes," "seeks," "estimates" and similar expressions also identify
forward-looking statements. Forward-looking statements in this Report, include,
without limitation statements regarding: the Company's expectations regarding
adoption of SFAS 141, 143 and 144; predictions regarding the impact of the
adoption of its goodwill impairment tests; revisions to the Company's financial
plan and implementation by the Company of the plan and cost cutting measures;
failure of the Company to meet covenants in its loan documents and the need to
seek additional funds to support working capital requirements; failure to raise
additional funds as needed; plans to continue cost reducing measures in 2002;
belief that the Company has meritorious defenses and adequate insurance for the
damages claimed in shareholder litigation actions and the Company's intentions
to defend itself vigorously.
These forward-looking statements and any expectations based on such
forward-looking statements are not guarantees of future performance and are
subject to risks and uncertainties that could cause actual results to differ
materially from the results contemplated by the forward-looking statements. Any
of Cylink's actual results could differ materially from those included in such
forward-looking statements. The above forward-looking statements are subject to
the risks and uncertainties further discussed under "Risk Factors That May
Affect Future Results" beginning on page 11.
All forward-looking statements included in this document are based on
information available to Cylink on the date hereof, and Cylink assumes no
obligation to update any such forward-looking statements. Shareholders are
cautioned not to place undue reliance on such statements, which speak only as of
the date of this Report. The reader should also consult the cautionary
statements and risk factors listed from time to time in Cylink's Reports on
Forms 10-Q, 8-K, 10-K and its Annual Reports to Shareholders for other trends,
risks or uncertainties which could cause the Company's results to differ from
those expressed in such forward looking statements.
The following Management's Discussion and Analysis of Financial Condition
and Results of Operations should be read in conjunction with the unaudited
condensed financial statements and notes thereto included in Part I Item 1 of
this Report on Form 10-Q and the audited financial statements and notes thereto
and Management's Discussion and Analysis of Financial Condition and Results of
Operations included in the Company's 2001 Report on Form 10-K.
Critical Accounting Policies and Estimates
Cylink's discussion and analysis of its financial condition and results of
operations are based upon the Company's condensed consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial
statements requires Cylink to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses, and related
disclosure of contingent assets and liabilities. On an ongoing basis, Cylink
evaluates its estimates, including those related to allowance for doubtful
accounts, inventories, investments, deferred tax assets, intangible assets,
income taxes, warranty obligations, restructuring, and contingencies and
litigation. Cylink bases its estimates on historical experience and on various
other assumptions that are believed to be reasonable under the circumstances,
the results of which form the basis for making judgments about the carrying
values of assets and liabilities that are not readily apparent from other
sources. Actual results may differ from these estimates under different
assumptions or conditions.
A description of those accounting policies that Cylink believes are
critical is contained in the Company's Annual Report on Form 10-K. In addition,
Cylink believes the following accounting policies became critical during the
current quarter and affect its more significant judgments and estimates used in
the preparation of its consolidated financial statements:
7
Valuation of Goodwill and other intangibles. Our business acquisitions
typically result in goodwill and other intangible assets, which affect the
amount of future period amortization expense and possible impairment expense
that we will incur. The determination of the value of such intangible assets
requires management to make estimates and assumptions that affect our
consolidated financial statements.
RESULTS OF OPERATIONS
The following table sets forth certain consolidated statement of operations
data as a percentage of revenue for the periods indicated:
Three months ended
----------------
March 31, April 1,
2002 2001
----- -----
Revenue 100.0% 100.0%
Cost of revenue 37.2 34.5
----- -----
Gross profit 62.8 65.5
Operating expenses:
Research and development, net 41.1 47.1
Selling and marketing 43.0 45.6
General and administrative 28.7 23.9
Amortization of purchased intangibles 7.2 6.8
----- -----
Total operating expenses 120.0 123.4
----- -----
Loss from operations (57.2) (57.9)
Other income (loss), net (3.7) 1.4
----- -----
Loss before income taxes (60.9) (56.5)
Income tax benefit (6.0) --
----- -----
Net loss (54.9)% (56.5)%
===== =====
Revenue. Revenue decreased 44% from $12.6 million for the three months
ended April 1, 2001 to $7.1 million for the three months ended March 31, 2002.
The decrease is primarily due to lower unit volumes resulting from the market
slowdown generally and the divestiture of our Israeli subsidiary Algorithmic
Research, Limited (ARL) by the Company. International revenue comprised 19% and
39% of total revenue for the first quarter of 2002 and 2001, respectively. The
decline in international revenues in the first quarter of 2002 as a percentage
of total revenue from the prior year first quarter primarily was due to lower
revenues generally, reduced sales to international customers, and the
divestiture of ARL.
Gross Profit. Gross profit decreased from $8.3 million for the three months
ended April 1, 2001 to $4.5 million for the three months ended March 31, 2002.
This decrease in dollars primarily was a result of the overall decrease in
revenue for the same period. As a percentage of sales, gross profit was
approximately 66% and 63% for the quarters ended April 1, 2001 and March 31,
2002, respectively. The decrease in gross profit as a percentage of revenue was
due to lower product margins resulting from the spread of fixed manufacturing
and facility costs
8
over a much lower revenue base, and modest excess and obsolete inventory
adjustments, offset by higher service revenue margins due to benefits realized
from cost reduction programs implemented by the Company in 2001.
