================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
---------------
Form 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number 000-27115
PCTEL, INC.
(Exact Name of Business Issuer as Specified in Its Charter)
Delaware 77-0364943
(State or Other Jurisdiction of (I.R.S. Employer Identification
Incorporation or Organization) Number)
8725 W. Higgins Road, Suite 400, Chicago IL 60631
(Address of Principal Executive Office) (Zip Code)
(773) 243-3000
(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 Exchange Act during the past
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 [ ]
Indicate by a check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [X] No [ ]
As of May 3, 2004, there were 20,937,359 shares of the Registrant's Common Stock
outstanding.
================================================================================
PCTEL, INC.
FORM 10-Q
FOR THE QUARTER ENDED MARCH 31, 2004
<Table>
<Caption>
PAGE
----
PART I. FINANCIAL INFORMATION
ITEM 1 FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited)
as of March 31, 2004 and December 31, 2003 3
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
for the three months ended March 31, 2004 and 2003 4
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
for the three months ended March 31, 2004 and 2003 5
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited) 6
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS 13
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 31
ITEM 4 CONTROLS AND PROCEDURES 32
PART II. OTHER INFORMATION 33
ITEM 1 LEGAL PROCEEDINGS 33
ITEM 2 CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY SECURITIES 34
ITEM 5 OTHER INFORMATION 34
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K 34
</Table>
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PCTEL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED, IN THOUSANDS, EXCEPT SHARE INFORMATION)
<Table>
<Caption>
MARCH 31, DECEMBER 31,
2004 2003
------------- -------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 95,996 $ 106,007
Restricted cash 278 278
Short-term investments 11,156 19,177
Accounts receivable, net of allowance for doubtful accounts of 5,792 3,630
$153 and $50, respectively
Inventories, net 3,082 1,267
Prepaid expenses and other assets 3,207 1,929
------------- -------------
Total current assets 119,511 132,288
PROPERTY AND EQUIPMENT, net 4,572 1,197
GOODWILL 11,335 5,561
OTHER INTANGIBLE ASSETS, net 10,329 4,140
OTHER ASSETS 60 55
------------- -------------
TOTAL ASSETS $ 145,807 $ 143,241
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 859 $ 333
Accrued royalties 3,213 3,208
Income taxes payable 5,456 7,359
Deferred revenue 2,370 2,960
Accrued liabilities 6,507 5,739
------------- -------------
Total current liabilities 18,405 19,599
Long-term liabilities 736 736
------------- -------------
Total liabilities 19,141 20,335
------------- -------------
STOCKHOLDERS' EQUITY:
Common stock, $0.001 par value, 100,000,000 shares authorized,
20,816,095 and 20,145,824 issued and outstanding at March 31,
2004 and December 31, 2003, respectively 21 20
Additional paid-in capital 162,146 155,548
Deferred stock compensation (4,910) (2,552)
Accumulated deficit (30,669) (30,201)
Accumulated other comprehensive income 78 91
------------- -------------
Total stockholders' equity 126,666 122,906
------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 145,807 $ 143,241
============= =============
</Table>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
3
PCTEL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, IN THOUSANDS, EXCEPT PER SHARE INFORMATION)
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
2004 2003
---------- ----------
REVENUES $ 10,690 $ 13,082
COST OF REVENUES 3,769 7,907
INVENTORY RECOVERY -- (1,348)
---------- ----------
GROSS PROFIT 6,921 6,523
---------- ----------
OPERATING EXPENSES:
Research and development 2,030 2,118
Sales and marketing 2,934 2,261
General and administrative 3,176 1,852
Amortization of other intangible assets 711 99
Acquired in-process research and development -- 1,100
Restructuring charges (51) 155
Gain on sale of assets and related royalties (500) --
Amortization of deferred compensation 310 299
---------- ----------
Total operating expenses 8,610 7,884
---------- ----------
LOSS FROM OPERATIONS (1,689) (1,361)
OTHER INCOME, NET 239 495
---------- ----------
LOSS BEFORE PROVISION (BENEFIT) FOR INCOME TAXES (1,450) (866)
PROVISION (BENEFIT) FOR INCOME TAXES (982) 64
---------- ----------
NET LOSS $ (468) $ (930)
========== ==========
Basic earnings (loss) per share $ (0.02) $ (0.05)
Shares used in computing basic earnings (loss) per share 19,901 19,238
Diluted earnings (loss) per share $ (0.02) $ (0.05)
Shares used in computing diluted earnings (loss) per share 19,901 19,238
</Table>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
4
PCTEL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED, IN THOUSANDS)
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
------------------------------
2004 2003
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (468) $ (930)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 939 400
In-process research and development -- 1,100
Gain (loss) on disposal/sale of fixed assets -- (12)
Recovery of allowance for doubtful accounts -- (127)
Amortization of deferred compensation 310 299
Changes in operating assets and liabilities:
Decrease in accounts receivable 322 1,092
(Increase) decrease in inventories 33 (772)
(Increase) decrease in prepaid expenses and other assets (1,147) 744
Increase (decrease) in accounts payable (182) 996
(Decrease) in accrued royalties (4) (128)
(Decrease) in income taxes payable (1,924) (120)
Increase (decrease) in deferred revenue (590) 4
(Decrease) in accrued liabilities (1,022) (73)
Increase in long-term liabilities -- 273
Tax benefit from stock option exercises 433 --
---------- ----------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES (3,300) 2,746
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures for property and equipment (443) (120)
Proceeds on sale of property and equipment 3 113
Sales of available-for-sale investments 8,006 15,049
Purchase of assets/business, net of cash acquired (17,777) (10,762)
---------- ----------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES (10,211) 4,280
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 3,498 865
Payments for repurchase of common stock -- (3,361)
---------- ----------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 3,498 (2,496)
---------- ----------
Net increase (decrease) in cash and cash equivalents (10,013) 4,530
Cumulative translation adjustment 2 (3)
Cash and cash equivalents, beginning of period 106,007 52,986
---------- ----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 95,996 $ 57,513
========== ==========
</Table>
The accompanying notes are an integral part of these
condensed consolidated financial statements.
5
PCTEL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS ENDED MARCH 31, 2004
(UNAUDITED)
1. BASIS OF PRESENTATION
The condensed consolidated financial statements included herein have been
prepared by PCTEL, Inc. (unless otherwise noted, "PCTEL", the "Company", "we",
"us" or "our" refers to PCTEL, Inc.), pursuant to the laws and regulations of
the Securities and Exchange Commission for the requirements of Form 10-Q.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to such rules and regulations. In the
opinion of management, the disclosures are adequate to make the information not
misleading. The condensed balance sheet as of December 31, 2003 has been derived
from the audited financial statements as of that date, but does not include all
disclosures required by generally accepted accounting principles. These
financial statements and notes should be read in conjunction with the audited
financial statements and notes thereto included in our Annual Report on Form
10-K filed with the Securities and Exchange Commission.
The unaudited condensed financial statements reflect all adjustments,
consisting only of normal recurring adjustments, necessary for a fair
presentation of financial position, results of operations and cash flows for the
periods indicated. The results of operations for the three months ended March
31, 2004 are not necessarily indicative of the results that may be expected for
future periods or the year ending December 31, 2004.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the periods
reported. Actual results could differ from those estimates.
INVENTORIES
Inventories are stated at the lower of cost or market and include material,
labor and overhead costs using the FIFO method of costing. Inventories at March
31, 2004 and December 31, 2003 consist of the following (in thousands):
<Table>
<Caption>
MARCH 31, DECEMBER 31,
2004 2003
------------- -------------
Raw Materials $ 572 $ 780
Work in process 64 5
Sub assemblies 578 527
Finished Goods 2,033 10
------------- -------------
Sub-total $ 3,247 $ 1,322
------------- -------------
Allowance (165) (55)
------------- -------------
Total inventories $ 3,082 $ 1,267
------------- -------------
</Table>
EARNINGS PER SHARE
We compute earnings per share in accordance with SFAS No. 128, "Earnings
Per Share". SFAS No. 128 requires companies to compute net income per share
under two different methods, basic and diluted, and present per share data for
all periods in which statements of operations are presented. Basic earnings per
share is computed by dividing net income by the weighted average number of
shares of common stock outstanding, less shares subject to repurchase. Diluted
earnings per share are computed by dividing net income by the weighted average
number of common stock and common stock equivalents outstanding. Common stock
equivalents consist of stock options using the treasury stock method. Common
stock options are excluded from the computation of diluted earnings per share if
their effect is anti-dilutive.
6
The following table provides a reconciliation of the numerators and
denominators used in calculating basic and diluted earnings per share for the
three months ended March 31, 2004 and 2003, respectively (in thousands, except
per share data):
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
----------------------------
2004 2003
----------- -----------
Numerator: (UNAUDITED)
Net loss $ (468) $ (930)
=========== ===========
Denominator:
Basic earnings (loss) per share:
Weighted average common shares outstanding 20,532 19,833
Less: Weighted average shares subject to repurchase (631) (595)
----------- -----------
Weighted average common shares outstanding 19,901 19,238
----------- -----------
Basic earnings (loss) per share $ (0.02) $ (0.05)
=========== ===========
Diluted earnings (loss) per share:
Weighted average common shares outstanding 19,901 19,238
Weighted average shares subject to repurchase -* -*
Weighted average common stock option grants -* -*
----------- -----------
Weighted average common shares and common stock equivalents outstanding 19,901 19,238
----------- -----------
Diluted earnings (loss) per share $ (0.02) $ (0.05)
=========== ===========
</Table>
* These amounts have been excluded since the effect is anti-dilutive.
STOCK-BASED COMPENSATION
The Company accounts for its stock option plans using Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees", whereby
compensation cost for stock options is measured as the excess, if any, of the
fair market value of a share of the Company's stock at the date of the grant
over the amount that must be paid to acquire the Stock. SFAS No. 123,
"Accounting for Stock-Based Compensation", issued subsequent to APB No. 25 - and
amended by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition
and Disclosure", defines a fair value based method of accounting for employee
stock options, but allows companies to continue to measure compensation cost for
employees using the intrinsic value method of APB No. 25. The following table
illustrates the pro forma information regarding net income (loss) and net income
(loss) per share as if we recorded compensation expense based on the fair value
of stock-based awards in accordance with Statement of Financial Accounting
Standards No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure" for the three months ended March 31, 2004 and 2003 (in thousands,
except per share data):
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
--------------------------
2004 2003
---------- ----------
Net loss -- as reported ............................... $ (468) $ (930)
Add: Stock-based employee compensation ................ 310 299
Expense included in reported net loss
Deduct: Stock-based employee compensation ............. 1,489 782
expense determined under fair value based method
for all awards ........................................
Net loss --as adjusted ................................ $ (1,647) $ (1,413)
Net (loss) income per share--basic as reported ........ $ (0.02) $ (0.05)
Net (loss) income per share--basic as adjusted ........ $ (0.08) $ (0.07)
Net (loss) income per share--diluted as reported ...... $ (0.02) $ (0.05)
Net (loss) income per share--diluted as adjusted ...... $ (0.08) $ (0.07)
</Table>
These costs may not be representative of the total effects on pro forma reported
income (loss) for future years. Factors that may also impact disclosures in
future years include the attribution of the awards to the service period, the
vesting period of stock awards, timing of additional grants of stock option
awards and the number of shares granted for future awards.
7
The Company calculated the fair value of each option grant on the date of
grant using the Black-Scholes option-pricing model as prescribed by SFAS 123
using the following assumptions:
<Table>
<Caption>
STOCK OPTIONS EMPLOYEE STOCK PURCHASE PLAN
---------------------- ----------------------------
2004 2003 2004 2003
-------- -------- -------- --------
Dividend yield None None None None
Expected volatility 46% 55% 46% 55%
Risk-free interest rate 2.1% 2.4% 1.0% 1.1%
Expected life (in years) 3.07 2.75 0.5 0.5
</Table>
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options, which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility and
expected option life. Because our employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate the
existing models may not necessarily provide a reliable single measure of the
fair value of our employee stock options. Restricted stock awards are recorded
at the fair market value of the stock on the date of grant and are expensed over
the vesting period.
INDUSTRY SEGMENT, CUSTOMER AND GEOGRAPHIC INFORMATION
In 2003 the company operated as a single segment. In January 2004, with the
acquisition of MAXRAD and revenue traction in our Segue product line, the
company began operating in four distinct segments. They are the Software
segment, represented by the Segue product line, the Test segment, represented by
the DTI product line, the Antenna segment, represented by the MAXRAD product
line, and the Licensing segment. In 2003, the company also had a modem product
line which it sold to Conexant in May of that year.
