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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 COMMISSION FILE NUMBER 0-15135
TEKELEC
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-2746131
(State or other jurisdiction of (I.R.S.Employer
incorporation or organization) Identification Number)
26580 WEST AGOURA ROAD, CALABASAS, CALIFORNIA 91302
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (818) 880-5656
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE
ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION
12(G) OF THE ACT:
COMMON STOCK, WITHOUT PAR VALUE
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of
the registrant, based upon the last reported sale price of the Common Stock on
March 1, 2000 as reported on The Nasdaq Stock Market, was approximately
$2,116,000,000.
The number of shares outstanding of the registrant's Common Stock on March
1, 2000, was 56,981,056.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement to be delivered to
shareholders in connection with their Annual Meeting of Shareholders to be held
on May 12, 2000 are incorporated by reference into Part III of this Annual
Report.
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TEKELEC
INDEX TO ANNUAL REPORT ON FORM 10-K
For the fiscal year ended December 31, 1999
Page
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PART I
Item 1. Business..................................................................... 3
Item 2. Properties................................................................... 30
Item 3. Legal Proceedings............................................................ 31
Item 4. Submission of Matters to a Vote of Security Holders.......................... 31
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters.......................................................... 31
Item 6. Selected Consolidated Financial Data......................................... 32
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................................... 33
Item 7A. Quantitative and Qualitative Disclosures about Market Risk................... 42
Item 8. Financial Statements and Supplementary Data.................................. 42
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure..................................................... 42
PART III
Item 10. Directors and Executive Officers of the Registrant........................... 42
Item 11. Executive Compensation....................................................... 42
Item 12. Security Ownership of Certain Beneficial Owners and Management............... 42
Item 13. Certain Relationships and Related Transactions............................... 42
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............. 43
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PART I
ITEM 1. BUSINESS
OVERVIEW
Tekelec (the "Company") designs, manufactures, markets and supports network
systems products, diagnostics systems and selected service applications for
telecommunications networks and call centers. The Company's customers include
telecommunications carriers, network service providers, equipment manufacturers
and call center operations.
The Company's network systems products help direct and control voice and
data communications. They enable carriers to control, establish and terminate
calls. They also allow carriers to offer intelligent services, which include any
services other than the call or data transmission itself. Examples include
familiar products such as call waiting, caller ID, voice messaging, toll free
calls (e.g., "800" calls), prepaid calling cards and local number portability.
The Company believes that voice and data networks will increasingly
interoperate, or converge, which will provide significant opportunities to
expand sales of the Company's network systems products and service applications.
The Company's diagnostics products simulate a controlled network
environment, which allows carriers and communications equipment manufacturers to
test products to ensure that products conform to specifications and to evaluate
network performance without risking the failure of the existing network. Some of
the Company diagnostics products also allow the monitoring, diagnosis and
surveillance of network elements while the network is in operation.
The Company's call center products provide workforce management and
intelligent call routing systems for single and multiple site call centers. The
Company sells its call center products primarily to customers in industries with
significant call center operations.
INDUSTRY BACKGROUND
Demand for communications equipment has expanded rapidly in recent years.
Driving this trend has been the growth in demand for data communications and
wireless connectivity, deregulation and the emergence of new competitors,
services and technologies.
Growth in data traffic has been most visibly driven by the increase in the
number of businesses and consumers that use the Internet. According to
International Data Corp., an independent market research firm, the number of
people accessing the Internet was approximately 93 million in 1998 and is
expected to grow to 320 million by 2003. The number of wireless subscribers has
also grown rapidly in recent years, doubling from 1996 levels to 80 million
subscribers in the United States in 1998, according to the Cellular Telephone
Industry Association. The increase in data traffic, combined with the inherent
efficiency of packet switched networks, have led many carriers to build new
packet networks and to seek ways to cause existing circuit switched networks to
interface reliably and efficiently with these new packet switched networks.
Deregulation has played a key role in the emergence of new competitive
service providers. The U.S. Telecommunications Act of 1996 mandates incumbent
local exchange carriers to
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provide greater interconnection in order to facilitate the entry of new
competitors. Technological developments such as xDSL, cable modems and broadband
wireless have enabled alternative access technologies and fostered new types of
service providers.
As competition has grown in recent years, per-minute revenue from basic
telephony service has declined significantly. As a result, intelligent services
have become core competitive features of a network, providing incremental
revenues to service providers and offering more service choices to subscribers.
As these services have become less expensive and more widely accessible,
customer demand for them has grown.
Deregulation has also spurred the offering of intelligent services. The
Telecommunications Act mandates that subscribers of U.S. telephone service be
given the option of changing their local service provider while retaining their
local phone number. European Union officials recently announced a recommendation
that local service providers deploy a number portability solution by January 1,
2001 that will allow subscribers to retain their telephone numbers while
changing providers. Current FCC regulations require that wireless customers in
the U.S. be offered this same option in 2002.
As a result of these trends, service providers are seeking to differentiate
their products and services while lowering their costs. This has increased
demand for technologies that enable the rapid creation and delivery of
innovative services on existing and converged networks. Some of the key
challenges that service providers face in expanding their network systems
include:
o expanding and/or upgrading their signaling network systems to support
new and enhanced services;
o building and managing networks that can cost-effectively support
circuit and packet network convergence; and
o testing new network elements and monitoring increasingly complex
networks.
Similarly, telecommunications equipment manufacturers and network operators
need advanced and flexible ways to test and monitor equipment in existing and
converged networks in a cost efficient manner.
Signaling and Intelligent Services
Current voice telephone networks consist of two basic elements -- switching
and signaling. The switching portion of a network carries and routes the actual
voice or data comprising a "call." The signaling portion of a network instructs
the switching portion how to do its job. Signaling messages are carried on a
different logical transmission path than the actual call itself. Signaling is
responsible for establishing and terminating a call. The signaling portion of
the network also enables service providers to offer intelligent services such as
call waiting, caller ID and voice messaging.