Research and Development. Research and development expenses consist
primarily of salaries and other personnel related expenses, and depreciation of
development equipment, facilities and supplies. Research and development
expenses decreased 51% from $5.9 million for the three months ended April 1,
2001 to $2.9 million for the three months ended March 31, 2002. Gross research
and development expenses as a percentage of revenue were 47% for the first
quarter of 2001 and 41% for the first quarter 2002. The decrease in research and
development expenses in dollars and as a percentage of revenue for the first
quarter of 2002 as compared to the first quarter of 2001 was a result of reduced
project spending and headcount due to cost savings initiatives implemented by
the Company and the divestiture of ARL.
Selling and Marketing. Selling and marketing expenses consist primarily of
personnel expenses, including sales commissions and bonuses, and expenses for
public relations, seminars and trade shows. Selling and marketing expenses
decreased 46% from $5.7 million for the three months ended April 1, 2001 to $3.1
million for the three months ended March 31, 2002. Selling and marketing
expenses as a percentage of revenue were 46% and 43% for the first quarter of
2001 and 2002, respectively. The decrease in sales expenses, both in dollars and
as a percentage of revenue, for the first quarter of 2002 as compared to the
first quarter of 2001, primarily was due to lower commission spending driven by
decreased revenues, lower headcount spending driven by the reduction in
workforce actions taken during 2001, and lower marketing and bonus spending due
to the implementation of cost savings initiatives by the Company. Selling and
marketing expenses, expressed as a percentage of revenue, decreased more as a
result of the above spending reductions rather than the revenue declines for the
same period.
General and Administrative. General and administrative expenses consist
primarily of personnel and related costs, information systems costs, and audit,
legal and other professional service fees. General and administrative expenses
decreased 33% from $3.0 million for the three months ended April 1, 2001 to $2.0
million for the three months ended March 31, 2002. General and administrative
expenses as a percentage of revenue were 24% and 29% for the first quarter of
2001 and 2002, respectively. The decrease of general and administrative expenses
in dollars for the first quarter of 2002 versus the first quarter of 2001
primarily was due to lower headcount spending driven by the reduction in
workforce actions taken during 2001, and lower bonus spending due to the
implementation of cost savings initiatives by the Company. The increase in
general and administrative expenses as a percentage of revenue for the first
quarter of 2002 as compared to the first quarter of 2001 is due to the decline
in revenues for the period rather than the reduction in general and
administrative expenditures.
Amortization of Acquired Intangibles. Amortization of intangible assets
declined from $0.9 million for the first three months ended April 1, 2001 to
$0.5 million for the three months ended March 31, 2002. Pursuant to the adoption
of Financial Accounting Standards Board Statement 142, "Goodwill and Other
Intangibles," on January 1, 2002, Cylink ceased amortizing its goodwill.
Other Income (Expense), Net. Other income (expense), net consists primarily
of interest income and interest expense, foreign exchange gains or losses,
royalty income, and impairment losses from investments in non-operating
companies. Other income, net decreased from $0.2 million for the quarter ended
April 1, 2001 to a loss of ($0.3) million for the quarter ended March 31, 2002,
principally due to reduced interest income from lower interest rates applied to
lower average cash balances, foreign currency losses, and an impairment loss of
$0.2 million on the Company's investment in an unaffiliated company.
Provision for Income Taxes. A benefit from income taxes was recognized in
the quarter ended March 31, 2002, resulting from a change in the tax laws
effective in the first quarter of 2002 allowing the Company to recapture
alternative minimum taxes previously paid in a prior period.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2002, the Company had working capital of $13.1 million
(including cash and cash equivalents of $12.0 million) and minimal long-term
obligations. For the three months ended March 31, 2002, the Company recorded a
net loss of $3.9 million. Net cash provided by operating activities for the
first three months of 2002 was
9
$1.6 million, consisting primarily of the loss from operations, more than offset
by a decrease in working capital, which decrease in working capital included a
decrease in accounts receivable of $4.2 million, an increase in deferred revenue
of $0.8 million, partially offset by an increase in inventories of $0.1 million,
a decrease in accounts payable and accrued liabilities of $0.2 million, and an
increase in other assets of $0.3 million. The decrease in accounts receivable
was due to lower shipments during the first quarter of 2002, but was supported
by improved collection activities. The increase in inventories was due to
procurements made by the Company in anticipation of higher shipments, which did
not materialize. The decrease in accounts payable was the result of stricter
purchasing controls implemented by the Company. The decrease in accrued
liabilities was due principally to decreased commission, and bonus liabilities,
along with decreased employment liabilities resulting from reduced headcount.
Net cash used in operating activities for the first three months of 2001
was $3.0 million consisting primarily of the loss from operations partially
offset by a decrease in working capital requirements which included a decrease
in accounts receivable of $2.5 million, a decrease in inventories of $1.1
million, an increase in deferred revenue of $1.9 million, partially offset by a
decrease in accounts payable and accrued liabilities of $2.6 million and an
increase in other assets of $1.0 million.
Cash provided by investing activities was $1.0 million for the three months
ended March 31, 2002 as compared to $0.4 million used for the three months ended
April 1, 2001. Cash provided by investing activities for the first three months
of 2002 resulted from the collection of a $1.0 million note receivable,
partially offset by the acquisition of $0.2 million of property, plant and
equipment. Cash used in investing activities for the first three months of 2001
provided for the acquisition of $0.1 million of property, plant and equipment
and $0.2 million adjustment to the acquisition price of Celotek Corporation.
Cash used in financing activities for the three months ended March 31, 2002
and April 1, 2001 was not material in both periods.