The results of operations by segment are as follows:
<Table>
<Caption>
Software Test Antenna Licensing Modems Elimination Consolidated
-------- ------- ------- --------- ------ ----------- ------------
Revenue, three months ended March 31, 2004 $ 1,118 $ 2,367 $ 5,112 $ 2,103 $ (10) $ 10,690
Gross Profit $ 1,085 $ 1,616 $ 2,137 $ 2,086 $ (3) $ 6,921
Operating Expenses $ 8,610
Operating (Loss) $ (1,689)
</Table>
<Table>
<Caption>
($ in thousands)
Software Test Antenna Licensing Modems Elimination Consolidated
-------- ------- ------- --------- ------ ----------- ------------
Revenue, three months ended March 31, 2003 $ 122 $ 567 $ 1,913 $ 10,480 $ 13,082
Gross Profit $ 109 $ 437 $ 1,913 $ 4,064 $ 6,523
Operating Expenses $ 7,884
Operating (Loss) $ (1,361)
</Table>
The Company's chief operating decision maker (CEO) uses only the above
measures in deciding how to allocate resources and assess performance among the
segments.
Our sales to customers outside of the United States, as a percent of total
revenues, are as follows:
8
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
------------------------
2004 2003
---------- ----------
(UNAUDITED)
Taiwan 2% 63%
China -% 21%
Japan 1% 2%
Rest of Asia 2% 2%
Europe 10% -%
Central and Latin America 6% -%
Canada 5% -%
---------- -----------
Total 26% 88%
========== ===========
</Table>
Sales to our major customers representing greater than 10% of total revenues
are as follows:
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
CUSTOMER 2004 2003
- ------------------------ -------- --------
(UNAUDITED)
Askey -% 21%
Lite-on Technology (GVC) -% 22%
Prewell -% 21%
------- --------
Total -% 64%
======= ========
</Table>
COMPREHENSIVE INCOME
The following table provides the calculation of other comprehensive income
for the three months ended March 31, 2004 and 2003 (in thousands):
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31,
------------------------
2004 2003
---------- ----------
(UNAUDITED)
Net loss $ (468) $ (930)
Other comprehensive income:
Unrealized gains (loss) on available-for-sale securities (15) (121)
Cumulative translation adjustment 2 (3)
---------- ----------
Comprehensive income (loss) $ (481) $ (1,054)
========== ==========
</Table>
RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 46 ("FIN 46"), "Consolidation of Variable Interest Entities,
an Interpretation of ARB No. 51." FIN 46 requires certain variable interest
entities to be consolidated by the primary beneficiary of the entity if the
equity investors in the entity do not have the characteristics of a controlling
financial interest or do not have sufficient equity at risk for the entity to
finance its activities without additional subordinated financial support from
other parties. FIN 46 is effective immediately for all new variable interest
entities created or acquired after January 31, 2003. For variable interest
entities created or acquired prior to February 1, 2003, the provisions of FIN 46
must be applied for the first interim or annual period beginning after December
15, 2003. In December 2003, the Financial Accounting Standards Board issued
Interpretation 46R (FIN 46R), a revision to Interpretation 46 (FIN 46),
"Consolidation of Variable Interest Entities." FIN 46R clarifies some of the
provisions of FIN 46 and exempts certain entities from its requirements. FIN 46R
is effective at the end of the first interim period ending after March 15, 2004.
Adoption of this standard did not have a material impact on the Company's
financial position, results of operations, or cash flows.
9
3. ACQUISITION
On January 2, 2004, we completed our acquisition of MAXRAD, Inc. MAXRAD is
a manufacturer of wireless communications antennas for broadband wireless,
in-building wireless and land mobile radio applications. In connection with the
acquisition, we, MAXRAD, and the shareholders of MAXRAD and certain other
parties entered into a Securities Purchase Agreement, dated as of January 2,
2004, pursuant to which we acquired all of the outstanding capital stock of
MAXRAD.
In exchange for the outstanding capital stock of MAXRAD, we paid $18.2
million, net of cash acquired of $2.4 million, out of our available working
capital.
The purchase price of $18.2 million in cash, of which $0.4 million was paid
in April 2004, was allocated $5.5 million to net assets acquired, $0.9 million
to the covenant not to compete, $1.3 million to core technology, $3.2 million to
customer lists, $1.4 million to trademarks and $0.1 million to other intangible
assets, net, in the accompanying consolidated balance sheets. The $5.8 million
excess of the purchase price over the fair value of the net tangible and
intangible assets was allocated to goodwill, which is deductible for tax
purposes. We will amortize the covenant not to compete over two years and other
intangible assets over an estimated useful life of six and eight years.
The unaudited pro forma effect of the financial results of PCTEL as if the
acquisition had taken place on January 1, 2003 is as follows:
<Table>
<Caption>
THREE MONTHS ENDED
MARCH 31, 2003
------------------
REVENUES $ 17,187
LOSS FROM OPERATIONS (464)
NET LOSS $ (535)
==================
Basic earnings (loss) per share $ (0.03)
Shares used in computing basic earnings (loss) per share 19,238
Diluted earnings (loss) per share $ (0.03)
Shares used in computing diluted earnings (loss) per share 19,238
</Table>
4. GOODWILL AND OTHER INTANGIBLE ASSETS DISCLOSURE
In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No.'s 141 and 142, "Business Combinations" and "Goodwill and Other Intangible
Assets", respectively. SFAS No. 141 requires all business combinations initiated
after June 30, 2001 to be accounted for using the purchase method. SFAS No. 142
supersedes Accounting Principles Board Opinion ("APB") No. 17 and addresses the
financial accounting and reporting standards for goodwill and intangible assets
subsequent to their initial recognition. SFAS No. 142 requires that goodwill no
longer be amortized. It also requires that goodwill and other intangible assets
be tested for impairment at least annually and whenever events or circumstances
occur indicating that goodwill might be impaired. Additionally, an acquired
intangible asset should be separately recognized if the benefit of the
intangible asset is obtained through contractual or other legal rights, or if
the intangible asset can be sold, transferred, licensed, rented, or exchanged,
regardless of the acquirer's intent to do so. The Company adopted SFAS No. 142
on January 1, 2002 at which time the Company ceased amortization of goodwill.
The provisions of SFAS No. 142 are effective for fiscal years beginning after
December 15, 2001 and must be applied to all goodwill and other intangible
assets that are recognized in an entity's balance sheet at the beginning of that
fiscal year.
The changes in the carrying amount of goodwill and other intangible assets
as of March 31, 2004 were as follows (in thousands):
<Table>
<Caption>
GOODWILL, NET
-------------
Balance at December 31, 2003 $ 5,561
Goodwill from the acquisition of MAXRAD 5,774
-------------
Balance at March 31, 2004 $ 11,335
=============
</Table>
10
<Table>
<Caption>
Intangible Assets MARCH 31, 2004 DECEMBER 31, 2003
- ----------------- ------------------ ------------------
Developed technology-cyberPIXIE $ 452 $ 452
Other intangible assets-DTI 4,600 4,600
Patents 300 300
Other intangible assets-MAXRAD 5,500 --
Trademark-MAXRAD 1,400 --
------------------ ------------------
$ 12,252 $ 5,352
================== ==================
Less: Accumulated amortization $ (1,923) $ (1,212)
================== ==================
Net intangible assets $ 10,329 $ 4,140
================== ==================
</Table>
5. RESTRUCTURING CHARGES
2003 Restructuring
In May 2003, the Company completed the sale of certain of its assets to
Conexant relating to a component of PCTEL's HSP modem product line. As a result
of the disposition, 29 employees were transferred to Conexant. An additional 26
employees, both foreign and domestic, were terminated along with the related
facilities closures. The total restructuring aggregated $3.3 million consisting
of severance and employment related costs of $1.7 million and costs related to
closure of excess facilities as a result of the reduction in force of $1.6
million.
As of March 31, 2004, approximately $1.5 million of termination compensation
and related benefits had been paid to terminated employees and approximately
$0.5 million of lease payments and related costs had been paid to the landlord
for the excess facilities. As of March 31, 2004, the remaining accrual balance
of $1.3 million restructuring will be paid monthly through January 2006. The
following analysis sets forth the rollforward of this charge:
<Table>
<Caption>
ACCRUAL ACCRUAL
BALANCE AT BALANCE AT
DECEMBER 31, RESTRUCTURING MARCH 31,
2003 CHARGES PAYMENTS 2004
--------------- --------------- --------------- ---------------
Severance and employment related costs $ 633 $ (101) $ 291 $ 241
Costs for closure of excess facilities 977 50 1 1,026
--------------- --------------- --------------- ---------------
$ 1,610 $ (51) $ 292 $ 1,267
=============== =============== =============== ===============
Amount included in long-term liabilities $ 648
===============
Amount included in short-term liabilities $ 619
===============
</Table>
6. CONTINGENCIES:
We record an accrual for estimated future royalty payments for relevant
technology of others used in our product offerings in accordance with SFAS No.
5, "Accounting for Contingencies." The estimated royalties accrual reflects
management's broader litigation and cost containment strategies, which may
include alternatives such as entering into cross-licensing agreements, cash
settlements and/or ongoing royalties based upon our judgment that such
negotiated settlements would allow management to focus more time and financial
resources on the ongoing business. We have accrued our estimate of the amount of
royalties payable for royalty agreements already signed, agreements that are in
negotiation and unasserted but probable claims of others using advice from third
party technology advisors and historical settlements. Should the final license
agreements result in royalty rates significantly greater than our current
estimates, our business, operating results and financial condition could be
materially and adversely affected.
As of March 31, 2004 and December 31, 2003, we accrued royalties of
approximately $3.2 million. While management is unable to estimate the maximum
amount of the range of possible settlements, it is possible that actual
settlements could exceed the amounts accrued as of each date presented.
As part of the acquisition of DTI there is an earn-out over two years if
certain milestones are achieved. At PCTEL's option, DTI could be paid in PCTEL
stock or cash. For the year ended December 31, 2003, DTI earned $1.5 million
cash payout that was paid on May 4, 2004. The Company is estimating the 2004 DTI
earn-out to be $1.5 to $2.2 million.
We have from time to time in the past received correspondence from third
parties, and may receive communications from additional third parties in the
future, asserting that our products infringe on their intellectual property
rights, that our patents are unenforceable or that we have inappropriately
licensed our intellectual property to third parties. We
11
expect these claims to increase as our intellectual property portfolio becomes
larger. These claims could affect our relationships with existing customers and
may prevent potential future customers from purchasing our products or licensing
our technology. Intellectual property claims against us, and any resulting
lawsuit, may result in our incurring significant expenses and could subject us
to significant liability for damages and invalidate what we currently believe
are our proprietary rights. These lawsuits, regardless of their success, would
likely be time-consuming and expensive to resolve and could divert management's
time and attention. In addition, any claims of this kind, whether they are with
or without merit, could cause product shipment delays or require us to enter
into royalty or licensing agreements. In the event that we do not prevail in
litigation, we could be prevented from selling our products or be required to
enter into royalty or licensing agreements on terms, which may not be acceptable
to us. We could also be prevented from selling our products or be required to
pay substantial monetary damages. Should we cross license our intellectual
property in order to obtain licenses, we may no longer be able to offer a unique
product. To date, we have not obtained any licenses from 3Com and the other
companies from whom we have received communications.
Ronald H. Fraser v. PC-Tel, Inc., Wells Fargo Shareowner Services, Wells Fargo
Bank Minnesota, N.A.
On March 19, 2002, plaintiff Ronald H. Fraser ("Fraser") filed a Verified
Complaint (the "Complaint") in Santa Clara County (California) Superior Court
for breach of contract and declaratory relief against the Company, and for
breach of contract, conversion, negligence and declaratory relief against the
Company's transfer agent, Wells Fargo Bank Minnesota, N.A ("Wells Fargo"). The
Complaint seeks compensatory damages allegedly suffered by Fraser as a result of
the sale of certain stock by Fraser during a secondary offering on April 14,
2000. Wells Fargo filed a Verified Answer to the Complaint on June 12, 2002. On
July 10, 2002, the Company filed a Verified Answer to the Complaint, denying
Fraser's claims and asserting numerous affirmative defenses. Wells Fargo and the
Company have each filed Cross-complaints against the other for indemnity. On
November 18, 2002, the parties conducted mediation but were unable to reach a
settlement.