The signaling portions of existing voice telephone networks in the U.S. are
based upon a set of complex standards known as Signaling System #7, or SS7. The
primary network elements within a traditional circuit network architecture based
on SS7 are as follows:
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Signal Transfer Point (STP) -- A signal transfer point is a packet switch
for the signaling portion of the network. It controls and directs the signaling
messages used to establish and terminate telephone calls and to coordinate the
provision of intelligent services.
Service Switching Point (SSP) -- A service switching point is a carrier's
switch that connects to the SS7 network and serves as the origination and
termination points for the SS7 messages in a network. In this capacity, the
service switching point, via signaling transfer points, sends and processes the
signaling messages used to establish and terminate telephone calls. When a
service switching point identifies a call requiring instructions for intelligent
services, it sends a signaling message to a signal transfer point and awaits
further routing or call processing instructions.
Service Control Point (SCP) -- A service control point is a specialized
database containing network and customer information. It is queried by service
switching points via signaling transfer points for information required for the
delivery of intelligent services. Different service control points contain the
information used by the SS7 network to perform different types of functions.
Service Node -- A service node is a group of service control points,
service switching points and/or other software or hardware that has been
configured to provide a particular intelligent service.
Signaling Links -- A signaling link is a physical or logical connection or
channel between any two different parts of the signaling portion of the network,
or a connection or channel between the signaling part of the network and the
switching part of the network. To create additional network capacity to
accommodate increases in signaling traffic, additional links must be added to
signal transfer points, or new signal transfer points must be added.
Traditionally, signaling links have operated on dedicated circuit facilities.
New network architectures support signaling over packet transmission
technologies such as IP or ATM.
The market for SS7 equipment is driven by growth in network traffic and by
demand for intelligent services. Carriers and service providers must increase
the performance and capacity of their signaling networks in order to increase
call processing capacity or to offer intelligent services. Because of its role
in providing reliability and features to a voice network, SS7 switches must
deliver high performance and reliability. Typically, these switches need to
deliver 99.999% reliability, or less than three minutes of unscheduled downtime
per year. Service providers also require an SS7 solution that is scalable --
that is, a solution that can initially be matched to support a carrier's current
capacity but with the capability to have its capacity increased to support the
carrier's growth without requiring the replacement of certain network elements.
Supporting Voice and Data Convergence
Currently, virtually all networks which carry both voice and data
communications rely on a technology called circuit switching. Another
technology, packet switching, has been used almost exclusively for data-only
networks. Circuit switching and packet switching are fundamentally different
technologies. While circuit switching has offered reliable and high quality
voice communications, packet switching is inherently more efficient and cost
effective. Industry sources estimate that the cost of a transmission minute is
as much as 25% to 50% less for a packet network than for a circuit network.
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The cost and performance superiority of packet switching has led many
incumbent and new carriers to build packet networks to handle data traffic. It
has also led carriers to explore the transmission of voice communications over
packet networks. This would require circuit networks and packet networks to
seamlessly interconnect.
Packet networks will need signaling to provide the same reliability and
quality of transmissions as circuit networks and to provide the intelligent
services consumers have come to expect and demand. Because SS7 is the global
industry standard for voice networks, the Company believes that signaling for
the converged circuit and packet networks will be based upon SS7 or its
derivatives as well. This would allow new carriers with packet networks to more
easily interconnect with existing circuit networks and would allow incumbent
carriers to leverage their investment in their existing networks even as they
build out their data networks.
Tekelec believes that the primary network elements of converged circuit and
packet networks based on SS7 will be as follows:
Signal Transfer Point -- As in the present circuit networks, a signal
transfer point relays messages needed to establish and terminate telephone calls
and to coordinate the provision of intelligent services. It can relay messages
within the circuit network, between circuit and packet networks, and possibly
within some forms of packet networks.
Service Control Point -- As in the present circuit networks, a service
control point is a specialized database containing information used to deliver
intelligent services. Service control points in converged networks may support
packet-based signaling interfaces.
Signaling Gateway -- A signaling gateway receives signaling messages from
signal transfer points, reformats these messages and presents them to one or
more media gateway controllers.
Media Gateway Controller -- A media gateway controller is a specialized
computer that provides the intelligence, or call control to direct switching. It
controls one or more media gateways.
Media Gateway -- A media gateway receives the message part of a call and
redirects it as specified by the media gateway controller to a single
destination or to multiple destinations. If necessary, a media gateway can
translate the actual call from a packet switching format to a circuit switching
format and vice versa.
A primary difference between this converged architecture and the circuit
architecture described above is the use of the signaling gateway, media gateway
controller and media gateway to perform the same switch functions as are
currently performed by certain service switching points in circuit networks. In
the Company view of the converged architecture, these three switch components
would not all have to be made and sold in one integrated product by one
equipment manufacturer. Instead, any of these switch components could be bundled
and sold with switch components made by different manufacturers, or even sold
separately.
The Company believes carriers are seeking fully featured signaling and call
control products designed specifically for SS7 that can facilitate the
convergence of circuit and packet networks, without compromising functionality,
reliability, scalability, support and flexibility. The
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Company also believes that equipment manufacturers are looking for signaling and
call control products which they can easily bundle and sell with their own
switch components. Various industry standards bodies, including the Internet
Engineering Task Force, also support this view and describe these components as
comprising a reference model for convergence architectures.