On June 27, 2001, the Company entered into a loan and security agreement
with a bank under which it can borrow up to $7.5 million by way of revolving
advances. This loan is secured by all of Cylink's tangible assets and contains a
covenant to maintain a minimum tangible net worth. The Company fell out of
compliance with its covenant in February 2002 and continues not to be in
compliance as of March 31, 2002. The Company is working with the bank to revise
its covenants so that it can be in compliance in the future; however, until
those covenants are reset, no borrowings are available under this loan. There
have been no borrowings made under the loan since its inception.
In conjunction with the acquisition of Celotek Corporation in August 2000,
Cylink assumed an equipment loan with an outstanding balance of $0.3 million.
This loan matures December 1, 2002 and bears interest at the prime rate plus 1%.
As of March 31, 2002, the outstanding balance under the equipment line was $0.1
million. The equipment line requires the Company to maintain certain liquidity
and profitability covenants, with which the Company was not in compliance as of
March 31, 2002.
As of the date of filing of this Quarterly Report on Form 10Q, the
Company's revenue to date for 2002 is significantly below the revenue
anticipated under its current financial plan. Under the Company's financial plan
for 2002, the Company had projected a positive operating cashflow for the 2002
fiscal year. Due to the decrease in the Company's revenues below the amounts
anticipated by the Company under its financial plan, the Company is in the
process of revising its financial plan and intends to initiate certain actions
with the purpose of cutting costs in accordance with its actual and lowered
revenue. However, there can be no assurance that the Company will be able to
implement or achieve a revised plan, or that the Company's existing cash
balances and available borrowing will be sufficient to fund operations through
2002. Cylink's revolving line of credit is subject to borrowing limits based on
the amount of the Company's eligible accounts receivable. This line of credit is
also subject to the Company's satisfaction of a certain financial covenant
during the term of the loan with which the Company is not currently in
compliance.
In the event the Company's financial plan is unsuccessful, or it is
otherwise unable to satisfy the conditions for its use of the revolving line of
credit, the Company may require additional funds in the near term to support
working capital requirements or for other purposes and may seek to raise such
additional funds through public or private equity or debt financing, sales of
assets, or from other sources. No assurance can be given that additional
financing will be available or that, if available, will be on terms favorable to
the Company or its shareholders. If Cylink is
10
unsuccessful in implementing it's revised financial plan, and cannot raise
additional funds, either through its line of credit or other sources, the
Company may not have the resources to maintain its operations.
RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
We have a history of losses, and may not be able to meet our needs for working
capital.
We incurred significant net losses in 2001 and in prior years. We had an
accumulated deficit of $122.7 million as of March 31, 2002. Our prior losses may
also adversely impact our ability to raise additional capital if required to
sustain our operations.
As of the date of filing of this Quarterly Report on Form 10-Q, our revenue
to date for 2002 is significantly below the revenue anticipated under our
current financial plan. Under our financial plan for 2002, we had projected a
positive operating cash flow for the 2002 fiscal year. Due to the decrease in
our revenues below the amounts anticipated by us under our financial plan, we
are in the process of revising our financial plan and intend to initiate certain
actions with the purpose of cutting costs in accordance with our actual and
lowered revenue. However, there can be no assurance that we will be able to
implement or achieve our revised plan, or that our principal sources of
liquidity, which include cash and cash equivalents of $12.0 million as of March
31, 2002 and prospective borrowing via our revolving line of credit, will
satisfy our current anticipated working capital and capital expenditure
requirements through at least the next twelve months. Our credit line expires in
June 2002. In February 2002, we breached certain financial covenants contained
in the loan agreement for such credit line and we continue not to be in
compliance with such covenants. There is no guarantee that we will satisfy these
covenants or other covenants in the loan agreement in the future, and there is
no guarantee that the bank will renew the credit line in June 2002. If we fail
to meet our financial covenants or if the bank does not renew the facility, the
line of credit will not be available to fund our operations if it is needed.
In 2001, we began to realize the benefits of the actions taken in the
fourth quarter of 2000, and throughout 2001 to reduce operating costs in our
core business. We plan to continue such cost reducing measures in 2002. However,
there can be no assurance that we will be able to continue reducing costs at a
pace that reflects further reduction in revenues, or that we will not need to
raise additional capital to fund operations within this period or that
additional financing can be obtained on acceptable terms, or at all. If
additional funds are raised by issuing equity securities, dilution to
shareholders may result. If adequate funds are not available, we, our business,
and the price of our Common Stock will be adversely affected.
Our quarterly operating results may vary in the future, which could cause our
stock price to drop.
We have historically experienced significant fluctuations in our operating
results on a quarterly basis and could experience such fluctuations in the
future. Our revenues and operating results could be affected by a number of
factors outside of our control, including the following:
o our inability to accurately forecast revenues and respond in a
timely manner to changes in revenue levels;
o the timing of the introduction by us or by our competitors of
new or enhanced products;
o market acceptance of our new products and those of our
competitors;
o the timing, cancellation or delay of customer orders,
including cancellation or delay in anticipation of new product
introductions or enhancements;
o changes in our pricing policies or those of our competitors;
o changes in operating costs and expenses, including those
resulting from changes in available production capacity of
independent foundries and other suppliers and the availability
of raw materials;
o changes in the revenue mix from products or services sold;
11
o changes in the percentage of products sold through our direct
sales force;
o loss of an important customer;
o failure to grow our customer base in accordance with market
expectations;
o customer discounts and credits;
o our limited ability to reduce expenses to offset any
unexpected shortfall in revenue growth or decrease in revenue;
o delays in manufacturing due to shortages in components or
unanticipated revisions in product design;
o expenses incurred in seeking to enforce or defend claims with
respect to intellectual property rights;
o changes in the economy that affect the purchasing decisions of
our customers; and
o disruption in our operations caused by reductions in our
workforce.