Trial of this matter had been set for January 12, 2004, however, the trial
date was vacated in light of the amended complaint filed by Fraser following his
motion for leave to amend heard on December 9, 2003. The Company intends to
re-file its Motion for Summary Judgment or, alternatively, Summary Adjudication,
against Fraser. Trial is now scheduled for September 20, 2004. We believe that
we have meritorious defenses and intend to vigorously defend the action. Because
the action is still in its early stages, we are not able to predict the outcome
at this time.
Litigation with U.S. Robotics
On May 23, 2003, we filed in the U.S. District Court for the Northern
District of California a patent infringement lawsuit against U.S. Robotics
Corporation claiming that U.S. Robotics has infringed one of our patents. U.S.
Robotics filed its answer and counterclaim asking for a declaratory judgment
that the claims of the patent are invalid and not infringed. This case has been
consolidated for claims construction discovery with the litigation against 3Com
Corporation, and Agere Systems and Lucent Technologies. Claims construction
discovery under the Patent Local Rules is underway, and a status conference is
set for May 11, 2004. No trial date has been set. We believe we have meritorious
claims and defenses. However, because the action is still in its early stages,
we are not able to predict the outcome at this time.
Litigation with Broadcom
On May 23, 2003, we filed in the U.S. District Court for the Northern
District of California a patent infringement lawsuit against Broadcom
Corporation claiming that Broadcom has infringed four of our patents. Broadcom
filed its answer and counterclaim asking for a declaratory judgment that the
claims of the four patents are invalid and/or unenforceable, and not infringed
by Broadcom. In December 2003, the parties entered into a settlement agreement
which was favorable to the Company, and on January 6, 2004, the Court granted
the parties' stipulated request that all claims and counterclaims in the
Broadcom action be dismissed with prejudice.
Litigation with Agere and Lucent
On May 23, 2003, we filed in the U.S. District Court for the Northern
District of California a patent infringement lawsuit against Agere Systems and
Lucent Technologies claiming that Agere has infringed four of our patents and
that Lucent was infringing three of our patents. Agere and Lucent filed their
answers to our complaint. Agere filed a counterclaim asking for a declaratory
judgment that the claims of the four patents are invalid, unenforceable and not
infringed by Agere. We filed our reply to Agere's counterclaim in August 2003.
This case has been consolidated for claims
12
construction discovery with the litigation against U.S. Robotics Corporation and
3Com Corporation. Claims construction discovery under the Patent Local Rules is
underway, and a status conference is set for May 11, 2004. No trial date has
been set. We believe we have meritorious claims and defenses. However, because
the action is still in its early stages, we are not able to predict the outcome
at this time.
Litigation with 3Com
In March 2003, each of 3Com Corporation and the Company filed a patent
infringement lawsuit against the other. The suits are pending in the U.S.
District Court for the Northern District of California. Our lawsuit alleges
infringement of one of our patents and asks for a declaratory judgment that
certain 3Com patents are invalid and not infringed by the Company. 3Com is
alleging that our HSP modem products infringed certain 3Com patents and asks for
a declaratory judgment that our patent is invalid and not infringed by 3Com. No
trial date has been set. The case has been consolidated for claims construction
discovery with the litigation against U.S. Robotics Corporation, Agere Systems
and Lucent Technologies. Claims construction discovery under the Patent Local
Rules is underway, and a status conference is set for May 11, 2004. We believe
we have meritorious claims and defenses. However, because the action is still in
its early stages, we are not able to predict the outcome at this time.
Further, in May 2003, the Company filed a complaint against 3Com in the
Superior Court of the State of California for the County of Santa Clara under
California's Unfair Competition Act. In December 2003, the Company voluntarily
dismissed the action without prejudice. On December 15, 2003, 3Com filed an
action against the Company seeking a declaratory judgment that 3Com has not
violated the California Unfair Competition Act. On January 7, 2004, the parties
filed a stipulation dismissing 3Com's declaratory judgment action without
prejudice. No related claims with respect to the California Unfair Competition
Act are currently pending between the parties.
PCTEL, INC.
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following information should be read in conjunction with the condensed
interim financial statements and the notes thereto included in Item 1 of this
Quarterly Report and with Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in our Annual Report on Form 10-K
filed with the Securities and Exchange Commission on March 12, 2004. Except for
historical information, the following discussion contains forward looking
statements that involve risks and uncertainties, including statements regarding
our anticipated revenues, profits, costs and expenses and revenue mix. These
forward looking statements include, among others, those statements including the
words, "may," "will," "plans," "seeks," "expects," "anticipates," "intends,"
"believes" and words of similar import, constitute "forward-looking statements"
within the meaning of the Private Securities Litigation Reform Act of 1995. You
should not place undue reliance on these forward-looking statements. Our actual
results could differ materially from those anticipated in these forward-looking
statements for many reasons, including the risks faced by us described below and
elsewhere in this Quarterly Report, and in other documents we file with the SEC.
Factors that might cause future results to differ materially from those
discussed in the forward looking statements include, but are not limited to,
those discussed in "Factors Affecting Operating Results" and elsewhere in this
Quarterly Report.
INTRODUCTION
PCTEL, Inc. provides wireless connectivity products and test tools to
cellular carriers, wireless Internet providers (WISP's), PC OEM's, and wireless
equipment manufacturers. The Company brings together expertise in RF platform
design, mobility software, and hardware to ensure wireless excellence. We
simplify mobility, provide wireless intelligence, and enhance wireless
performance. Additionally, the Company licenses both patented and proprietary
access technology, principally related to analog modems, to modem solution
providers.
The Company completed a two-year transition from an analog modem Company to
a wireless Company during 2003. There were five significant events in that
transition, presented here in chronological order. The first was the acquisition
of cyberPIXIE, Inc. in May 2002, which was the genesis of the Company's Segue
product line of Wi-Fi and cellular mobility software. The second was the exiting
of the DSP based embedded modem product line in June 2002, and conversion of
that technology to a licensing program. The third was the acquisition of Dynamic
Telecommunications, Inc. (DTI) in March 2003. The DTI product line of software
defined radios measure and monitor cellular networks. The fourth event was the
sale of the Company's HSP modem product line to Conexant in May of 2003. The
Company sold the product line but retained operating agreements and its modem
patent portfolio for licensing purposes. The fifth event was the
13
acquisition of MAXRAD, Inc. in January 2004. The MAXRAD product line consists of
wireless communications antennas for broadband wireless, in-building wireless
and land mobile radio applications. During our management discussion and
analysis, the Segue, DTI and MAXRAD products are collectively referred to as
wireless products, and the HSP modem and embedded modem products as modem
products.
PCTEL has an intellectual property portfolio consisting of over 145 U.S.
patents and applications, primarily in analog modem technology and also has
proprietary DSP based embedded modem technology. The Company has an active
licensing program designed to monetize its intellectual property. Companies
under license as of March 31, 2004, include Intel, Conexant, Broadcom, Silicon
Laboratories, Texas Instruments, Smartlink and ESS Technologies. The Company has
also asserted its patents and is currently litigating against 3Com, Agere,
Lucent and U.S. Robotics, who are unlicensed and the Company believes are using
PCTEL's intellectual property. The Company collectively refers to revenue from
its licensing program as royalty and licensing revenue, with the exception of
Conexant. The sale of the HSP modem product line to Conexant and the signing of
its licensing agreement occurred simultaneously. Royalty payments received from
Conexant are recorded as an offset to operating expenses as Gain on Sale of HSP
Modem Products and Related Royalties.
The Company is focused on growing revenue from its wireless products and
maximizing the monetary value of its intellectual property. These are two key
priorities for the Company in 2004. Growth in wireless product revenue is
dependent both on gaining further revenue traction in our existing products as
well as further acquisitions to support our wireless initiatives starting in the
third quarter 2003 all of the Company's product revenue has been from its
wireless products. There has not been enough history to evaluate whether there
is significant seasonality in revenue between fiscal quarters for the wireless
product portfolio taken as a whole. Licensing revenue is dependent on signing
new license agreements and the success of our licensees in the marketplace. New
licenses often contain up front payments pertaining to past royalty liability,
or one time payments if the license is perpetual. That can make license revenue
uneven between fiscal years as well as fiscal quarters.
CRITICAL ACCOUNTING POLICIES
The preparation of our consolidated financial statements in accordance with
generally accepted accounting principles require us to make estimates and
judgments that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenue and expenses during the period
reported. By their nature, these estimates and judgments are subject to an
inherent degree of uncertainty. Management bases its estimates and judgments on
historical experience, market trends, and other factors that are believed to be
reasonable under the circumstances. Actual results may differ from these
estimates under different assumptions or conditions. Management believes the
following critical accounting policies reflects the more significant judgments
and estimates used in the preparation of its consolidated financial statements.
Management has discussed the critical accounting policies with the Audit
Committee.
REVENUE RECOGNITION
The Company sells Wi-Fi and cellular mobility software, software designed
radio products, antenna products, and licenses its modem technology through its
licensing program. The Company records the sale of these products, including
related maintenance, and the licensing of its intellectual property as revenue.
The Company accounts for revenue from its Wi-Fi and cellular mobility
software, including related maintenance rights, under SOP 97-2 Software Revenue
Recognition. Where the software license is perpetual and vendor specific
objective evidence can be established between the software license and any
related maintenance rights, the software license revenue is recognized upon
delivery of the software and the maintenance is recorded pro-rata over the life
of the maintenance rights. Where part of the licensing agreement requires
engineering services to customize software for the customer needs, the revenue
for these services are recognized when the initial software license is
delivered. Where the vendor specific objective evidence cannot be established,
and the only undelivered item is maintenance, the software license revenue and
related maintenance rights are combined and recognized pro-rata over the
expected term of the maintenance rights. Where the software is sold on a fixed
term license, the software license and maintenance revenue is recorded pro-rata
over the fixed term.
The Company records revenue for sales of its software defined radio products
when title transfers, persuasive evidence of an arrangement exists, price is
fixed and determinable and collectibility is reasonably assured. The Company
sells these products into both commercial and secure application government
markets. Title for sales into the commercial market generally transfers upon
shipment from the Company's factory. Products that are sold into the secure
application government market are generally designed to a unique specification.
Title generally does not transfer until acceptance for the first units and then
upon shipment thereafter.
14
The Company records revenue for sales of its antenna products when title
transfers, which is generally upon shipment from the Company's factory.
The Company records intellectual property licensing revenue when it has a
licensing agreement, the amount of related royalties is known for the accounting
period reported and collectibility is reasonably certain. Knowledge of the
royalty amount specific to an accounting period is either in the form of a
royalty report specific to a quarter, a contractual fixed payment in the license
agreement specific to a quarter, or the pro-rata amortization of a fixed payment
related to multiple quarters over those quarters using the operating lease
method. Where a license agreement provides for a fixed payment related to
periods prior to the license effective date (the past) and volume-based
royalties going forward, the fixed payment is recognized at the license
effective date and the volume based royalties are recognized as royalty reports
are received. Where the license provides for a fixed payment for the past and
for a finite future period, to be followed by volume based royalties thereafter,
the fixed payment is recorded under the operating lease method and recognized
pro-rata from the effective date through the end of the period covered by the
fixed payment. When a one-time license payment is made for a perpetual license,
with no future obligations on behalf of the Company, revenue is recognized under
the capitalized lease method upon the effective date.
INVENTORY WRITE-DOWNS AND RECOVERIES
Inventories are stated at the lower of cost or market and include material,
labor and overhead costs. Inventories as of March 31, 2004 and December 31, 2003
were composed of raw materials, subassemblies, and finished goods and
work-in-process. We regularly monitor inventory quantities on hand and, based on
our current estimated requirements, it was determined that there was no excess
inventory, not reserved, as of March 31, 2004 and December 31, 2003. Due to
competitive pressures and technological innovation, we may have excess inventory
in the future. Write-downs of inventories would have a negative impact on gross
margin.
ACCRUED ROYALTIES
We record an accrual for estimated future royalty payments for relevant
technology of others used in our product offerings in accordance with SFAS No.
5, "Accounting for Contingencies." The estimated royalties accrual reflects
management's broader litigation and cost containment strategies, which may
include alternatives such as entering into cross-licensing agreements, cash
settlements, or both, based upon our judgment that such negotiated settlements
would allow management to focus more time and financial resources on the ongoing
business. Accordingly, the royalties accrual reflects estimated costs of
settling claims rather than continuing to defend our legal positions and is not
intended to be, nor should it be interpreted as, an admission of infringement of
intellectual property, valuation of damages suffered by any third parties or any
specific terms that management has predetermined to agree to in the event of a
settlement offer. We have accrued the amount of royalties payable for royalty
agreements, agreements that are in negotiation and unasserted but probable
claims of others using advice from third party technology advisors and
historical settlement rates.