THE TEKELEC SOLUTION
The Company is a leading designer and developer of signaling and call
control products, and service applications for converging circuit and packet
networks. The Company's systems and diagnostics products assist its customers in
meeting their primary challenges in the converging environment: differentiating
their offerings and lowering network costs. The Company offers SS7-based
signaling and call control systems and services to enable the delivery of
intelligent services and facilitate convergence of voice and data networks. The
Company believes that its open, standards-based solutions are highly reliable
and will enable operators of converged networks to more cost-effectively manage
their networks and offer intelligent services.
The Company's Eagle STP has been widely deployed and, according to Frost &
Sullivan, an independent market research firm, had a 73% market share of all
signal transfer point sales in North America in 1998. The Eagle STP offers high
capacity and throughput, reliability and efficiency that support the growth of
traffic and demand for intelligent services in service provider networks. The
reliability of the Company's products enables it to offer service providers
product solutions that reduce their total cost of ownership of network systems
products. The Company's Eagle STP products meet industry standards for 99.999%
reliability and less than 3 minutes of unscheduled downtime per year.
The Company recently introduced a suite of products for converged circuit
and packet networks. These products include the IP7 Secure Gateway Controller
and the VoX Gateway product, two of the three components comprising a switch in
converged circuit and packet networks. The Company's products are designed so
that they may be purchased in combination with switch components made by other
manufacturers, or purchased separately, depending on the customer's preference.
Customers of the Company's STP product may upgrade their existing STPs to IP7
Secure Gateways, thereby preserving the value of their existing STP
infrastructure.
Use of the Company's signaling gateway results in a substantial increase in
signaling efficiency by enabling SS7 signaling over IP at much faster rates than
traditional SS7 signaling. Customers may choose to deploy the IP7 Secure Gateway
to gain signaling efficiencies, among other benefits, as a precursor to
deploying the IP7 Secure Gateway as part of a switch replacement.
The Company's approach offers more flexibility and lower costs to carriers.
Carriers can choose to purchase from among multiple vendors each of the switch
components which offers the optimal performance for their needs. They can also
potentially upgrade or expand a switch by selectively replacing components,
instead of having to replace the entire switch. The Company also believes that
its approach is more scalable than a fully integrated switch.
The Company's approach also offers advantages to its equipment manufacturer
customers. By bundling the Company's products with their switch components,
these customers can avoid the significant research and development expenditures
that they would incur if they were to develop all three switch elements. In
addition, by concentrating their efforts on only certain of the switch
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elements, they may be able to significantly reduce the time it takes for them to
enter the converged switch market.
BUSINESS STRATEGY
The Company's objective is to be the premier supplier of signaling and call
control network systems and selected service applications, and diagnostics
products, to existing and emerging communications markets. Key elements of the
Company's strategy to achieve this objective include:
Maintaining Technology Leadership. The Company believes that one of its
core competitive strengths is the breadth of its knowledge and expertise in
communications technologies, particularly in SS7 and related signaling
technologies. The Company has developed this expertise over a period of 20
years. The Company intends to enhance its existing products and to develop new
products by continuing to make significant investments in research and
development. As part of the its commitment to technology leadership, the Company
recently developed and submitted the Transport Adapter Layer Interface (TALI),
an Internet Protocol signaling interface which enables the transport of
signaling messages using the Internet Protocol, to the Internet Engineering Task
Force, a standards governing body. In November 1999, the Company opened up the
TALI source code free of charge to the industry, and since then has licensed
more than 140 companies to use the TALI source code. The Company has also
assumed a leadership role within the Softswitch Consortium, an industry
organization created for global cooperation and coordination in the development
of open standards and interoperability for packet networks.
Targeting the Convergence of Voice and Data Networks. The Company is
investing significantly to develop signaling and call control products that
enable the convergence of circuit and packet networks. In 1999, the Company
introduced the IP7 product line and the VoX Gateway Controller to target this
convergence market. The Company believes its pursuit of this new market
opportunity leverages its SS7 expertise and will enhance the market potential
for the Company's traditional solutions by ensuring customers that investments
in Tekelec equipment can be upgraded to perform in converged networks.
Expanding Internationally. The Company is increasingly pursuing
international opportunities, primarily through its European sales office it
established in the United Kingdom in 1998 and through the Company's Japanese
subsidiary. The Company's European sales efforts have resulted in significant
new customers, including Orange Personal Communications Systems, certain
divisions of France Telecom and Vodafone. A recent European Union recommendation
provides that telecommunications service providers should offer number
portability throughout the continent by January 1, 2001. If implemented, the
recommendation is expected to result in increasing demand for SS7 network
elements such as signal transfer points to accommodate the increase in signaling
traffic. To complement the Company's direct sales approach in Europe and
facilitate the Company's international expansion in South America and other
parts of the world, in December 1999, the Company entered into a non-exclusive
worldwide distribution agreement with Unisys.
Pursuing Additional Strategic Relationships, OEM Partners and Acquisitions.
The Company intends to seek additional strategic relationships, including
original equipment manufacturer partners, referral arrangements, distribution
agreements and acquisition candidates. The
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Company's existing strategic relationships include technology development and
OEM relationships with Tellabs and DaVox Corporation, a technology development
and marketing relationship with Telcordia, collaboration agreements with Cisco
Systems and Sonus Networks and distribution relationships with Lucent, Daewoo,
Unisys and numerous other product distributors. See "-- Customers." The Company
is currently devoting significant attention to establishing additional
relationships with developers of convergence solutions that require SS7
signaling and call control capabilities.
Pursuing New Market Segments. The Company intends to continue its strategy
of internally developing and acquiring products in order to enter new market
segments. A number of products currently under development will enable the
Company to serve new markets, including diagnostics for packet networks using
voice over Internet protocols and new mobile technologies. The Company's recent
acquisition of IEX greatly expanded the Company's potential markets to include
the markets for packet networks using voice over Internet protocols, call
control solutions, prepaid calling platforms and solutions for call centers,
among others.