Many of these factors are outside of our control. Unforeseen reductions in
revenue can materially and adversely affect our ability to raise capital or
sustain ongoing operations.
We are currently involved in litigation.
Several securities class action complaints have been filed against us and
certain of our current and former directors and officers in federal courts in
California. These complaints allege, among other things, that our previously
issued financial statements were materially false and misleading and that the
defendants knew or should have known that these financial statements caused our
common stock price to rise artificially and allege violations of Section 10(b)
of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated
thereunder, and Section 20 of the Exchange Act. The securities class action
lawsuits have been ordered consolidated into a single action pending in the
United States District Court for the Northern District of California, captioned
In Re Cylink Securities Litigation, No. C98-4292 (VRW). For more information on
this lawsuit, see Part II, Item 1. "Legal Proceedings." Although we believe we
have meritorious defenses and adequate insurance for the damages claimed in
these actions, it is not feasible to predict or determine the final outcome of
these proceedings, and if the outcome were to be unfavorable and exceed our
applicable insurance, our business, financial condition, cash flows and results
of operations could be materially adversely affected.
Our sales cycles are long and unpredictable, which makes period-to-period
revenues difficult to predict.
Sales of our products generally involve a significant commitment of capital
by customers, with the attendant delays frequently associated with large capital
expenditures. For these and other reasons, the sales cycle associated with our
products is typically lengthy and subject to a number of significant risks over
which we have little or no control. We are often required to ship products
shortly after we receive orders. Consequently, order backlog at the beginning of
any period has, at times in the past, represented only a small portion of that
period's expected revenue. Furthermore, increases in backlog from quarter to
quarter may be due to placement of orders calling for delivery dates extended
over a much longer period of time into future periods. Consequently, our order
backlog becomes more vulnerable to customer cancellations. As a result of these
fluctuations in our sales cycle and order backlog, product revenue in any period
has been and will continue to be substantially dependent on orders booked and
shipped in that period. We typically plan our production and inventory levels
based on internal forecasts of customer demand, which are highly unpredictable
and can fluctuate substantially. In particular, market forces beyond our
control, including recession, and limits or changes in government spending may
have a material affect on customer demand for our products. If revenue falls
significantly below anticipated levels, as it has at times in the past, our
financial condition and results of operations would be materially and adversely
affected. In addition, our operating expenses are based on anticipated revenue
levels and a high percentage of our expenses are generally fixed in the short
term. Based on these factors, a small fluctuation in the timing of sales can
cause operating results to vary significantly from period to period. It is
possible that in the future our operating results will again be below the
expectations of securities analysts and investors. In such an event, or in the
event that adverse conditions prevail or are perceived to prevail generally or
with respect to our business, or the market sector in which we operate, the
price of our Common Stock would likely be adversely affected. These factors make
it difficult to predict our
12
financial performance. As our quarterly results fluctuate, they may fall below
the expectations of public market analysts or investors. If this occurs, the
price of our Common Stock may drop.
The overall economic climate continues to be weak.
Our products typically represent substantial capital commitments by
customers, involving a potentially long sales cycle. As a result, customer
purchase decisions may be significantly affected by a variety of factors
including trends in capital spending for communication networks, market
competition, and the availability or announcement of alternative technologies.
Continued recent weakness in general economic conditions has resulted in many of
our customers delaying and/or reducing their capital spending related to
information systems. If the economy continues to be weak, demand for our
products could decrease, resulting in lower revenues and a decline in the
overall rate of our revenue growth.
We are dependent on recently introduced and new network security products.
Our future results of operations will be highly dependent on the successful
marketing and manufacture of the NetHawk product, as well as successful
marketing and manufacture of the Cylink Link Encryptors, PrivaCy Manager, Cylink
ATM, and Cylink Frame Encryptor products. To date, we have made only limited
commercial shipments of our NetHawk product, which began shipping in mid-year
2000. This product requires additional development work, enhancement, and
testing to achieve widespread commercial success. If this or other new or
recently introduced products have performance, reliability, quality or other
shortcomings, such products could fail to achieve adequate market acceptance.
The failure of our new or existing products to achieve or enjoy market
acceptance, whether for these or other reasons, could cause us to experience
reduced orders, higher manufacturing costs, delays in collecting accounts
receivable and additional warranty and service expenses, which in each case
could have a material adverse effect on our business, financial condition and
results of operations.
Due to insufficient market acceptance of stand alone public key
infrastructure ("PKI") products, such as our Net Authority and similar products
of our competitors, we revised our marketing approach in the second half of 2001
by discontinuing efforts to sell Net Authority as a stand alone product and
focused our efforts on potential customers seeking to embed our PKI as part of
their application or service. In addition, on February 8, 2002, we received
notice from the United States Postal Service ("USPS") that it was terminating
its license to Cylink's Net Authority product as of March 17, 2002, noting that
its decision was "not a reflection of the quality of work performance provided
by Cylink" but was due to "USPS' immediate need to reduce cost" and downsize its
non core businesses following the anthrax attack on its operations in October of
2001. We recently granted a continuation of USPS' license, at its request,
through May 30, 2002, but we expect this license and all further revenue earned
under Cylink's contract with the USPS to expire in the second quarter of 2002.
Although we continue to explore alternative sources of funding for our PKI
development activity with other potential OEM customers, any effort to continue
development and marketing of Cylink's PKI technology may fail to generate
sufficient revenue to cover its costs if we continue in this business for the
balance of 2002.