As of March 31, 2004 and December 31, 2003 we had accrued royalties of
approximately $3.2 million. However, the amounts accrued may be inadequate and
we may be required to record additional expense if royalty payments are settled
at a higher rate than expected. In addition, settlement arrangements may require
royalties for past sales of the associated products.
STOCK-BASED COMPENSATION
The Company accounts for its stock option plans using Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees", whereby
compensation cost for stock options is measured as the excess, if any, of the
fair market value of a share of the Company's stock at the date of the grant
over the amount that must be paid to acquire the Stock. SFAS No. 123,
"Accounting for Stock-Based Compensation", issued subsequent to APB No. 25 --
and amended by SFAS No. 148, "Accounting for Stock-Based Compensation --
Transition and Disclosure", defines a fair value based method of accounting for
employee stock options, but allows companies to continue to measure compensation
cost for employees using the intrinsic value method of APB No. 25. The Company
does not expense stock options, but expenses restricted stock grants. We record
the issuance of restricted stock grants based on the fair value on the date of
the grant and amortize the value over the life of the restriction using the
straight-line method. As required by SFAS No. 123, we disclose the summary pro
forma effects to reported income as if we had elected to recognize compensation
expense based on the fair value of the stock based awards to our employees. The
calculation of the fair value of these awards is determined using the Black-
Scholes option pricing model. The highly subjective assumptions include the
expected stock price volatility and expected option life.
15
GOODWILL AND IMPAIRMENT OF LONG LIVED ASSETS
Effective January 1, 2002, we adopted the provisions of SFAS No. 142,
"Goodwill and Other Intangibles," under which goodwill is no longer being
amortized. Through a third party valuation firm we assess the need to record
impairment losses on goodwill and long-lived assets used in operations when
indicators of impairment are present such as a significant industry downturn,
significant decline in the market value of the Company or significant reductions
in projected future cash flows. At least annually, we review the value and
period of amortization or depreciation of long-lived assets. During this review,
the significant assumptions used in determining the original cost of long-lived
assets are reevaluated. We then determine whether there has been a permanent
impairment of the value of long-lived assets by comparing future estimated
undiscounted cash flows to the asset's carrying value. If the carrying value of
the asset exceeds the estimated future undiscounted cash flows, a loss is
recorded as the excess of the asset's carrying value over fair value. Long-lived
assets to be disposed of are reported at the lower of carrying amount or fair
value less costs to sell.
INCOME TAXES
We provide for income taxes under the provisions of SFAS No. 109,
"Accounting for Income Taxes." SFAS No. 109 requires an asset and liability
based approach in accounting for income taxes. Deferred income tax assets and
liabilities are recorded based on the differences between the financial
statement and tax bases of assets and liabilities using enacted tax rates.
Valuation allowances are provided against tax assets, which are not likely to be
realized.
We currently have international subsidiaries located in Japan, China and
Israel as well as international branch offices located in Hong Kong, Taiwan and
France. Our branch office in France is presently in the liquidation process. The
complexities brought on by operating in several different tax jurisdictions
inevitably lead to an increased exposure to worldwide taxes. Should review of
our tax filings result in unfavorable adjustments to our tax returns, our
operating results and financial position could be materially and adversely
affected.
As part of the process of preparing our consolidated financial statements,
we are required to estimate our income taxes, which involves estimating our
actual current tax exposure together with assessing temporary differences
resulting from differing treatment of items for tax and accounting purposes.
These differences result in deferred tax assets and liabilities. Significant
management judgment is required to assess the likelihood that our deferred tax
assets will be recovered from future taxable income. We maintain a full
valuation allowance against our deferred tax assets. In the event we were to
determine that we would be able to realize our deferred tax assets in the future
in excess of the net recorded amount, an adjustment to the deferred tax asset
would increase income in the period such determination was made.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MARCH 31, 2004 AND 2003
(All amounts in tables, other than percentages, are in thousands)
Revenues
<Table>
<Caption>
Software Test Antenna Licensing Modems Elimination Consolidated
------------ ------------ ------------ ------------ ------------ ------------ ------------
Revenue, three months ended
March 31, 2004 $ 1,118 $ 2,367 $ 5,112 $ 2,103 $ -- $ (10) $ 10,690
% change from year ago period 816.4% 317.5% 9.9% (18.3)%
Revenue, three months ended
March 31, 2003 $ 122 $ 567 $ 1,913 $ 10,480 $ 13,082
</Table>
Revenue decreased 18.3% in the three months ended March 31, 2004 compared to
the same period in fiscal 2003. The increase in the Software segment is
attributed to it being in early stage development in the first quarter 2003. The
increase
16
in the Test segment is due to the company not acquiring DTI until March 2003,
and owning the operations a full quarter in 2004. The increase in the Antenna
segment is due to the MAXRAD acquisition in January 2004. The increase in the
Licensing segment reflects the addition of the Broadcom license announced in the
fourth quarter of last year, partially offset by reductions in older licensing
contracts. The decrease in the Modem segment is attributed to the sale of the
modem product line to Conexant in May 2003.
Gross Profit
<Table>
<Caption>
Software Test Antenna Licensing Modems Elimination Consolidated
-------- ------- ------- --------- ------ ----------- ------------
Gross Profit, three months ended March 31, 2004 $ 1,085 $ 1,616 $ 2,137 $2,086 $ - $ (3) $ 6,921
Percentage Of Revenue 97.0% 68.3% 41.8% 99.2% 64.7%
% change from year ago period 895.4% 269.8% 9.0% 6.1%
Gross Profit, three months ended March 31, 2003 $ 109 $ 437 $ 1,913 $4,064 $ 6,523
Percentage Of Revenue 89.3% 77.1% 100.0% 38.8% 49.9%
</Table>
Gross profit increased $0.4 million in the three months ended March 31, 2004
compared to the same period in fiscal 2003. The increase in the Software segment
is attributed to the increase in revenue. The increase in the Test segment is
due to the company not acquiring DTI until March 2003, and owning the operations
a full quarter in 2004. The increase in the Antenna segment is due to the MAXRAD
acquisition in January 2004. The increase in the Licensing segment reflects the
increase in revenue. The decrease in the Modem segment is attributed to the sale
of the modem product line to Conexant in May 2003.
Gross profit as a percentage of revenue increased to 64.7% in the three
months ended March 31, 2004 compared to 49.9% for the same period in fiscal
2003. The increase in the Software segment is attributable to the 2003 revenue
including sales of Wi-Fi base stations, since discontinued. The decrease in the
Test segment is due to the mix of OEM component products versus systems level
products was higher. Licensing is comparable in both periods. Management
believes that the long-term gross profit percentage trend for each of its
segments will be similar to the first quarter 2004 results.
Cost of revenues for the Software and Licensing segments includes royalty
payments for third party software. Cost of revenues for the Test, Antenna, and
Modem segments consists primarily of cost of operations and components we
purchase from third party manufacturers. Provision for inventory losses and
recoveries are also included in the determination of gross profit.
Research and Development
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
---------------------- ----------------------
Research and development .......... $ 2,030 $ 2,118
Percentage of revenues ............ 19.0% 16.2%
% change from year ago period ..... (4.2)% (11.6)%
</Table>
Research and development expenses include costs for software and hardware
development, prototyping and pre-production costs. We expense all research and
development costs as incurred. We account for software development costs in
accordance with SFAS No. 86,"Accounting for the Costs of Computer Software to be
Sold, Leased or Otherwise Marketed." Our products include a software component.
To date, we have expensed all software development costs because costs incurred
subsequent to the products reaching technological feasibility were not
significant.
17
Research and development expenses decreased $0.1 million for the three
months ended March 31, 2004 compared to the same period in fiscal 2003. The
decrease is attributable to lower research and development expenses related to
the MAXRAD product line as compared to the research and development expenses
related to our disposed modem product line and a full quarter of expenses from
the DTI product line in the three months ended March 31, 2004 compared to three
weeks in the same period in fiscal 2003.
Research and development expenses as a percentage of revenues, increased
from 16.2% for the three months ended March 31, 2003 to 19.0% for the same
period in fiscal 2004 due to lower revenues in the three months ended March 31,
2004.
Sales and Marketing
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Sales and marketing ............... $ 2,934 $ 2,261
Percentage of revenues ............ 27.4% 17.3%
% change from year ago period ..... 29.8% 38.0%
</Table>
Sales and marketing expenses consist primarily of personnel costs, sales
commissions and marketing costs. Marketing costs include promotional costs,
public relations and trade shows.
Sales and marketing expenses have increased by $0.7 million for the three
months ended March 31, 2004 compared to the same period in fiscal 2003. The
increase is attributable to higher sales and marketing expenses related to the
MAXRAD product line as compared to the sales and marketing expenses related to
our disposed modem product line and a full quarter of expenses from the DTI
product line in the three months ended March 31, 2004 compared to three weeks in
the same period in fiscal 2003.
Sales and marketing expenses as a percentage of revenues, increased from
17.3% for the three months ended March 31, 2003 to 27.4% for the same fiscal
period in 2004.
General and Administrative
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
General and administrative ........ $ 3,176 $ 1,852
Percentage of revenues ............ 29.7% 14.2%
% change from year ago period ..... 71.5% 26.3%
</Table>
General and administrative expenses include costs associated with our
general management and finance functions as well as professional service
charges, such as legal, tax and accounting fees. Other general expenses include
rent, insurance, utilities, travel, and other operating expenses to the extent
not otherwise allocated to other functions.
General and administrative expenses increased $1.3 million for the three
months ended March 31, 2004 compared to the same period in fiscal 2003. The
increase was due to higher general and administrative expenses related to the
MAXRAD product line as compared to the disposed modem product line, a full
quarter of expenses from the DTI product line in the three months ended March
31, 2004 compared to three weeks in the same period in fiscal 2003 and general
and administrative expenses related to compliance with new regulations under the
Sarbanes-Oxley Act of 2002. We currently expect our intellectual property
litigation costs to be approximately $3.5 million on an annual basis. General
and administrative expenses as a percentage of revenues, increased from 14.2%
for the three months ended March 31, 2003 to 29.7% for the same period in fiscal
2004.
Amortization of Other Intangible Assets
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Amortization of other intangible assets ..... $ 711 $ 99
Percentage of revenues ...................... 6.7% 0.8%
</Table>
18
On January 2, 2004, we completed our acquisition of MAXRAD for a total of
$18.2 million in cash, net of cash acquired of $2.4 million. The results of
operations of MAXRAD were included in our financial statements from the date of
acquisition. Since the purchase price exceeds the net tangible assets acquired,
the difference is recorded as excess purchase price and allocated to goodwill
and other intangible assets. The purchase price was allocated to the assets
acquired and liabilities assumed at their estimated fair values on the date of
acquisition as determined by an independent valuation firm. We attributed $5.5
million to net assets acquired, $0.9 million to the covenant not to compete and
$6.0 million to other intangible assets, net, in the accompanying consolidated
balance sheets. The $5.8 million excess of the purchase price over the fair
value of the net tangible and intangible assets was allocated to goodwill. We
will amortize the covenant not to compete over two years and other intangible
assets over an estimated useful life of six to eight years.
In March 2003, we acquired the assets of DTI for a total of $11.0 million in
cash. The results of operations of DTI were included in our financial statements
from the date of acquisition. Since the purchase price exceeds the net tangible
assets acquired, the difference is recorded as excess purchase price and
allocated to in-process research and development, goodwill and other intangible
assets. The purchase price was allocated to the assets acquired and liabilities
assumed at their estimated fair values on the date of acquisition as determined
by an independent valuation firm. We attributed $2.3 million to net assets
acquired, $1.1 million to acquired in-process research and development, $0.2
million to the covenant not to compete and $4.4 million to other intangible
assets, net, in the accompanying consolidated balance sheets. The $3.0 million
excess of the purchase price over the fair value of the net tangible and
intangible assets was allocated to goodwill. We expensed in-process research and
development and amortize the covenant not to compete over two years and other
intangible assets over an estimated useful life of four years.
Effective January 1, 2002, we have adopted the provisions of SFAS No. 142,
"Goodwill and Other Intangibles," under which goodwill is no longer being
amortized and will be tested for impairment at least annually. An independent
valuation firm conducted the annual impairment test, the result of which was
that there was no impairment of goodwill or other intangibles. As a result of
the acquisitions discussed above, amortization of intangible assets increased
from $0.1 million for the three months ended March 31, 2003, to $0.7 million for
the same period in fiscal 2004.