Seeking Additional Opportunities to Provide Upgrades, Extensions and
Service Agreements. The Company intends to leverage its strong customer
relationships to seek opportunities to better serve its customers' needs in the
future. In particular, the Company will continue to develop and market software
upgrades, link extensions, extended service agreements and other enhancements as
a means to pursue repeat business opportunities.
PRODUCTS
The Company currently offers products in three broad categories: network
systems products, network diagnostics products and call center products.
Network Systems Products
The Company's network systems products include the Eagle STP, IP7 Secure
Gateway and intelligent network products. The Company's network systems products
enable telecommunications service providers to create, enhance and customize the
intelligent services they offer. The Company's principal network systems
products are described below:
PRODUCT DESCRIPTION
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Eagle STP..........................The Company's Eagle STP is a highly reliable signal transfer point
which is tailored to the SS7 switching needs of carriers,
network service providers and wireless operators, among
others. It offers high capacity and throughput, features a
fully distributed, standards-based, open architecture and is
scalable from 2 to 500 links. It is sold in pairs for redundancy.
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Service Control Point..............The Company's Service Control Point is a specialized database that
contains network and customer information needed to process calls
requiring special treatment, such as credit card calls or other
intelligent services. This product supports interfaces to the products
of most major switch vendors. Its graphical user interface enables the
development, testing and deployment of intelligent services.
Network Switch.....................The Company's network switch is a service switching point that is used
primarily in the service node described below. The network switch has a
modular architecture and provides T1 and E1 interfaces.
Service Node.......................The Company's service node combines the network switch,
service control point and other elements to enable sophisticated
applications such as prepaid services. Its graphical user interface
also enables the development, testing and deployment of intelligent
services.
IP7 Secure Gateway.................The Company's IP7 Secure Gateway is a highly scalable signaling
gateway that can provide signaling information to media
gateway controllers and IP-signaling enabled SCPs in multiple
locations. It can deliver these services in multi-protocol,
multi-vendor converged networks.
VoX Gateway Controller.............The Company's VoX Gateway Controller is a media gateway
controller that is highly scalable and can control media
gateways in multiple locations. It interfaces to both
asynchronous transfer mode and Internet protocol networks
via proprietary and standards-based interfaces.
Network Diagnostics Products
Equipment manufacturers and network service providers utilize the Company's
diagnostics products to perform a wide variety of test applications that
simulate, monitor and analyze network communications network systems. The
Company's customers use its diagnostics products for:
o Designing Communications Equipment. By simulating existing and
emerging communications devices, nodes and protocols, the Company's
products enable engineers to quickly design communications devices
that will transition into emerging network systems, minimizing
potential breakdowns of network components deployed throughout the
network.
o Ensuring Product Reliability. By simulating actual network conditions
within an operating environment, including protocol errors and other
network failures, the Company's products can help ensure that
communications equipment manufacturers produce devices that will
operate error-free, thus accelerating time to market and potentially
reducing costly failures after installation.
o Verifying Certification. By executing conformance and performance test
suites, network operators and manufacturers use the Company's products
to rapidly verify that communication devices meet specified standards.
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o Monitoring Networks. By collecting and analyzing traffic, the
Company's products can monitor the health of networks on a continuous
basis and provide advance notice of potential system failures,
allowing quicker service restoration or even preventing service
failure.
o Troubleshooting. By identifying the specific location and type of
communication error, the Company's products can isolate which network
device has failed. The Company's products help technicians and
engineers repair devices and networks promptly and minimize expensive
downtime associated with service failure.
The Company's principal network diagnostics products are described below:
PRODUCT DESCRIPTION
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Sentinel............The Company's Sentinel product is a network maintenance and surveillance solution
that enables wireline and wireless service providers to ensure the reliability of
telecommunication products and services implemented across their SS7 network. Sentinel
provides a combination of passive monitoring and proactive testing capabilities that
enable service providers to perform problem detection and analysis as well as verify
fixes from a centralized location. Sentinel also enables network operators to enhance
the quality of the services they provide by accommodating applications such as fraud
prevention, billing verification and quality of service measurement.
IP7 Sentinel........The Company's IP7 Sentinel extends the capabilities of Sentinel to IP networks.
MGTS................The Company's MGTS is a signaling diagnostics system designed to provide a diagnostics
and test platform for research and development, laboratory and telecommunications service
provider environments. The MGTS supports various protocols, including SS7 and personal
communications systems, permits the design of customized testing scenarios and can be
used with multiple user groups and geographic locations.
MGTS Companion......The Company's MGTS Companion is a portable signaling diagnostics system which serves as
a network diagnostics tool during the network implementation of signaling products and
provides installation and verification testing and operational acceptance testing. The
MGTS Companion permits testers to design customized testing scenarios or to use lab-based
scenarios and also tests roaming and other mobile network services.
i3000..............The Company's i3000 is a complete diagnostics system for convergence network technologies.
The diagnostics applications built on the Company's i3000 technology address wireline and
wireless communications equipment manufacturers' convergence test and verification needs.
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PRODUCT DESCRIPTION
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velOSity...........The Company's velOSity family of diagnostics products enables network equipment
manufacturers to perform converged technology testing on a single platform with
complete interoperability. velOSity provides a high-performance testing environment
for wireless, wireline, and converged network technologies hosted on the i3000, a
next generation hardware platform. velOSity enables users to build and reuse test
scenarios spanning multiple technologies, including SS7, GPRS, UMTS and IP.
MGTS Flex...........The Company's MGTS Flex provides SS7 multi-protocol conversion functions for the
rapid deployment of new services in complex networks.
ATM7 Inspector......The Company's ATM7 Inspector is a high performance protocol analysis diagnostics
system which can simultaneously test, monitor and simulate SS7 signaling traffic
over asynchronous transfer signaling links.