We face significant competition from other providers of network security systems
Competition is intense among providers of network security systems, and we
expect such competition to increase in the future. Significant competitive
factors in these markets include:
o the development of new products and features;
o product quality and performance;
o customer perception regarding the adequacy of security
provided by existing software and routers;
o adoption of embedded security solutions in other vendors'
hardware and software products;
o the quality and experience of our sales, marketing and service
organizations;
o product price;
o name recognition; and
13
o perception of our stability and long-term viability.
Many of these competitive factors are beyond our control.
Our competitors in the information security markets, including companies
that offer products similar to, or are perceived as an alternative to, our
products, are Checkpoint Software Technologies, Ltd., Network Associates, Inc.,
SafeNet, Inc., Secure Computing Corporation, RSA Security, Inc., Symantec
Corporation, and Thales e-Security, Inc. Our NetHawk VPN appliance competes with
numerous other products, including those offered or under development by Cisco
Systems, Inc., Newbridge Networks Corporation, Netscreen Technologies, Inc.,
Nokia Corp, and Sonic Wall, Inc. A number of significant vendors, including
Microsoft Corporation, and Cisco Systems, Inc. have embedded security solutions
in their software. To the extent that these embedded or optional security
capabilities provide all or a portion of the functionality provided by our
products, our products may no longer be required by customers to attain network
security.
Many of our competitors have substantially greater financial, technical,
marketing, distribution and other resources, greater name recognition and longer
standing relationships with customers than we possess. Competitors with greater
financial resources are better able to engage in more aggressive marketing
campaigns and sustained price reductions in order to gain market share. Any
period of sustained price reductions would have a material adverse effect on our
financial condition and results of operations. We may not be able to compete
successfully in the future and competitive pressures may result in price
reductions, loss of market share or otherwise have a material adverse effect on
our financial condition and results of operations.
We face the risks from tort and warranty claims that may be made against us.
We face the risks from tort and warranty claims that may be made against
us. Customers rely on our network security products to prevent unauthorized
access to their networks and data transmissions. A malfunction or the inadequate
design of our products could result in tort or warranty claims. A breach of a
customer's network by an unauthorized party, which is attributable to an alleged
defect in our products, may cause substantial damages due to loss or compromise
of the customer's valuable information. Furthermore, there is inadequate legal
precedent for allocating responsibility for such losses caused by the wrongful
acts of third parties. Although we attempt to reduce the risk of such losses
through warranty disclaimers and liability limitation clauses in our sales and
license agreements and by maintaining product liability insurance, there can be
no assurance that such measures will be effective in limiting our liability for
any such damages. Any liability for damages resulting from security breaches or
other product defects could be substantial and could have a material adverse
effect on our business, financial condition and results of operations.
In addition, a well-publicized actual or perceived security breach could
adversely affect the market's perception of security products in general, or our
products in particular, regardless of whether such breach is attributable to our
products. This could result in a decline in demand for our products, which would
have a material adverse effect on our business, financial condition and results
of operations.
On August 2, 2001, Cylink determined that a hardware design could cause a
premature failure of its the backup battery on its Cylink Frame Encryptor (CFE)
product. Shortly thereafter, Cylink announced a program to give its customers
the option of updating their CFE units by returning them to the factory, or
receiving an extended warranty covering the battery through the end of December
2002. Cylink accrued approximately $1.0 million in warranty costs during the
second quarter of 2001 associated with this program. While we believe this
reserve was based on reasonable estimates based on information available to us
at the time, actual costs could exceed these reserves. Since announcing this
program, two of our major customers stated their intention to submit substantial
claims related to their costs of avoiding product failures. Although we believe
such claims may be barred or significantly reduced by the limitations and
exclusions in the governing contracts of sale, there can be no assurance that we
will be found free from liability and any obligation to reimburse customers may
have a material effect on our operations.
We may be unable to retain our executive officers and key personnel that are
critical to our business.
14
Our future success will depend in large part on the abilities of our
executive officers, key management and technical personnel and our ability to
retain qualified and competent individuals following our reductions in the
employee workforce. There is no guarantee that our present executive management
and technical staff will remain with the Company, particularly if our
performance is not up to expectations, and particularly if general economic
recovery leads to expanded alternative opportunities for such employees. The
loss of the services of one or more of our executive officers or key personnel,
or the inability to attract and retain additional executives and other qualified
personnel, could delay product development cycles or otherwise have a material
adverse effect on our business and operating results.
We may not be able to hire and retain sufficient technical, marketing and
management personnel that we need to succeed because these people are limited in
number and are in high demand.
We may not be able to hire and retain sufficient technical, marketing and
management personnel that we need to succeed because we have limited resources
to expand our work force. We recently experienced, and may continue to
experience, substantial fluctuations in the number of employees and the scope of
our operations in the network security business, resulting in increased
responsibilities for management. To manage our business effectively, we will
need to continue to improve our operational, financial and management
information systems and to retain, motivate and manage our employees. In the
recent past, competition has been intense for qualified technical, marketing and
management personnel. Furthermore, the recent reductions in our workforce, and
fluctuation in our stock price, may create greater uncertainty amongst our
existing employees, who may decide not to continue employment with the Company.
There can be no assurance that we will be able effectively to achieve or manage
any future growth, and our failure to do so could delay product development
cycles or otherwise have a material adverse effect on our financial condition
and results of operations.
Any inability to protect our intellectual property could reduce our competitive
advantage, divert management attention, and require additional intellectual
property to be developed or cause us to incur expenses to enforce our rights.