Restructuring Charges
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Restructuring charges ... $ (51) $ 155
Percentage of revenues .. (0.5)% 1.2%
</Table>
Restructuring expenses decreased $0.2 million for the three months ended
March 31, 2004 compared to the same period in fiscal 2003. In May 2003, the
Company completed the sale of certain of its assets to Conexant relating to a
component of PCTEL's HSP modem product line. As a result of the disposition, 29
employees were transferred to Conexant. An additional 26 employees, both foreign
and domestic, were terminated along with the related facilities closures. The
total restructuring aggregated $3.3 million consisting of severance and
employment related costs of $1.7 million and costs related to closure of excess
facilities as a result of the reduction in force of $1.6 million.
As of March 31, 2004, approximately $1.5 million of termination compensation
and related benefits had been paid to terminated employees and approximately
$0.5 million of lease payments and related costs had been paid to the landlord
for the excess facilities. As of March 31, 2004, the remaining accrual balance
of $1.3 million restructuring will be paid monthly through January 2006.
Gain on sale of assets and related royalties
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Gain on sale of assets and related
royalties ............................ $ 500 $ --
Percentage of revenues ............... 4.7% --%
</Table>
In May 2003, PCTEL and Conexant completed an Intellectual Property
Assignment Agreement ("IPA") and Cross-License Agreement concurrently with the
sale of certain of its assets relating to a component of PCTEL's HSP modem
product line. PCTEL provided Conexant with a non-exclusive, worldwide license to
certain of PCTEL's soft modem
19
patents. In consideration for the rights obtained by Conexant from PCTEL under
this agreement, and taking into account the value of patent rights obtained by
PCTEL from Conexant under this agreement, during the period beginning on July 1,
2003 and ending on June 30, 2007, Conexant agreed to pay to PCTEL, on a
quarterly basis, royalties in the amount of ten percent (10%) of the revenue
received during the royalty period, up to a maximum amount of $0.5 million per
quarter with respect to each calendar quarter during the royalty period,
contingent upon sales by Conexant during the period. Any such future payments by
Conexant to PCTEL in connection with the IPA will be recorded as part of the
gain on sale of assets and related royalties in the statement of operations.
The Company received $0.5 million royalty payment during the three months
ended March 31, 2004.
Amortization of Deferred Compensation
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Amortization of deferred compensation ....... $ 310 $ 299
Percentage of revenues ...................... 2.9% 2.3%
% change from year ago period ............... 3.7% 70.9%
</Table>
In connection with the grant of restricted stock to employees in Q1 2004,
2003, 2002 and 2001, we recorded deferred stock compensation of $2.7, $0.8, $3.7
and $1.8 million, respectively, representing the fair value of our common stock
on the date the restricted stock was granted. Such amounts are presented as a
reduction of stockholders' equity and are amortized ratably over the vesting
period of the applicable shares.
In connection with the grant of stock options to employees prior to our
initial public offering in 1999, we recorded deferred stock compensation of $5.4
million representing the difference between the exercise price and deemed fair
value of our common stock on the date these stock options were granted. Such
amount is presented as a reduction of stockholders' equity and is amortized
ratably over the vesting period of the applicable options.
We expect the amortization of deferred stock compensation to be
approximately $0.3 million per quarter through fiscal 2005 and decreasing
thereafter, based on restricted stock grants and stock option grants through
March 31, 2004. The amount of deferred stock compensation expense to be recorded
in future periods could decrease if options for which accrued but unvested
compensation has been recorded are forfeited. If we grant additional restricted
stock, the amortization of deferred compensation will increase.
Other Income, Net
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Other income, net ...... $ 239 $ 495
Percentage of revenues . 2.2% 3.8%
</Table>
Other income, net, consists of interest income, net of interest expense.
Interest income is expected to fluctuate over time. Other income, net, decreased
$0.3 million for the three months ended March 31, 2004 compared to the same
period in fiscal 2003 due to the decline in interest rates to 1.4% from 1.9%.
Provision for Income Taxes
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Provision (Benefit) for income taxes ... $ (982) $ 64
</Table>
For the three months ended March 31, 2004, we recorded a net tax benefit of
$1.0 million as the Company will carryback the federal current period loss to
prior years.
20
LIQUIDITY AND CAPITAL RESOURCES
<Table>
<Caption>
THREE MONTHS THREE MONTHS
ENDED MARCH 31, 2004 ENDED MARCH 31, 2003
------------------------ ------------------------
Net cash provided by (used in) operating activities ....................... $ (3,300) $ 2,746
Net cash provided by (used in) investing activities ....................... (10,211) 4,280
Net cash provided by (used in) financing activities ....................... 3,498 (2,496)
Cash, cash equivalents and short-term investments at the end of period .... 107,152 100,748
Working capital at the end of period ...................................... 101,106 95,832
</Table>
The decrease in net cash provided by operating activities for the three
months ended March 31, 2004 compared to the same period in 2003 was primarily
due to the decreases in income taxes payable, deferred revenue and accrued
liabilities of $1.9, $0.6, $1.0 million, respectively, and an increase in
prepaid expenses of $1.1 million. The increase in net cash used in investing
activities for the three months ended March 31, 2004 compared to the same fiscal
period in 2003 consists primarily of the acquisition of MAXRAD for $17.8
million, net of cash acquired of $2.4 million, and reduced cash provided by the
sales and maturities of short-term investments of $8.0 million compared to $15
million in fiscal 2003. The increase in net cash provided by investing
activities for the three months ended March 31, 2004 compared to the same fiscal
period in 2003 consists of proceeds from the issuance of common stock associated
with stock option exercises and from share purchases through the employee stock
purchase plan of $3.5 million compared to payments for repurchase of common
stock of $3.4 million in fiscal 2003.
In August 2002, the Board of Directors authorized the repurchase of up to
1,000,000 shares of our common stock, which was completed in February 2003. In
February and November 2003, PCTEL extended its stock repurchase program and
announced its intention to repurchase up to 1,000,000 and 500,000 additional
shares, respectively, on the open market from time to time. During the year
ended December 31, 2003, we repurchased 762,800 shares of our outstanding common
stock for approximately $6.2 million. Since the inception of the stock
repurchase program we have repurchased 1,538,600 shares of our outstanding
common stock for approximately $11.5 million. No shares were repurchased during
the current quarter ended March 31, 2004.
In January 2004, we completed the acquisition of MAXRAD. In exchange for
the outstanding capital stock of MAXRAD, we paid $17.8 million, net of cash
acquired of $2.4 million, out of our available working capital. In April 2004,
we made an additional payment of $0.4 million based on the final balance sheet
delivered to us.
As of March 31, 2004, we had $107.4 million in cash and cash equivalents,
restricted cash and short-term investments and working capital of $101.1
million. Accounts receivable, as measured in days sales outstanding, was 49 and
37 days at March 31, 2004 and 2003, respectively.
We believe that our existing sources of liquidity, consisting of cash,
short-term investments and cash from operations, will be sufficient to meet our
working capital needs for the foreseeable future. We will continue to evaluate
opportunities for development of new products and potential acquisitions of
technologies or businesses that could complement our business. We may use
available cash or other sources of funding for such purposes. However, possible
investments in or acquisitions of complementary businesses, products or
technologies, or cash settlements resulting from new litigation, may require us
to use our existing working capital or to seek additional financing.
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The following summarizes our contractual obligations (non-cancelable
operating leases) for office facilities and the 2003 restructuring as of March
31, 2004 and the effect such obligations are expected to have on our liquidity
and cash flows in future periods (in thousands):
<Table>
<Caption>
LESS THAN AFTER
TOTAL 1 YEAR 1-3 YEARS 4-5 YEARS 5 YEARS
------------ ------------ ------------ ------------ ------------
Contractual obligations
Operating leases $ 1,854 $ 562 $ 1,292 $ -- $ --
------------ ------------ ------------ ------------ ------------
2003 Restructuring 1,267 619 648 -- --
------------ ------------ ------------ ------------ ------------
Total obligations $ 3,121 $ 1,181 $ 1,940 $ -- $ --
============ ============ ============ ============ ============
</Table>
21
As of March 31, 2004, we have non-cancelable operating leases for office
facilities of $1.9 million through July 2007, unpaid restructuring (severance
and employment related costs and costs related to closure of excess facilities)
of $1.3 million through January 2006 and no outstanding firm inventory purchase
contract commitments with our major suppliers.
As part of the acquisition of DTI there is an earn-out over two years if
certain milestones are achieved. At PCTEL's option, DTI could be paid in PCTEL
stock or cash. For the year ended December 31, 2003, DTI earned $1.5 million
cash payout that was paid on May 4, 2004. The Company is estimating the 2004 DTI
earn-out to be $1.5 to $2.2 million.
FACTORS AFFECTING OPERATING RESULTS
This quarterly report on Form 10-Q contains forward-looking statements which
involve risks and uncertainties. Our actual results could differ materially from
those anticipated by such forward-looking statements as a result of certain
factors including those set forth below.
RISKS RELATED TO OUR BUSINESS
COMPETITION WITHIN THE WIRELESS CONNECTIVITY PRODUCTS INDUSTRIES IS INTENSE AND
IS EXPECTED TO INCREASE SIGNIFICANTLY. OUR FAILURE TO COMPETE SUCCESSFULLY COULD
MATERIALLY HARM OUR PROSPECTS AND FINANCIAL RESULTS.
The wireless products connectivity markets are intensely competitive. We may
not be able to compete successfully against current or potential competitors. We
expect competition to increase in the future as current competitors enhance
their product offerings, new suppliers enter the wireless connectivity products
markets, new communication technologies are introduced and additional networks
are deployed. Our client software competes with software developed internally by
Network Interface Card (NIC) vendors, service providers for 802.11 networks, and
with software developed by large systems integrators. Increased competition
could materially and adversely affect our business and operating results through
pricing pressures, the loss of market share and other factors.
Many of our present and potential competitors have substantially greater
financial, marketing, technical and other resources with which to pursue
engineering, manufacturing, marketing, and distribution of their products. These
competitors may succeed in establishing technology standards or strategic
alliances in the connectivity products markets, obtain more rapid market
acceptance for their products, or otherwise gain a competitive advantage. We can
offer no assurance that we will succeed in developing products or technologies
that are more effective than those developed by our competitors. We can offer no
assurance that we will be able to compete successfully against existing and new
competitors as the connectivity wireless markets evolve and the level of
competition increases.
OUR ABILITY TO GROW OUR BUSINESS MAY BE THREATENED IF THE DEMAND FOR WIRELESS
DATA SERVICES IN GENERAL AND WI-FI PRODUCTS IN PARTICULAR DOES NOT CONTINUE TO
GROW.
Our ability to compete successfully in the wireless market is dependent on
the continued trend toward wireless telecommunications and data communications
services. If the rate of growth slows and service providers reduce their capital
investments in wireless infrastructure or fail to expand into new geographic
markets, our revenue may decline. Wireless data solutions are relatively
unproven in the marketplace and some of the wireless technologies have only been
commercially introduced in the last few years. We began offering wireless
products in the second quarter of fiscal 2002. If wireless data access
technology turns out to be unsuitable for widespread commercial deployment, we
may not be able to generate enough sales to achieve and grow our business. We
have listed below some of the factors that we believe are key to the success or
failure of wireless access technology:
o reliability and security of wireless access technology and the
perception by end-users of its reliability and security,
o capacity to handle growing demands for faster transmission of
increasing amounts of data, voice and video,
o the availability of sufficient frequencies for network service
providers to deploy products at commercially reasonable rates,
22
o cost-effectiveness and performance compared to wire line or other high
speed access solutions, whose prices and performance continue to
improve,
o suitability for a sufficient number of geographic regions, and
o availability of sufficient site locations for wireless access.
The factors listed above influence our customers' purchase decisions when
selecting wireless versus other high-speed data access technology. Future
legislation, legal decisions and regulation relating to the wireless
telecommunications industry may slow or delay the deployment of wireless
networks.
Wireless access solutions, including Wi-Fi, compete with other high-speed
access solutions such as digital subscriber lines, cable modem technology, fiber
optic cable and other high-speed wire line and satellite technologies. If the
market for our wireless solutions fails to develop or develops more slowly than
we expect due to this competition, our sales opportunities will be harmed. Many
of these alternative technologies can take advantage of existing installed
infrastructure and are generally perceived to be reliable and secure. As a
result, they have already achieved significantly greater market acceptance and
penetration than wireless data access technologies. Moreover, current wireless
data access technologies have inherent technical limitations that may inhibit
their widespread adoption in many areas.
We expect wireless data access technologies to face increasing competitive
pressures from both current and future alternative technologies. In light of
these factors, many service providers may be reluctant to invest heavily in
wireless data access solutions, including Wi-Fi. If service providers do not
continue to establish Wi-Fi "hot spots," we may not be able to generate sales
for our Wi-Fi products and our revenue may decline.