Call Center Products
The Company's call center products provide planning, management and call
routing and control tools for single call centers and for complex, multiple site
call center environments. These tools help call center managers maximize call
center productivity, achieve service level targets and reduce costs. The
Company's principal call center products are described below:
PRODUCT DESCRIPTION
- ------- -----------
TotalView...........The Company's TotalView Workforce Management solution for single and multiple
site call centers generates staff schedules based on call center workload and
availability and the skills of call center staff. It performs real-time
monitoring and analysis of call center operations and, as conditions change,
adjusts staff schedules and routes call center workload to available staff having
appropriate skills. TotalView also provides detailed, customized databases and
reports to assist in optimizing call center performance and forecasting call center
staffing requirements.
TotalNet............The Company's TotalNet Call Routing Solution for multiple site call centers routes
calls to multiple locations as if they were a single call center and balances workload
across call center sites based on staffing levels, call volume and caller requirements.
TotalNet also maintains call center statistics and analyzes call center operations.
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PRODUCT DEVELOPMENT
The communications market is characterized by rapidly changing technology,
evolving industry standards and frequent new product introductions. Standards
for new technologies and services such as intelligent network, personal
communications services (PCS), Internet protocol and asynchronous transfer mode
are still evolving. As these standards evolve and the demand for services and
applications increases, the Company intends to adapt and enhance its products
and develop and support new products. The Company solicits product development
input through discussions with its customers and participation in various
industry organizations and standards committees, such as the Telecommunications
Industry Association, the Internet Engineering Task Force, the Softswitch
Consortium and the Asynchronous Transfer Mode Forum, and by closely monitoring
the activities of the International Telecommunications Union, the European
Telecommunications Standards Institute, the International Organization for
Standardization and Telcordia.
The Company's network systems product development group is principally
focused on addressing the requirements of the converged voice and data networks
and on the release of new software versions to incorporate enhancements or new
features or functionality desired by customers. This group also focuses on
compliance with standards to enable the Eagle solutions to address additional
domestic and international markets. In addition, the Company plans continued
improvement of hardware components to improve their performance and
capabilities.
The Company's diagnostics product development activities are principally
focused on expanding the capabilities of the MGTS, i3000 and IP7 Sentinel
products, including their interfaces, software modules and protocol capabilities
for emerging technologies such as intelligent network and broadband wireless,
and adapting these products for the network operations market. From time to time
the Company engages in development projects for special applications requested
by its customers. The Company typically retains the right to use the developed
technology in future products that are not competitive with the specific
application for which the development work was performed.
The Company's call center product development activities are principally
focused on expanding the capabilities of the call center products, including the
skills and multimedia scheduling capabilities of the TotalView Workforce
Management product and the functionality of the TotalNet Call Routing product.
SALES AND MARKETING
The Company's sales and marketing strategies include selling through the
Company's direct sales forces, indirectly through distributors and other
resellers, entering into strategic alliances and targeting certain markets and
customers. To promote awareness of Tekelec and the Company's products, the
Company also advertises in trade journals, exhibits at trade shows, maintains a
presence on the Internet and uses direct mail.
Distribution. The Company sells its network systems, network diagnostics
and call center products in the U.S. principally through the Company's separate
direct sales forces and, for the Eagle STP and certain other network systems
products to a lesser extent, indirectly through strategic relationships with
various third parties. The Company's direct sales forces operate out of the
Company's headquarters in Calabasas, California and the Company's regional
offices
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located in Colorado, Georgia, Illinois, New Jersey, North Carolina, Northern and
Southern California and Texas. The Company sells its network systems products
internationally through the Company's direct sales force and distribution
relationships with Daewoo, Lucent and Unisys and the Company's wholly owned
subsidiary in the United Kingdom. The Company sells its diagnostics products
internationally through a network of approximately 32 distributors and the
Company's wholly owned subsidiaries in Japan and the United Kingdom. The
Company's Japanese subsidiary, which presently sells only diagnostics products,
generated approximately 10% of the Company revenues for 1999, 12% for 1998 and
13% for 1997.
Tekelec-Airtronic, S.A., an affiliate of Tekelec, and its wholly owned
subsidiaries are the distributors of the Company's diagnostics products in
France, Italy, Germany, the Netherlands, Belgium, Luxembourg, Portugal, Spain
and China. Twenty-four additional independent companies distribute the Company's
products in other Western European countries, the Far East (other than Japan),
Australia, Mexico, Puerto Rico, New Zealand, Latin America, the Middle East and
South Africa. Distributors typically purchase products directly from Tekelec
pursuant to agreements that are exclusive for a particular territory and are
cancelable by either party upon 90 days notice. Export sales through
international distributors accounted for approximately 6% of the Company's
revenues for 1999, 7% for 1998 and 12% for 1997.
Strategic Relationships. The Company believes that its current and future
strategic relationships with leading communications equipment suppliers will
improve market penetration and acceptance for the Company's network systems
products. These suppliers have long-standing relationships with public
telecommunications carriers and provide a broad range of services to these
carriers through their existing sales and support networks. Tekelec seeks
strategic relationships that:
o enhance the Company's presence and strengthen the Company's
competitive position in its target markets;
o offer products that complement the Company's network systems solutions
to provide value-added networking solutions; and
o leverage the Company's core technologies to enable communications
equipment suppliers to develop enhanced products with market
differentiation that can be integrated with Tekelec's solutions.