We rely on patents, trademarks, copyrights, licenses and trade secret law
to establish and preserve our intellectual property rights. We own a number of
U.S. patents covering certain features of our network security product designs,
and have additional U.S. patent applications pending. There can be no assurance
that any patent, trademark, copyright or license owned or held by us will not be
invalidated, circumvented or challenged, that the rights granted thereunder will
provide competitive advantages to us or that any of our pending or future patent
applications will be issued with the scope of the claims sought by us, if at
all. Further, there can be no assurance that others will not develop
technologies that are similar or superior to our technology, duplicate our
technology, misappropriate our trade secrets, or design around the patents owned
by us. Resorting to the courts to protect our intellectual property would
require significant financial and management resources. In addition, the laws of
certain countries in which our products are or may be developed, manufactured or
sold may not protect our products and intellectual property rights to the same
extent as the laws of the United States. Our inability to protect our
intellectual property adequately could have a material adverse effect on our
financial condition and results of operations.
The computer, communications, software and network security industries are
characterized by substantial litigation regarding patent and other intellectual
property rights. In the past, we have received communications from third parties
asserting that our patents, features or content of certain of our products
infringe upon the intellectual property rights held by third parties, and we may
receive such communications in the future. There can be no assurance that third
parties will not assert claims against us that result in litigation. Any
litigation, whether or not determined in our favor, could result in significant
expense to us and could divert management and other resources. In the event of
an adverse ruling in any litigation involving intellectual property, we might be
required to discontinue the use of certain processes, cease the manufacture, use
and sale of infringing products, expend significant resources to develop
non-infringing technology or obtain licenses to the infringing technology and we
may suffer significant monetary damages, which could include treble damages.
There can be no assurance that under such circumstances a license would be
available to us on reasonable terms or at all. In the event of a successful
claim against us and our failure to develop or license a substitute technology
on commercially reasonable terms, our financial condition and results of
operations would be adversely affected. There can be no assurance that
15
existing claims or any other assertions (or claims for indemnity from customers
resulting from infringement claims) will not materially and adversely affect our
financial condition and results of operations.
If we are unable to adapt our services to rapidly changing technology, or if the
market for our network security products fails to grow, our business and
operating results could suffer.
The market for our network security products is characterized by rapidly
changing technology, emerging industry standards, new product introductions and
changes in customer requirements and preferences. Our future success will depend
in part upon end users' demand for network security products in general, and
upon our ability to enhance our existing products and to develop and introduce
new products and technologies that meet customer requirements. We face
continuing challenges to educate customers as to the value of our security
products. We believe that many potential customers do not appreciate the need
for our security products unless and until they have faced a major security
breach. Many potential customers prefer not to disclose significant security
breaches of their networks or are reluctant to invest in the development of a
professional security architecture to protect their networks. This market
resistance is compounded by our limited resources to invest in marketing
campaigns for our products and services.
If we are unable successfully to educate potential customers as to the
value of, and thereby obtain broad market acceptance for, our products and
services, we will continue to rely primarily on selling new and existing
products to our base of existing customers, which will significantly limit any
opportunity for growth. In addition, any significant advance in technologies for
attacking cryptographic systems could render some or all of our existing and new
products obsolete or unmarketable. To the extent that a specific method other
than ours is adopted as the standard for implementing network security in any
segment of the network security market, sales of our existing and planned
products in that market segment may be adversely impacted, which could have a
material adverse effect on our business, financial condition and results of
operations. The National Institute of Standards and Technology has announced
that it will adopt a new Advanced Encryption Standard, or AES, which we expect
to integrate into our products. Our ability to timely implement the AES into our
products may materially affect our development costs and ability to timely
market our solutions. Network security-related products or technologies
developed by others may adversely affect our competitive position or render our
products or technologies noncompetitive or obsolete.
In addition, a portion of the sales of our network security products will
depend upon a robust industry and infrastructure for providing access to public
switched networks, such as the Internet. The infrastructure or complementary
products necessary to turn these networks into viable commercial marketplaces
may not be fully developed, and once developed, these networks may not become
viable commercial marketplaces.
If our research and development activities are unsuccessful, we will not be able
to market new products and services and our business operations and financial
results could be harmed.
The markets for our products are characterized by rapidly changing
technologies, extensive research and new product introductions. We believe that
our future success will depend in part upon our ability to continue to enhance
our existing products and to develop, manufacture and market new products. As a
result, we expect to continue to make a significant investment in engineering,
research and development. We may not be able to develop and introduce new
products or enhancements to our existing products in a timely manner that
satisfy customer needs, achieve market acceptance or address technological
changes in our target markets. If we fail to develop products and introduce them
successfully and in a timely manner, this could adversely affect our competitive
position, financial condition and results of operations.
We face risks associated with our international operations.
We plan to continue to maintain our foreign sales channels, which require
significant management attention and financial resources. International sales
are subject to a number of risks, including unexpected changes in regulatory
requirements, export control laws, tariffs and other trade barriers, political
and economic instability in foreign markets, difficulties in the staffing,
management and integration of foreign operations, longer payment cycles, greater
difficulty in collecting accounts receivable, currency fluctuations and
potentially adverse tax consequences. Since most of our foreign sales are
denominated in U.S. dollars, our products become less price competitive in
countries in which local currencies decline in value relative to the U.S.
dollar. The uncertainties of monetary
16
exchange values have caused, and may in the future cause, some foreign customers
to delay new orders or delay payment for existing orders. The long-term impact
of such devaluation, including any possible effect on the business outlook in
other developing countries, cannot be predicted.
Our ability to compete successfully in foreign countries is dependent in
part on our ability to obtain and retain reliable and experienced in-country
distributors and other strategic partners. We do not have long-term contracts
with most of our value added resellers and distributors and, therefore, have no
assurance of a continuing relationship within a given market.