OUR WIRELESS OPERATION IS DEPENDENT UPON THE CONTINUED GROWTH OF EVOLVING
TELECOMMUNICATIONS AND INTERNET INDUSTRIES.
Our future success is dependent upon the continued growth of the data
communications and wireless industries, particularly with regard to Internet
usage. The global data communications and Internet industries are relatively new
and evolving rapidly and it is difficult to predict potential growth rates or
future trends in technology development for this industry. The deregulation,
privatization and economic globalization of the worldwide telecommunications
market that have resulted in increased competition and escalating demand for new
technologies and services may not continue in a manner favorable to us or our
business strategies. In addition, the growth in demand for wireless and Internet
services, and the resulting need for high speed or enhanced data communications
products and wireless systems, may not continue at its current rate or at all.
OUR FUTURE SUCCESS DEPENDS ON OUR ABILITY TO DEVELOP AND SUCCESSFULLY INTRODUCE
NEW AND ENHANCED PRODUCTS FOR THE WIRELESS MARKET, WHICH MEET THE NEEDS OF
CUSTOMERS.
Our revenue depends on our ability to anticipate our existing and
prospective customers' needs and develop products that address those needs. Our
future success will depend on our ability to introduce new products for the
wireless market, anticipate improvements and enhancements in wireless technology
and wireless standards, and to develop products that are competitive in the
rapidly changing wireless industry. Introduction of new products and product
enhancements will require coordination of our efforts with those of our
customers, suppliers, and manufacturers to rapidly achieve volume production. If
we fail to coordinate these efforts, develop product enhancements or introduce
new products that meet the needs of our customers as scheduled, our operating
results will be materially and adversely affected and our business and prospects
will be harmed. We cannot assure you that product introductions will meet the
anticipated release schedules or that our wireless products will be competitive
in the market. Furthermore, given the emerging nature of the wireless market,
there can be no assurance our products and technology will not be rendered
obsolete by alternative or competing technologies.
WE MAY EXPERIENCE INTEGRATION OR OTHER PROBLEMS WITH POTENTIAL ACQUISITIONS,
WHICH COULD HAVE AN ADVERSE EFFECT ON OUR BUSINESS OR RESULTS OF OPERATIONS. NEW
ACQUISITIONS COULD DILUTE THE INTERESTS OF EXISTING STOCKHOLDERS, AND THE
ANNOUNCEMENT OF NEW ACQUISITIONS COULD RESULT IN A DECLINE IN THE PRICE OF OUR
COMMON STOCK.
23
We may in the future make acquisitions of, or large investments in,
businesses that offer products, services, and technologies that we believe would
complement our products or services, including wireless products and technology.
We may also make acquisitions of, or investments in, businesses that we believe
could expand our distribution channels. Even if we were to announce an
acquisition, we may not be able to complete it. Additionally, any future
acquisition or substantial investment would present numerous risks, including:
o difficulty in integrating the technology, operations or work force of
the acquired business with our existing business,
o disruption of our on-going business,
o difficulty in realizing the potential financial or strategic benefits of
the transaction,
o difficulty in maintaining uniform standards, controls, procedures and
policies,
o possible impairment of relationships with employees and customers as a
result of integration of new businesses and management personnel, and
o impairment of assets related to resulting goodwill, and reductions in
our future operating results from amortization of intangible assets.
We expect that future acquisitions could provide for consideration to be
paid in cash, shares of our common stock, or a combination of cash and our
common stock. If consideration for a transaction is paid in common stock, this
would further dilute our existing stockholders.
WE MAY NEVER ACHIEVE THE ANTICIPATED BENEFITS FROM OUR RECENT ACQUISITIONS OF
DYNAMIC TELECOMMUNICATIONS, INC. AND MAXRAD, INC.
We acquired Dynamic Telecommunications, Inc. in March 2003 and MAXRAD, Inc.
in January of 2004 as part of our continuing efforts to expand our wireless line
and product offerings. We may experience difficulties in achieving the
anticipated benefits of these acquisitions. Dynamic Telecommunication's product
line utilizes software-defined radio technology to optimize and plan wireless
networks and MAXRAD's business is the design and manufacture of antenna products
and accessories used in wireless systems. These acquisitions represent a
significant expansion of and new direction for our wireless connectivity
business. Potential risks with these acquisitions include:
o successfully developing and marketing security-related applications for
the software-defined radio technology of Dynamic Telecommunications,
o the loss or decrease in orders of one or more of the major customers of
MAXRAD or Dynamic Telecommunications,
o reduction or delay of capital expenditures by wireless operators for
network deployments (extensions of existing wireless networks and
network technologies as well as 3G and 4G technologies),
o decrease in demand for wireless devices that use MAXRAD or Dynamic
Telecommunications products,
o failure to develop effective distribution capability for products
purchased by the government,
o problems related to the operation of MAXRAD's assembly facilities in
China,
o difficulties in assimilation of acquired personnel, operations,
technologies or products, and
o migration of network test and measurement functions into wireless
infrastructure as a standard part of product offerings.
Furthermore, under the asset purchase agreement with Dynamic
Telecommunications, PCTEL has an earn-out obligation to pay additional
consideration to Dynamic Telecommunications if the DTI product line meets
specified earnings targets. Any such earn-out payments may be paid, at our
option, in cash or a combination of cash and our common stock. If the earn-out
payments are paid in common stock, this would dilute our existing stockholders.
24
OUR GROSS MARGINS MAY VARY BASED ON THE MIX OF SALES OF OUR PRODUCTS AND
LICENSES OF OUR INTELLECTUAL PROPERTY, AND THESE VARIATIONS MAY CAUSE OUR NET
INCOME TO DECLINE.
We expect gross margins on newly introduced products generally to be higher
than our existing products. However, due in part to the competitive pricing
pressures that affect our products and in part to increasing component and
manufacturing costs, we expect gross margins from both existing and future
products to decrease over time. In addition, licensing revenues from our
intellectual property historically have provided higher margins than our product
sales. Changes in the mix of products sold and the percentage of our sales in
any quarter attributable to products as compared to licensing revenues could
cause our quarterly results to vary and could result in a decrease in gross
margins and net income.
ANY DELAYS IN OUR NORMALLY LENGTHY SALES CYCLES COULD RESULT IN CUSTOMERS
CANCELING PURCHASES OF OUR PRODUCTS.
Sales cycles for our products with major customers are lengthy, often
lasting nine months or longer. In addition, it can take an additional nine
months or more before a customer commences volume production of equipment that
incorporates our products. Sales cycles with our major customers are lengthy for
a number of reasons, including:
o our original equipment manufacturer customers and carriers usually
complete a lengthy technical evaluation of our products, over which we
have no control, before placing a purchase order,
o the commercial introduction of our products by an original equipment
manufacturer and carriers is typically limited during the initial
release to evaluate product performance, and
o the development and commercial introduction of products incorporating
new technologies frequently are delayed.
A significant portion of our operating expenses is relatively fixed and is
based in large part on our forecasts of volume and timing of orders. The lengthy
sales cycles make forecasting the volume and timing of product orders difficult.
In addition, the delays inherent in lengthy sales cycles raise additional risks
of customer decisions to cancel or change product phases. If customer
cancellations or product changes were to occur, this could result in the loss of
anticipated sales without sufficient time for us to reduce our operating
expenses.
OUR REVENUES MAY FLUCTUATE EACH QUARTER DUE TO BOTH DOMESTIC AND INTERNATIONAL
SEASONAL TRENDS.
The connectivity products market is too new for us to be able to predict
seasonal revenue patterns. We do anticipate seasonal demand for the Segue(TM)
SoftAP product as volumes tend to ramp up to support year end customer sales.
Such patterns are also true for wireless test and measurements products, such as
DTI's, where capital spending is involved.
We are currently expanding our sales in international markets, particularly
in Europe and Asia. To the extent that our revenues in Europe and Asia or other
parts of the world increase in future periods, we expect our period-to-period
revenues to reflect seasonal buying patterns in these markets.
WE REQUIRE TECHNICAL COOPERATION WITH 802.11 CHIPSET MANUFACTURERS IN ORDER TO
REALIZE OUR SOFT ACCESS POINT PRODUCT. FAILURE TO SUCCESSFULLY SECURE THIS
COOPERATION WOULD IMPAIR OUR REVENUE FROM THIS PRODUCT.
We rely on our ability to forge relationships with 802.11 chipset
manufacturers, in order to ensure that our Segue(TM) SoftAP software is
compatible with their chipsets. This relationship requires that source code be
given to PCTEL or that 802.11 chipset manufacturers undertake development
activities to enable our SoftAP capability. There are many risks associated with
this:
o Chipset manufacturers general unwillingness to partner with PCTEL,
o Chipset manufacturers internally developing their own SoftAP
capabilities,
o Chipset manufacturers not seeing the value provided by SoftAP, and
25
o Chipset manufacturers viewing SoftAP as a threat to the hardware AP side
of the business.
WE GENERALLY RELY ON INDEPENDENT COMPANIES TO MANUFACTURE, ASSEMBLE AND TEST OUR
PRODUCTS. IF THESE COMPANIES DO NOT MEET THEIR COMMITMENTS TO US, OUR ABILITY TO
SELL PRODUCTS TO OUR CUSTOMERS WOULD BE IMPAIRED.
We have limited manufacturing capability. For some product lines we
outsource the manufacturing, assembly, and testing of printed circuit board
subsystems. For other product lines, we purchase completed hardware platforms
and add our proprietary software. While there is no unique capability with these
suppliers, any failure by these suppliers to meet delivery commitments would
cause us to delay shipments and potentially be unable to accept new orders for
product.
In addition, in the event that these suppliers discontinued the manufacture
of materials used in our products, we would be forced to incur the time and
expense of finding a new supplier or to modify our products in such a way that
such materials were not necessary. Either of these alternatives could result in
increased manufacturing costs and increased prices of our products.
We assemble our MAXRAD products in our MAXRAD facilities located in Illinois
and China. We may experience delays, disruptions, capacity constraints or
quality control problems at our assembly facilities, which could result in lower
yields or delays of product shipments to our customers. In addition, we are
having an increasing number of our MAXRAD products manufactured in China via
contract manufacturers. Any disruption of our own or contract manufacturers'
operations could cause us to delay product shipments, which would negatively
impact our sales, competitive reputation and position. In addition, if we do not
accurately forecast demand for our products, we will have excess or insufficient
parts to build our product, either of which could seriously affect our operating
results.
IN ORDER FOR US TO OPERATE AT A PROFITABLE LEVEL AND CONTINUE TO INTRODUCE AND
DEVELOP NEW PRODUCTS FOR EMERGING MARKETS, WE MUST ATTRACT AND RETAIN OUR
EXECUTIVE OFFICERS AND QUALIFIED TECHNICAL, SALES, SUPPORT AND OTHER
ADMINISTRATIVE PERSONNEL.
Our performance is substantially dependent on the performance of our current
executive officers and certain key engineering, sales, marketing, financial,
technical and customer support personnel. If we lose the services of our
executives or key employees, replacements could be difficult to recruit and, as
a result, we may not be able to grow our business.
Competition for personnel, especially qualified engineering personnel, is
intense. We are particularly dependent on our ability to identify, attract,
motivate and retain qualified engineers with the requisite education, background
and industry experience. As of March 31, 2004, we employed a total of 48 people
in our engineering department. If we lose the services of one or more of our key
engineering personnel, our ability to continue to develop products and
technologies responsive to our markets may be impaired.
FAILURE TO MANAGE OUR TECHNOLOGICAL AND PRODUCT GROWTH COULD STRAIN OUR
MANAGEMENT, FINANCIAL AND ADMINISTRATIVE RESOURCES.
Our ability to successfully sell our products and implement our business
plan in rapidly evolving markets requires an effective management planning
process. Future product expansion efforts could be expensive and put a strain on
our management by significantly increasing the scope of their responsibilities
and by increasing the demands on their management abilities. To effectively
manage our growth in these new technologies, we must enhance our marketing,
sales, research and development areas.
WE MAY BE SUBJECT TO LITIGATION REGARDING INTELLECTUAL PROPERTY ASSOCIATED WITH
OUR WIRELESS BUSINESS AND THIS COULD BE COSTLY TO DEFEND AND COULD PREVENT US
FROM USING OR SELLING THE CHALLENGED TECHNOLOGY.
In recent years, there has been significant litigation in the United States
involving intellectual property rights. We have from time to time in the
past-received correspondence from third parties alleging that we infringe the
third party's intellectual property rights. We expect potential claims to
increase in the future, including with respect to our wireless business.