The Company's strategic relationships include:
o a development and OEM agreement with Tellabs under which Tellabs will
market certain of the Company's network systems products with its
media gateway;
o a collaboration with Cisco Systems in which the Company and Cisco
Systems will collaborate to enhance interoperability between the
Company's IP7 Secure Gateway and various Cisco Systems products using
the TALI interface;
o an informal alliance with Sonus Networks in which the Company will
market the Company's IP7 Secure Gateway and VoX Gateway Controller and
Service Control Point with Sonus Network's media gateway;
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o a non-exclusive distribution agreement with Lucent under which Lucent
distributes the Company's Eagle STP;
o a non-exclusive international distribution agreement with Unisys under
which Unisys distributes the Company's network systems products;
o an exclusive distribution and OEM agreement with Daewoo under which
Daewoo distributes the Company's Eagle STP in South Korea;
o an OEM and distribution agreement with Davox Corporation under which
Davox will OEM the Company's TotalNet Call Routing products and the
Company will distribute Davox's ensemble call center solution; and
o a strategic marketing and sales alliance with Telcordia under which
Tekelec and Telcordia jointly market each other's products and have
exchanged interface specifications to allow the interworking of the
Company's IP7 Secure Gateway and Telcordia's ISCP(R) System for the
delivery of intelligent services across packet networks utilizing
voice over Internet protocol.
The Company believes that its strategic third party relationships provide
the Company with additional opportunities to penetrate the SS7 network systems
and convergence markets and demonstrate the Company's strategic partners'
recognition of the technical advantages of the Company's Eagle STP and IP7
Secure Gateway products and the Company's network products. Through the
Company's relationships with, among others, Tellabs, Cisco Systems, Sonus
Networks, Lucent, Unisys, Daewoo, Davox and Telcordia, the Company is enhancing
its market presence and the ability to access leading network service providers.
In general, these agreements can be terminated by either party on limited notice
and, except for the Company's agreement with Daewoo, do not require minimum
purchases. Tellabs, Cisco Systems, Unisys, Davox and Telcordia also are not
precluded from selling products that are competitive with the Company's
products. Although the Company's current sales through relationships with
Lucent, Unisys and Telcordia are not significant, a termination of the Company's
relationship with Lucent, Unisys or Telcordia, or the sale of competing products
by Lucent, Tellabs, Cisco Systems, Unisys or Telcordia, could adversely affect
the Company's business and operating results.
SERVICE, SUPPORT AND WARRANTY
The Company believes that customer service, support and training are
important to building and maintaining strong customer relationships. The Company
services, repairs and provides technical support for the Company's products.
Support services include 24-hour technical support, remote access diagnostics
and servicing capabilities, extended maintenance and support programs,
comprehensive technical customer training, extensive customer documentation,
field installation and emergency replacement. The Company also offers to its
customers and certain resellers of the Company's products training with respect
to the proper use, support and maintenance of the Company's products.
The Company maintains an in-house repair facility and provides ongoing
training and telephone assistance to customers and international distributors
and other resellers from the Company headquarters in Calabasas, California,
certain U.S. regional offices and the Company Japanese subsidiary. The Company's
technical assistance centers in Morrisville, North Carolina
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and Staines, United Kingdom, support the Company network systems products on a
24 hour-a-day, seven day-a-week basis. The Company's technical assistance center
in Richardson, Texas, supports the Company call center products and certain of
the Company network systems products.
The Company typically warrants its products against defects in materials
and workmanship for one year after the sale and thereafter offers extended
service warranties.
CUSTOMERS
The Company's customers include end users and marketing intermediaries. End
users for the Company network systems products consist primarily of network
service providers, wireless network operators, interexchange carriers,
competitive access providers, local exchange carriers and Regional Bell
Operating Companies. End users for the Company's diagnostic products include
interexchange carriers, telephone operating companies, communications equipment
manufacturers, wireless network operators and government agencies. The Company's
call center solutions have been sold primarily to Fortune 500 companies,
financial services companies and telecommunications carriers. The Company
anticipates that its operating results in any given period will continue to
depend to a significant extent upon revenues from a small percentage of the
Company's customers.
The Company's diagnostics business is substantially dependent on repeat
business. Many of the Company's largest customers in 1998 and 1999 were
purchasers of the Company diagnostics systems in prior years.
BACKLOG
Backlog for the Company's network systems products typically consists of
contracts or purchase orders for both product delivery scheduled within the next
12 months and extended service warranty to be provided over periods of up to
five years. Backlog for the Company's call center products typically consists of
products and services ordered for delivery within the next 12 months. Orders for
the Company's diagnostics products are usually placed by customers on an
as-needed basis, and the Company has typically been able to ship these products
within 15 to 30 days after acceptance of the purchase order. Primarily because
of variations in the size and duration of orders received by Tekelec and
customer delivery requirements, which may be subject to cancellation or
rescheduling by the customer, the Company's backlog at any particular date may
not be a meaningful indicator of future financial results.
At December 31, 1999, the Company's backlog amounted to approximately
$142.3 million, of which $63.4 million related to network systems service
warranties. This compared to a backlog of approximately $72.8 million at
December 31, 1998, of which $45.3 million related to network systems service
warranties.
COMPETITION
Network Systems Products. The market for the Company's network systems
products is intensely competitive and has been highly concentrated among a
limited number of dominant suppliers. The Company presently competes in the
network systems market with, among others,
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Alcatel, Cisco Systems, Nortel, Telcordia, Ericsson, Lucent and Siemens. The
Company expects competition to increase in the future from existing and new
competitors.
The Company believes that the principal competitive factors in the network
systems products market are product performance and functionality, product
quality and reliability, customer service and support, price and the supplier's
financial resources and marketing and distribution capability. The Company
anticipates that responsiveness in adding new features and functionality will
become an increasingly important competitive factor. While some of the Company's
competitors have greater financial resources, the Company believes that it
competes favorably in other respects. New entrants or established competitors
may, however, offer products which are superior to the Company's products in
performance, quality, service and support and/or are priced lower than the
Company's products.