Due to U.S. government regulations restricting the export of cryptographic
devices and software, including our network security products to non-civilian
agencies of foreign governments, we are often at a disadvantage in competing for
international sales compared to companies located outside the United States that
are not subject to such restrictions. Furthermore, in certain foreign countries,
our distributors are required to secure licenses or formal permission before
encryption products can be imported. Although the Department of Commerce
continues to relax the export control laws as they apply to sales of our
products to our commercial customers, we still face export controls on sales to
certain foreign governments and transfers of our technology to foreign partners.
To date, we have been able to secure the necessary export and import licenses to
compete effectively in the international market. However, we may not be able to
secure such licenses in a timely manner in the future, or at all.
We may incur additional claims arising from the Algorithmic Research Limited
("ARL") Divestiture.
Under the terms of the ARL Divestiture, ARL assumes liability for all of
the tax consequences of the divestiture, the forgiveness of debt, and for the
sale and licenses of ARL's intellectual property. ARL also retains liability for
its contractual obligations, including those arising under certain contracts
assigned to ARL. Although Cylink is indemnified by ARL under the ARL Divestiture
from such obligations, third parties may seek to hold Cylink liable, instead of
or in addition to ARL, for ARL's legal obligations that arose or were incurred
prior to Cylink's divestiture of its wholly owned interest in ARL.
We face risks from our dependence on third party subcontractors and suppliers.
Our ability to deliver our products in a timely manner is dependent upon
the availability of quality components and subsystems used in these products. We
depend in part upon subcontractors to manufacture, assemble and deliver certain
items in a timely and satisfactory manner. We obtain certain components and
subsystems from a single, or a limited number of, sources. A significant delay
in obtaining a source of supply for components selected by our design engineers
or interruption in the delivery of such items could have a material adverse
effect on our financial condition and results of operations.
On February 14, 2002, we notified our OEM supplier of our ISDN encryption
products, Biodata Information Technology AG ("Biodata") of our decision to
terminate our development and supply agreement following Biodata's declaration
of insolvency. Due to Biodata's financial failure, and that of the previous
supplier of our ISDN encryption products, Dica, in the first half of 2001, we
have discontinued all further sales and support for this product line. Although
we attempted to disclaim all liability for Biodata and Dica's failure in our
supply contract with our principal customer for ISDN encryption products, there
can be no assurance that the suppliers' failure, and our discontinuance of this
ISDN product line, will not cause claims for breach of warranty and support by
our customer and end users.
Cylink Common Stock could be delisted from the NASDAQ National Market, which
could adversely affect Cylink and its shareholders.
On July 25, 2001, the Company received a notice from the staff of the
NASDAQ National Market that its Common Stock had failed to maintain the minimum
bid price of $1.00 over the prior 30 trading days as required for continued
listing on the NASDAQ National Market. The notice stated that if during the 90
days following the date of the notice the bid price of Cylink Common Stock
failed to close at or above $1.00 for at least 10 consecutive trading days, then
Cylink Common Stock could be delisted.
17
On September 27, 2001, NASDAQ suspended its minimum bid price requirements
until January 2002. Since that date, our Common Stock has traded within NASDAQ's
minimum requirements for maintaining our listing on the NASDAQ National Market.
However, there can be no assurance that we will satisfy such requirements in the
future, or that we will be able to preserve our listing on the NASDAQ National
Market. Prior to any actual delisting, we would have an opportunity to request a
hearing to present our plan to comply with the continued listing requirements.
If Cylink Common Stock were to be delisted from the NASDAQ National Market,
we could apply for listing on the NASDAQ SmallCap Market, the OTC Bulletin Board
or another quotation system or exchange for which we could qualify. We cannot
guarantee, however, that we could apply for listing on another quotation system
or exchange if we are delisted from the NASDAQ National Market or that if we do
apply for listing that we will be eligible initially for such listing or that if
we do become listed, that we will be able to maintain eligibility. Listing on
another quotation system or exchange may negatively affect the price of our
Common Stock because stocks trading on over-the-counter markets are typically
less liquid and trade with larger variations between the bid and ask prices. In
addition, the delisting of our Common Stock from the NASDAQ National Market
would adversely affect or limit or restrict our ability to raise funds through
stock issuances.
If the market price for our Common Stock were to fall below $1.00 per share
such that we were no longer listed on the NASDAQ National Market, our Common
Stock could be deemed to be penny stock. If our Common Stock were considered
penny stock, it would be subject to rules that impose additional sales practices
on broker-dealers who sell our securities. For example, broker-dealers must make
a special suitability determination for the purchaser and have received the
purchaser's written consent to the transaction prior to sale. Also, a disclosure
schedule must be prepared prior to any transaction involving a penny stock and
disclosure is required about sales commissions payable to both the broker-dealer
and the registered representative and current quotations for the securities.
Monthly statements are also required to be sent disclosing recent price
information for the penny stock held in the account and information on the
limited market in penny stock. Because of these additional obligations, some
brokers may be unwilling to effect transactions in penny stocks. This could have
an adverse effect on the liquidity of our Common Stock under those
circumstances.
Terrorist attacks may negatively impact all aspects of our operations, revenues,
costs and stock price.
Recent terrorist attacks in the United States, as well as future events
occurring in response or connection to them, including, without limitation,
future terrorist attacks against United States targets, rumors or threats of
war, actual conflicts involving the United States or its allies or military or
trade disruptions impacting our domestic or foreign suppliers of merchandise,
may impact our operations, including, among other things, causing delays or
losses in the delivery of goods and supplies to us and decreased sales of the
products we carry. More generally, any of these events may have affected, and
may continue to affect, the general economy and customers' demand for capital
equipment. Any of these occurrences could have a significant impact on our
operating results, revenues and costs, may result in the volatility of the
market price for our Common Stock, and have an adverse impact on the future
price of our Common Stock.