Intellectual property claims against us, and any resulting lawsuit, may result
in our incurring significant expenses and could subject us to significant
liability for damages and invalidate what we currently believe are our
proprietary rights. These lawsuits, regardless of their merits or success, would
likely be time-consuming and expensive to
26
resolve and could divert management's time and attention. This could have a
material and adverse effect on our business, results of operation, financial
condition and prospects. Any potential intellectual property litigation against
us related to our wireless business could also force us to do one or more of the
following:
o cease selling, incorporating or using technology, products or services
that incorporate the infringed intellectual property,
o obtain from the holder of the infringed intellectual property a license
to sell or use the relevant technology, which license may not be
available on acceptable terms, if at all, or
o redesign those products or services that incorporate the disputed
intellectual property, which could result in substantial unanticipated
development expenses.
If we are subject to a successful claim of infringement related to our
wireless intellectual property and we fail to develop non-infringing
intellectual property or license the infringed intellectual property on
acceptable terms and on a timely basis, operating results could decline and our
ability to grow and sustain our wireless business could be materially and
adversely affected. As a result, our business, financial condition, results of
operation and prospects could be impaired.
We may in the future initiate claims or litigation against third parties for
infringement of our intellectual property rights or to determine the scope and
validity of our proprietary rights or the proprietary rights of our competitors.
These claims could also result in significant expense and the diversion of
technical and management personnel's attention.
UNDETECTED SOFTWARE ERRORS OR FAILURES FOUND IN NEW PRODUCTS MAY RESULT IN A
LOSS OF CUSTOMERS OR A DELAY IN MARKET ACCEPTANCE OF OUR PRODUCTS.
Our products may contain undetected software errors or failures when first
introduced or as new versions are released. To date, we have not been made aware
of any significant software errors or failures in our products. However, despite
testing by us and by current and potential customers, errors may be found in new
products after commencement of commercial shipments, resulting in loss of
customers or delay in market acceptance.
OUR FINANCIAL POSITION AND RESULTS OF OPERATIONS MAY BE ADVERSELY AFFECTED IF
TAX AUTHORITIES CHALLENGE US AND THE TAX CHALLENGES RESULT IN UNFAVORABLE
OUTCOMES.
We currently have international subsidiaries located in Japan, China and
Israel as well as international branch offices located in Taiwan and France. Our
branch office in France is presently in the liquidation process. The
complexities resulting from operating in several different tax jurisdictions
increases our exposure to worldwide tax challenges.
RISKS RELATED TO OUR INDUSTRY
IF THE WIRELESS MARKET DOES NOT GROW AS WE ANTICIPATE, OR IF OUR WIRELESS
PRODUCTS ARE NOT ACCEPTED IN THESE MARKETS, OUR REVENUES MAY BE ADVERSELY
AFFECTED.
Our future success depends on market demand and growth patterns for products
using wireless technology. Our wireless products may not be successful as a
result of the intense competition in the wireless market, or our relative
inexperience in developing, marketing, selling and supporting these products.
If these new wireless products are not accepted in the markets as they are
introduced, our revenues and profitability will be negatively affected.
OUR INDUSTRY IS CHARACTERIZED BY RAPIDLY CHANGING TECHNOLOGIES. IF WE ARE NOT
SUCCESSFUL IN RESPONSE TO RAPIDLY CHANGING TECHNOLOGIES, OUR PRODUCTS MAY BECOME
OBSOLETE AND WE MAY NOT BE ABLE TO COMPETE EFFECTIVELY.
The wireless data access business is characterized by rapidly changing
technologies, short product life cycles and frequent new product introductions.
To remain competitive, we have successfully introduced several new products.
27
Both the cellular (2.5G and 3G) and Wi-Fi (802.11) spaces are rapidly
changing and prone to standardization. We will continue to evaluate, develop and
introduce technologically advanced products that will position us for possible
growth in the wireless data access market. If we are not successful in response
to rapidly changing technologies, our products may become obsolete and we may
not be able to compete effectively.
CHANGES IN LAWS OR REGULATIONS, IN PARTICULAR, FUTURE FCC REGULATIONS AFFECTING
THE BROADBAND MARKET, INTERNET SERVICE PROVIDERS, OR THE COMMUNICATIONS
INDUSTRY, COULD NEGATIVELY AFFECT OUR ABILITY TO DEVELOP NEW TECHNOLOGIES OR
SELL NEW PRODUCTS AND THEREFORE, REDUCE OUR PROFITABILITY.
The jurisdiction of the Federal Communications Commission, or FCC, extends
to the entire communications industry, including our customers and their
products and services that incorporate our products. Future FCC regulations
affecting the broadband access services industry, our customers or our products
may harm our business. For example, future FCC regulatory policies that affect
the availability of data and Internet services may impede our customers'
penetration into their markets or affect the prices that they are able to
charge. In addition, FCC regulatory policies that affect the specifications of
wireless data devices may impede certain of our customers' ability to
manufacture their products profitably, which could, in turn, reduce demand for
our products. Furthermore, international regulatory bodies are beginning to
adopt standards for the communications industry. Although our business has not
been hurt by any regulations to date, in the future, delays caused by our
compliance with regulatory requirements may result in order cancellations or
postponements of product purchases by our customers, which would reduce our
profitability.
RISKS RELATED TO OUR LICENSING PROGRAM
OUR ABILITY TO SUSTAIN OR GROW OUR REVENUE FROM THE LICENSING OF OUR
INTELLECTUAL PROPERTY IS SUBJECT TO MANY RISKS, AND ANY INABILITY TO
SUCCESSFULLY LICENSE OUR INTELLECTUAL PROPERTY COULD MATERIALLY AND ADVERSELY
AFFECT OUR BUSINESS, FINANCIAL CONDITION AND OPERATING RESULTS.
We may not be able to sustain or grow our revenue from the licensing of our
intellectual property. In addition to our wireless product lines, we offer our
intellectual property through licensing and product royalty arrangements. We
have over 145 U.S. patents granted or pending addressing both essential
International Telecommunications Union and non-essential technologies. In
connection with our intellectual property licensing efforts, we have filed
several patent infringement lawsuits and are aggressively pursuing unlicensed
companies to license their unauthorized use of our intellectual property. We
have pending patent infringement litigation claims with 3Com, U.S. Robotics,
Agere and Lucent. We expect litigation to continue to be necessary to enforce
our intellectual property rights and to determine the validity and scope of the
proprietary rights of others. Because of the high degree of complexity of the
intellectual property at issue, the inherent uncertainties of litigation in
general and the preliminary nature of these litigation matters, we cannot assure
you that we will ultimately prevail or receive the judgments that we seek. We
may not be able to obtain licensing agreements from these companies on terms
favorable to us, if at all. In addition, we may be required to pay substantial
monetary damages as a result of claims these companies have brought against us
which could materially and adversely affect our business, financial condition
and operating results.
LITIGATION EFFORTS RELATED TO OUR LICENSING PROGRAM ARE EXPECTED TO BE COSTLY
AND MAY NOT ACHIEVE OUR OBJECTIVES.
Litigation such as our suits with 3Com, U.S. Robotics, Agere and Lucent can
take years to resolve and can be expensive to pursue or defend. We currently
expect our intellectual property litigation costs to be approximately $3.5
million on an annual basis. In addition, the allegations and claims involved in
these lawsuits, even if ultimately resolved in our favor, could be time
consuming to litigate and divert management attention. We may not ultimately
prevail in these matters or receive the judgments that we seek. We could also
face substantial monetary damages as a result of claims others bring against us.
In addition, courts' decisions on current pending and future motions could have
the effect of determining the ultimate outcome of the litigation prior to a
trial on the merits, or strengthen or weaken our ability to assert claims and
defenses in the future. Accordingly, an adverse judgment could seriously harm
our business, financial position and operating results and cause our stock price
to decline substantially.
WE EXPECT TO CONTINUE TO BE SUBJECT TO LITIGATION REGARDING INTELLECTUAL
PROPERTY CLAIMS RELATED TO OUR LICENSING PROGRAM WHICH COULD IMPAIR OUR ABILITY
TO GROW OR SUSTAIN REVENUES FROM OUR LICENSING EFFORTS.
28
As we continue to aggressively pursue licensing arrangements with companies
that are using our intellectual property without our authorization, we expect to
continue to be subject to lawsuits that challenge the validity of our
intellectual property or that allege that we have infringed third party
intellectual property rights. Any of these claims could results in substantial
damages against us and could impair our ability to grow and sustain our
licensing business. This could materially and adversely affect our business,
financial condition, operating results and prospects. As a result, at least in
part, of our licensing efforts to date, we are currently subject to claims from
3Com, Agere and Lucent regarding patent infringement matters of the nature
described above. We have also been subject to claims from others in the past
regarding similar matters. In addition, in recent years, there has been
significant litigation in the United States involving intellectual property
rights. We expect these claims to increase as our intellectual property
portfolio becomes larger. Intellectual property claims against us, and any
resulting lawsuit, may result in our incurring significant expenses and could
subject us to significant liability for damages and invalidate what we currently
believe are our proprietary rights. These lawsuits, regardless of their merits
or success, would likely be time-consuming and expensive to resolve and could
divert management's time and attention.
OUR ABILITY TO ENFORCE OUR INTELLECTUAL PROPERTY RIGHTS MAY BE LIMITED, AND ANY
LIMITATION COULD ADVERSELY AFFECT OUR ABILITY TO SUSTAIN OR INCREASE REVENUE
FROM OUR LICENSING PROGRAM.
Our ability to sustain and grow revenue from the licensing of our
intellectual property is dependent on our ability to enforce our intellectual
property rights. Our ability to enforce these rights is subject to many
challenges and may be limited. For example, one or more of our pending patents
may never be issued. In addition, our patents, both issued and pending, may not
prove enforceable in actions against alleged infringers. 3Com, U.S. Robotics,
Agere and Lucent have currently pending claims seeking to invalidate one or more
of our patents. If a court were to invalidate one or more of our patents, this
could materially and adversely affect our licensing program. Furthermore, some
foreign laws, including those of various countries in Asia, do not protect our
proprietary rights to the same extent as United States laws.
WE HAVE ACCRUED FOR NEGOTIATED LICENSE FEES AND ESTIMATED ROYALTY SETTLEMENTS
RELATED TO EXISTING AND PROBABLE CLAIMS OF PATENT INFRINGEMENT. IF THE ACTUAL
SETTLEMENTS EXCEED THE AMOUNTS ACCRUED, ADDITIONAL LOSSES COULD BE SIGNIFICANT,
WHICH WOULD ADVERSELY AFFECT FUTURE OPERATING RESULTS.
We recorded an accrual for estimated future royalty payments for relevant
technology of others used in our product offerings in accordance with SFAS No.
5, "Accounting for Contingencies." The estimated royalties accrual reflects
management's broader litigation and cost containment strategies, which may
include alternatives such as entering into cross-licensing agreements, cash
settlements and/or ongoing royalties based upon our judgment that such
negotiated settlements would allow management to focus more time and financial
resources on the ongoing business. Accordingly, the royalties accrual reflects
estimated costs of settling claims rather than continuing to defend our legal
positions, and is not intended to be, nor should it be interpreted as, an
admission of infringement of intellectual property, valuation of damages
suffered by any third parties or any specific terms that management has
predetermined to agree to in the event of a settlement offer. We have accrued
our best estimate of the amount of royalties payable for royalty agreements
already signed as well as unasserted, but probable, claims of others using
advice from third party technology advisors and historical settlements. Should
the final license agreements result in royalty rates significantly higher than
our current estimates, our business, operating results and financial condition
would be adversely affected.
RISKS RELATED TO OUR COMMON STOCK
THE TRADING PRICE OF OUR STOCK PRICE MAY BE VOLATILE BASED ON A NUMBER OF
FACTORS, SOME OF WHICH ARE NOT IN OUR CONTROL.
The trading price of our common stock has been highly volatile. The common
stock price has fluctuated from a low of $8.15 to a high of $14.22 over the last
twelve months. Our stock price could be subject to wide fluctuations in response
to a variety of factors, many of which are out of our control, including:
o actual or anticipated variations in quarterly operating results,
o outcome of ongoing intellectual property related litigations,
o announcements of technological innovations,
29
o new products or services offered by us or our competitors,
o changes in financial estimates by securities analysts,
o conditions or trends in our industry,
o our announcement of significant acquisitions, strategic partnerships,
joint ventures or capital commitments,
o additions or departures of key personnel,
o mergers and acquisitions, and
o sales of common stock by our stockholders or us.