Some of the Company's competitors, including Lucent, Nortel and Cisco
Systems, manufacture and offer fully integrated network systems products for
converged networks. These products include an SS7 signaling gateway, a media
gateway controller and a media gateway. The Company's strategy, however, is to
develop and provide the SS7 signaling gateway and the media gateway controller
elements of network systems solutions for converged circuit and packet networks.
This means that it will be necessary for the Company's products to be combined
with the media gateways of other vendors to constitute a complete network
systems switch for a converged network. Some customers may prefer to purchase
fully integrated network systems switches from the Company's competitors rather
than purchase the Company's network systems products either because of the
convenience of "one-stop shopping" or because they believe that the fully
integrated switch is superior. The Company's ability to compete in the market
for network systems switches will also be limited if media gateway manufacturers
develop fully integrated switches and cease selling media gateways on a
non-integrated basis or bundled with the Company's convergence products.
The Company believes that its ability to compete successfully in the
network systems market also depends in part on the Company's distribution and
marketing relationships with leading communications equipment suppliers and
resellers. If the Company cannot successfully enter into these relationships on
terms that are favorable to the Company or if the Company cannot maintain these
relationships, the Company's business may suffer.
Diagnostics Products. The communications diagnostics market is intensely
competitive and subject to rapid technological change and evolving industry
standards. The Company competes primarily in the high performance segment of
this market, and the Company's principal competitors are Agilent Technologies,
Inet Technologies and GN Nettest. The Company also competes with a number of
other manufacturers, some of which have greater financial, marketing,
manufacturing and technological resources than Tekelec. The Company believes
that its long-term success will depend in part on its ability to be a leader in
offering diagnostics products that address new emerging industry standards and
to offer a broad line of integrated applications.
The Company believes that the principal competitive factors in the
communications diagnostics market in which it competes are product and price
performance, functionality and reliability, timely introduction of new products,
breadth of integrated product applications, marketing and distribution
capability and customer service and support. Although the Company
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believes that it competes favorably, new or established competitors could offer
products which are superior to or cost less than the Company's products.
Call Center Products. The market for call center products is extremely
competitive. The Company competes principally with Aspect Communications and
Blue Pumpkin Software in the market for workforce management solutions and with
Geotel and Genesys in the market for call routing solutions. The Company also
competes to a lesser extent in these markets with a number of other
manufacturers, some of which have greater financial, marketing, manufacturing
and other resources than Tekelec. The Company believes that the success of its
TotalView product will depend in part on its ability to offer competitive prices
and to further develop its workforce management scheduling and other
technologies and its international distribution channels. The Company believes
that the success of the its TotalNet product will depend to a significant degree
on its ability to develop market penetration and to improve product
functionality through strategic partnering with third parties.
INTELLECTUAL PROPERTY
The Company's success depends to a significant degree on its proprietary
technology and other intellectual property. Although the Company regards its
technology as proprietary, the Company has sought only limited patent
protection. The Company relies on a combination of patents, copyrights,
trademarks, trade secrets, confidentiality agreements and contractual
restrictions to establish and protect the Company's proprietary rights. These
measures, however, afford only limited protection and may not prevent third
parties from misappropriating the Company's technology or other intellectual
property. In addition, the laws of certain foreign countries do not protect the
Company's proprietary rights to the same extent as do the laws of the United
States and thus make the possibility of misappropriation of the Company's
technology and other intellectual property more likely. If the Company fails to
successfully enforce or defend its intellectual property rights or if the
Company fails to detect misappropriation of the Company's proprietary rights,
its ability to effectively compete could be seriously impaired.
The Company's pending patent and trademark registration applications may
not be allowed and the Company's competitors may challenge the validity or scope
of its patent or trademark registration applications. In addition, the Company
may face challenges to the validity or enforceability of its proprietary rights
and litigation may be necessary to enforce and protect the Company's rights, to
determine the validity and scope of the Company's proprietary rights and the
rights of others, or to defend against claims of infringement or invalidity. Any
such litigation would be expensive and time consuming, would divert the
Company's management and key personnel from business operations and would likely
harm the Company's business and operating results.
The communications industry is characterized by the existence of a large
number of patents and frequent litigation based on allegations of patent
infringement. From time to time, third parties may assert exclusive patent,
copyright, trademark and other intellectual property rights to technologies that
are important to Tekelec. There are currently no pending material claims that
the Company's products, trademarks or other proprietary rights infringe the
proprietary rights of others. However, there can be no assurances that the
Company will not receive communications from third parties in the future
asserting that its products infringe or may infringe the proprietary rights of
third parties. Any claims made against the Company regarding patents or other
intellectual property rights could be expensive and time consuming to resolve or
defend, would
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divert the Company's management and key personnel from its business operations
and may require the Company to modify or cease marketing its products, develop
new technologies or products, acquire licenses to proprietary rights that are
the subject of the infringement claim or refund to the Company's customers all
or a portion of the amounts paid for infringing products. If such claims are
asserted, there can be no assurances that the Company would prevail or be able
to acquire any necessary licenses on acceptable terms, if at all. In addition,
the Company may be requested to defend and indemnify certain of its customers
and resellers against claims that the Company's products infringe the
proprietary rights of others. The Company may also be subject to potentially
significant damages or injunctions against the sale of certain products or use
of certain technologies.
EMPLOYEES
At March 1, 2000, the Company had 843 employees, comprising 243 in sales,
marketing and support, 79 in manufacturing, 414 in research, development and
engineering and 107 in management, administration and finance. Virtually all of
the Company's employees hold stock options and/or participate in the Company
employee stock purchase plan. None of the Company's employees is represented by
a labor union, and the Company has not experienced any work stoppages. The
Company believes that the Company's relations with its employees is excellent.