Recent Accounting Pronouncements May Impact Our Financial Position and Results
of Operations.
We have adopted recent changes in financial accounting standards. In June
2001, the Financial Accounting Standards Board ("FASB") issued Statement of
Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Other
Intangible Assets". The valuation of the Company's goodwill and intangible
assets under SFAS 142 depends on certain factors outside of our control,
including our stock price, and we may be required to write down some or all of
the $16.1M net carrying value of our investment in intangibles reported as of
March 31, 2002. Any determination under SFAS 142 of an impairment of our
investment in intangibles could have a material impact on Cylink's financial
position and results of operations. In June, July and August, 2001, the FASB
also issued SFAS 141 "Business Combinations", SFAS 143, "Accounting for Asset
Retirement Obligations", and SFAS 144,"Impairment or Disposal of Long-Lived
Assets", respectively, which are effective for fiscal years beginning after
December 15, 2001. The adoption of these statements did not have a material
effect on our financial condition or results of operations. There can be no
assurances, however, that the issuance by FASB of additional statements of
financial accounting standards would not materially adversely affect our
business, financial condition, and results of operations if such are required to
be adopted by us in the future.
18
Item 3. Quantitative and Qualitative Disclosures about Market Risk
As of March 31, 2002, we held a total of $12.0 million of cash and cash
equivalents. These securities consist primarily of money market funds and
high-grade, short-term corporate obligations. Certain of these securities are
subject to interest rate risk and will decline in value if market interest rates
increase. If market interest rates were to increase immediately and uniformly by
10 % from levels as of March 31, 2002, the decline in fair value of the
portfolio would not be material.
We transact substantially all of our revenues and costs in U.S. dollars and
our results of operations would not be materially affected by fluctuations in
foreign exchange rates. Accordingly, to date, we have not used material amounts
of derivative financial instruments. As of March 31, 2002, we had no fixed rate
obligations except for an equipment loan with a balance of approximately
$104,000. As such, the fair value of our fixed rate obligations is not subject
to a material adverse impact from changes in interest rates.
19
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Securities Class Action.
In 1998, we filed amended Forms 10-Q for the first and second quarters of
1998 and an amended Form 10K for 1997, reflecting restated financial results for
those quarters, and for the fourth quarter of 1997. Between November 6, 1998 and
December 14, 1998, several securities class action complaints were filed against
us and certain of our current and former directors and officers in federal
courts in California. These complaints allege, among other things, that our
previously issued financial statements were materially false and misleading and
that the defendants knew or should have known that these financial statements
caused our common stock price to rise artificially. The actions variously allege
violations of Section 10(b) of the Securities Exchange Act of 1934 (the
"Exchange Act"), as amended, and SEC Rule 10b-5 promulgated thereunder, and
Section 20 of the Exchange Act.
The securities class action lawsuits have been ordered consolidated into a
single action pending in the United States District Court for the Northern
District of California, captioned In Re Cylink Securities Litigation, No.
C98-4292 (VRW). The action is currently pending before the Court.
We believe we have meritorious defenses and adequate insurance for the
damages claimed in these actions and we intend to defend the Company vigorously.
However, it is not feasible to predict or determine the final outcome of these
proceedings, and if the outcome were to be unfavorable and exceed our applicable
insurance, our business, financial condition, cash flows and results of
operations could be materially adversely affected.
Other Litigation
In addition, in the normal course of business, we, from time to time,
receive inquiries or other communication with regard to possible infringement of
third party intellectual property rights by our patents, or the features or
content of certain of our products. We believe it is unlikely that the outcome
of these infringement inquiries will have a material adverse effect on our
financial position or results of operations, however if litigation results from
any of these inquires and the outcome is unfavorable to us, it could have a
material adverse effect on our cash flows, results of operations and financial
condition.
There has been substantial litigation regarding patent and other
intellectual property rights in the software and network security related
industries. Further commercialization of our products could provoke claims of
infringement from third parties. In the future, litigation may be necessary to
enforce our patents, to protect our trade secrets or know-how or to defend
against claimed infringement of the rights of others and to determine the scope
and validity of the proprietary rights of others. Any such litigation could
result in substantial cost and diversion of our efforts, which by itself could
have a material adverse effect on our financial condition and operating results.
Further, adverse determinations in such litigation could result in loss of
proprietary rights, subject us to significant liabilities to third parties,
require us to seek licenses from third parties or prevent us from manufacturing
or selling our products, any of which could have a material adverse effect on
our business, financial condition or results of operations.
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Items 2, 3, 4 and 5 have been omitted as they are not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
None
(b) Reports on Form 8-K:
On April 4, 2002, Cylink filed a report on Form 8-K, announcing that it
expected revenues for the first quarter, which ended March 31st, to be
approximately $7.0 - 7.4 million, subject to adjustments during final
closing of the quarter. In the same quarter last year, the company
reported revenues of $12.6 million, including revenue of approximately
$1.4 million from divested subsidiaries. The Company ended the quarter
with cash and cash equivalents in excess of $11 million, up from $9.6
million at December 31, 2001.
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SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Date: May 14, 2002 CYLINK CORPORATION
By: /s/ R. Christopher Chillingworth
--------------------------------
R. Christopher Chillingworth
Vice President of Finance
and Chief Financial Officer
(Duly Authorized Officer and
Principal Financial Officer)
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