In addition, the NASDAQ National Market, where many publicly held
telecommunications companies, including PCTEL, are traded, often experiences
extreme price and volume fluctuations. These fluctuations often have been
unrelated or disproportionate to the operating performance of these companies.
In the past, following periods of volatility in the market price of an
individual Company's securities, securities class action litigation often has
been instituted against that Company. This type of litigation, if instituted,
could result in substantial costs and a diversion of management's attention and
resources.
PROVISIONS IN OUR CHARTER DOCUMENTS MAY INHIBIT A CHANGE OF CONTROL OR A CHANGE
OF MANAGEMENT WHICH MAY CAUSE THE MARKET PRICE FOR OUR COMMON STOCK TO FALL AND
MAY INHIBIT A TAKEOVER OR CHANGE IN OUR CONTROL THAT A STOCKHOLDER MAY CONSIDER
FAVORABLE.
Provisions in our charter documents could discourage potential acquisition
proposals and could delay or prevent a change in control transaction that our
stockholders may favor. These provisions could have the effect of discouraging
others from making tender offers for our shares, and as a result, these
provisions may prevent the market price of our common stock from reflecting the
effects of actual or rumored takeover attempts and may prevent stockholders from
reselling their shares at or above the price at which they purchased their
shares. These provisions may also prevent changes in our management that our
stockholders may favor. Our charter documents do not permit stockholders to act
by written consent, do not permit stockholders to call a stockholders meeting,
and provide for a classified board of directors, which means stockholders can
only elect, or remove, a limited number of our directors in any given year.
Our board of directors has the authority to issue up to 5,000,000 shares of
preferred stock in one or more series. The board of directors can fix the price,
rights, preferences, privileges and restrictions of this preferred stock without
any further vote or action by our stockholders. The rights of the holders of our
common stock will be affected by, and may be adversely affected by, the rights
of the holders of any preferred stock that may be issued in the future. Further,
the issuance of shares of preferred stock may delay or prevent a change in
control transaction without further action by our stockholders. As a result, the
market price of our common stock may drop.
30
PCTEL, INC.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risks. We manage the sensitivity of our results of
operations to credit risks and interest rate risk by maintaining a conservative
investment portfolio, which is comprised solely of, highly rated, short-term
investments. We have investments in both fixed rate and floating rate interest
earning instruments. Fixed rate securities may have their fair market value
adversely impacted based on the duration of such investments if interest rates
rise, while floating rate securities and the reinvestment of funds from matured
fixed rate securities may produce less income than expected if interest rates
fall. Due in part to these factors, our future investment income may fall short
of expectations. The primary objective of our investment activities is to
preserve principal while at the same time maximizing yields without
significantly increasing risk. To achieve this objective, we maintain our
portfolio of cash equivalents, short-term and long-term investments in a variety
of securities, including both government and corporate obligations with ratings
of A or better, and money market funds. We have accumulated a $11,000 and
$26,000 unrealized holding gain as of March 31, 2004 and December 31, 2003,
respectively. A hypothetical decrease of 10% in market interest rates would not
result in a material decrease in interest income earned through maturity on
investments held at March 31, 2004.
We do not hold or issue derivative, derivative commodity instruments or
other financial instruments for trading purposes. We are exposed to currency
fluctuations, as we sell our products internationally. We manage the sensitivity
of our international sales by denominating all transactions in U.S. dollars. If
the United States dollar uniformly increased or decreased in strength by 10%
relative to the currencies in which our sales were denominated, our net loss
would not have changed by a material amount for the three months ended March 31,
2004. For purposes of this calculation, we have assumed that the exchange rates
would change in the same direction relative to the United States dollar. Our
exposure to foreign exchange rate fluctuations, however, arises in part from
translation of the financial statements of foreign subsidiaries into U.S.
dollars in consolidation. As exchange rates vary, these results, when
translated, may vary from expectations and adversely impact overall expected
profitability. The effect of foreign exchange rate fluctuation gains for the
three months ended March 31, 2004 and year ended December 31, 2003 was $67,000
and $65,000, respectively.
31
PCTEL, INC.
ITEM 4: CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures.
Our management carried out an evaluation, with the participation of our
Chief Executive Officer and our Chief Financial Officer, of the effectiveness of
our disclosure controls and procedures. Based upon that evaluation, our Chief
Executive Officer and our Chief Financial Officer concluded that as of the end
of the period covered by this Quarterly Report on Form 10-Q our disclosure
controls and procedures, as such term is defined under Rules 13a-15(e) and
15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), are effective to ensure that information required to be
disclosed by us in the reports that we file or submit under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in the Securities and Exchange Commission rules and forms.
(b) Changes in internal controls.
There was no change in our internal controls over financial reporting that
occurred during the period covered by this Quarterly Report on Form 10-Q that
has materially affected, or is reasonably likely to materially affect, our
internal control over financial reporting, or in other factors that could
significantly affect these controls subsequent to the date of their last
evaluation.
32
PCTEL, INC.
PART II. OTHER INFORMATION FOR THE THREE MONTHS ENDED MARCH 31, 2004
ITEM 1 LEGAL PROCEEDINGS
Ronald H. Fraser v. PC-Tel, Inc., Wells Fargo Shareowner Services, Wells Fargo
Bank Minnesota, N.A.
On March 19, 2002, plaintiff Ronald H. Fraser ("Fraser") filed a Verified
Complaint (the "Complaint") in Santa Clara County (California) Superior Court
for breach of contract and declaratory relief against the Company, and for
breach of contract, conversion, negligence and declaratory relief against the
Company's transfer agent, Wells Fargo Bank Minnesota, N.A ("Wells Fargo"). The
Complaint seeks compensatory damages allegedly suffered by Fraser as a result of
the sale of certain stock by Fraser during a secondary offering on April 14,
2000. Wells Fargo filed a Verified Answer to the Complaint on June 12, 2002. On
July 10, 2002, the Company filed a Verified Answer to the Complaint, denying
Fraser's claims and asserting numerous affirmative defenses. Wells Fargo and the
Company have each filed Cross-complaints against the other for indemnity. On
November 18, 2002, the parties conducted mediation but were unable to reach a
settlement.
Trial of this matter had been set for January 12, 2004, however, the trial
date was vacated in light of the amended complaint filed by Fraser following his
motion for leave to amend heard on December 9, 2003. The Company intends to
re-file its Motion for Summary Judgment or, alternatively, Summary Adjudication,
against Fraser. Trial is now scheduled for September 20, 2004. We believe that
we have meritorious defenses and intend to vigorously defend the action. Because
the action is still in its early stages, we are not able to predict the outcome
at this time.
Litigation with U.S. Robotics
On May 23, 2003, we filed in the U.S. District Court for the Northern
District of California a patent infringement lawsuit against U.S. Robotics
Corporation claiming that U.S. Robotics has infringed one of our patents. U.S.
Robotics filed its answer and counterclaim asking for a declaratory judgment
that the claims of the patent are invalid and not infringed. This case has been
consolidated for claims construction discovery with the litigation against 3Com
Corporation, and Agere Systems and Lucent Technologies. Claims construction
discovery under the Patent Local Rules is underway, and a status conference is
set for May 11, 2004. No trial date has been set. We believe we have meritorious
claims and defenses. However, because the action is still in its early stages,
we are not able to predict the outcome at this time.
Litigation with Broadcom
On May 23, 2003, we filed in the U.S. District Court for the Northern
District of California a patent infringement lawsuit against Broadcom
Corporation claiming that Broadcom has infringed four of our patents. Broadcom
filed its answer and counterclaim asking for a declaratory judgment that the
claims of the four patents are invalid and/or unenforceable, and not infringed
by Broadcom. In December 2003, the parties entered into a settlement agreement
which was favorable to the Company, and on January 6, 2004, the Court granted
the parties' stipulated request that all claims and counterclaims in the
Broadcom action be dismissed with prejudice.
Litigation with Agere and Lucent
On May 23, 2003, we filed in the U.S. District Court for the Northern
District of California a patent infringement lawsuit against Agere Systems and
Lucent Technologies claiming that Agere has infringed four of our patents and
that Lucent was infringing three of our patents. Agere and Lucent filed their
answers to our complaint. Agere filed a counterclaim asking for a declaratory
judgment that the claims of the four patents are invalid, unenforceable and not
infringed by Agere. We filed our reply to Agere's counterclaim in August 2003.
This case has been consolidated for claims construction discovery with the
litigation against U.S. Robotics Corporation and 3Com Corporation. Claims
construction discovery under the Patent Local Rules is underway, and a status
conference is set for May 11, 2004. No trial date has been set. We believe we
have meritorious claims and defenses. However, because the action is still in
its early stages, we are not able to predict the outcome at this time.
33
Litigation with 3Com
In March 2003, each of 3Com Corporation and the Company filed a patent
infringement lawsuit against the other. The suits are pending in the U.S.
District Court for the Northern District of California. Our lawsuit alleges
infringement of one of our patents and asks for a declaratory judgment that
certain 3Com patents are invalid and not infringed by the Company. 3Com is
alleging that our HSP modem products infringed certain 3Com patents and asks for
a declaratory judgment that our patent is invalid and not infringed by 3Com. No
trial date has been set. The case has been consolidated for claims construction
discovery with the litigation against U.S. Robotics Corporation, Agere Systems
and Lucent Technologies. Claims construction discovery under the Patent Local
Rules is underway, and a status conference is set for May 11, 2004. We believe
we have meritorious claims and defenses. However, because the action is still in
its early stages, we are not able to predict the outcome at this time.
Further, in May 2003, the Company filed a complaint against 3Com in the
Superior Court of the State of California for the County of Santa Clara under
California's Unfair Competition Act. In December 2003, the Company voluntarily
dismissed the action without prejudice. On December 15, 2003, 3Com filed an
action against the Company seeking a declaratory judgment that 3Com has not
violated the California Unfair Competition Act. On January 7, 2004, the parties
filed a stipulation dismissing 3Com's declaratory judgment action without
prejudice. No related claims with respect to the California Unfair Competition
Act are currently pending between the parties.
ITEM 2 CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES
The following table provides the activity of our repurchase program during
the three months ended March 31, 2004:
<Table>
<Caption>
TOTAL NUMBER MAXIMUM NUMBER OF
AVERAGE OF SHARES PURCHASED SHARES THAT MAY
TOTAL NUMBER OF PRICE PAID AS PART OF PUBLICLY YET BE PURCHASED
SHARES PURCHASED PER SHARE ANNOUNCED PROGRAM UNDER THE PROGRAM
---------------- --------------- ------------------- -----------------
JANUARY 1, 2004 -- JANUARY 31, 2004 -- -- -- 961,400
FEBRUARY 1, 2004 -- FEBRUARY 29, 2004 -- -- -- 961,400
MARCH 1, 2004 -- MARCH 31, 2004 -- -- -- 961,400
---------------- --------------- ------------------- ----------------
-- -- --
================ =============== ===================
</Table>
ITEM 5 OTHER INFORMATION
(a) Other information.
In accordance with Section 10A(i)(2) of the Securities Exchange Act of 1934,
as added by Section 202 of the Sarbanes-Oxley Act of 2002 (Act), we are required
to disclose the non-audit services approved by our audit committee to be
performed by PricewaterhouseCoopers LLP (PwC), our external auditor. Non-audit
services are defined as services other than those provided in connection with an
audit or a review of the financial statements of a Company. Our audit committee
has approved the engagement of PwC for non-audit services in 2004 relating to,
acquisition due diligence, liquidation of subsidiaries, tax consultation, and
testing of our internal controls.
(b) Changes to nomination procedures.
There have been no material changes to the procedure by which security
holders may recommend nominees to our board of directors since we last disclosed
such procedures.
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
- ------- ---------------------------------------------------------------------------------------------------------------
31.1 Certification of Principal Executive Officer pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
31.2 Certification of Principal Financial Officer pursuant to Section 302 of Sarbanes-Oxley Act of 2002.
32 Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350
as adopted pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
</Table>
34
(b) Reports on Form 8-K:
We furnished a report on Form 8-K dated February 5, 2004 announcing our
financial results fourth fiscal quarter and its fiscal year ended December 31,
2003. Such report was "furnished" but not "filed" with the SEC.
We filed a report on Form 8-K dated January 2, 2004 announcing our acquisition
of MAXRAD, Inc.
35
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, this Report has been signed below by the
following persons on behalf of the Registrant and in the capacities and on the
dates indicated:
PCTEL, Inc.
A Delaware Corporation
(Registrant)
/s/ MARTIN H. SINGER
------------------------------------
Martin H. Singer
Chairman of the Board and
Chief Executive Officer
Date: May 10, 2004
36