BUSINESS RISK FACTORS
The statements that are not historical facts contained in this Annual
Report on Form 10-K are forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements reflect the
current belief, expectations or intent of the Company's management and are
subject to and involve certain risks and uncertainties. Many of these risks and
uncertainties are outside of the Company's control and are difficult for the
Company to forecast or mitigate. In addition to the risks described elsewhere in
this Annual Report on Form 10-K and in certain of the Company's other Securities
and Exchange Act Commission filings, the following important factors, among
others, could cause the Company's actual results to differ materially from those
expressed or implied by the Company in any forward-looking statement contained
herein or made elsewhere by or on behalf of the Company.
BECAUSE THE COMPANY'S QUARTERLY OPERATING RESULTS ARE DIFFICULT TO PREDICT
AND MAY FLUCTUATE, THE MARKET PRICE FOR THE COMPANY'S STOCK MAY BE
VOLATILE.
The Company's quarterly operating results are difficult to predict and may
fluctuate significantly. The Company has failed to achieve its revenue and net
income expectations for certain prior periods, and it is possible that the
Company will fail to achieve such expectations in the future. Fluctuations in
the Company's quarterly operating results may contribute to the volatility in
its stock price. A number of factors, many of which are outside the Company's
control, can cause these fluctuations, including among others:
o the size, timing, terms and conditions of orders and shipments;
o the lengthy sales cycle of the Company's network systems products;
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o the progress and timing of the convergence of voice and data networks
and other convergence-related risks described below;
o the capital spending patterns of customers, including deferrals or
cancellations of purchases by customers;
o the success or failure of strategic alliances and acquisitions;
o unanticipated delays or problems in releasing new products or
services;
o the mix of products and services that the Company sells;
o the introduction and market acceptance of new products and
technologies;
o the timing of the deployment by the Company's intelligent network
services and new technologies;
o the timing and level of the Company's research and development
expenditures and other expenses; and
o the expansion of the Company's marketing and support operations, both
domestically and internationally.
In addition, the Company operates with limited product backlog that is
shippable in any quarter because products are typically shipped within a short
period of time after receipt of an order. Consequently, the Company's product
sales in any quarter depend largely on orders booked and shipped in that
quarter. A significant portion of the Company's product shipments in each
quarter occurs at or near the end of the quarter. Since individual orders can
represent a meaningful percentage of the Company's revenues and net income in
any quarter, the deferral of or failure to close a single order in a quarter can
result in a revenue and net income shortfall that causes the Company to fail to
meet securities analysts' expectations for that period. The Company bases its
current and future expense levels on its internal operating plans and sales
forecasts, and its operating costs are to a large extent fixed. As a result, the
Company may not be able to sufficiently reduce its costs in any quarter to
compensate for an unexpected near-term shortfall in revenues, and even a small
shortfall could disproportionately and adversely affect the Company's operating
results for that quarter.
The factors described above are difficult to forecast and could have a
material adverse effect on the Company's business, operating results and
financial condition. In the fourth quarter of 1998 and in the first quarter of
1999, the Company experienced lower than expected revenues and as a result did
not meet securities analysts' expectations for revenues and net income. The
principal reasons for these shortfalls included the decision by certain of the
Company's customers to defer purchases of network systems products for a variety
of reasons including a slower rate in the convergence of voice and data networks
than was anticipated and general industry concerns over year 2000
compliance-related issues. There can be no assurances that the Company will not
experience similar shortfalls in the future, which would adversely affect the
Company's operating results. Accordingly, the results of any one quarter should
not be relied upon as an indication of the Company's future performance.
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THE COMPANY HAS LIMITED PRODUCT OFFERINGS, AND ITS REVENUES MAY SUFFER IF
DEMAND FOR ANY OF ITS PRODUCTS DECLINES OR FAILS TO DEVELOP AS IT EXPECTS.
The Company derives a substantial portion of its revenues from a limited
number of products. During each of 1997, 1998 and 1999, the Company's Eagle
products and related services generated over 50% of its revenues, and the
Company expects that these products and services and its other network systems
products will continue to account for a substantial majority of the Company's
revenues for the foreseeable future. As a result, factors adversely affecting
the pricing of or demand for these products, such as competition or
technological change, could cause a decrease in the Company's revenues and
profitability. Therefore, continued and widespread market acceptance of these
products is critical to the Company's future success. Moreover, the Company's
future financial performance will depend in significant part on the successful
and timely development, introduction and customer acceptance of new and enhanced
versions of the Company's Eagle products and other network systems products.
There are no assurances that the Company will continue to be successful in
developing and marketing its network systems products and related services.
RISKS RELATED TO THE POTENTIAL CONVERGENCE OF VOICE AND DATA NETWORKS
Currently, voice conversations are carried primarily over circuit
switched networks. Another type of network, packet switched networks,
carries primarily data. Circuit and packet networks use fundamentally
different technologies. The Company expects a substantial portion of any
increases in its future sales of network systems products to result from
the interconnection, or convergence, of circuit and packet networks.
Therefore, this convergence presents several significant and related risks
to the Company's business.
IF THE CONVERGENCE OF CIRCUIT AND PACKET NETWORKS DOES NOT OCCUR, OR TAKES
LONGER THAN ANTICIPATED, ANY INCREASES IN SALES OF THE COMPANY'S NETWORK
INFRASTRUCTURE PRODUCTS, AND ITS PROFITABILITY, WOULD BE ADVERSELY
AFFECTED.
Any factor which might prevent or slow the convergence of circuit and
packet networks could materially and adversely affect growth opportunities
for the Company's business. Such factors include:
o the failure to solve or difficulty in solving certain technical
obstacles to the transmission of voice conversations over a packet
network;
o delays in the formulation of standards for the transmission of voice
conversations over a packet network; and
o the imposition on packet network operators of access fees, which they
currently do not pay.
It may be difficult or impossible to solve certain technical obstacles
to the transmission of voice conversations over a packet network with the
same quality and reliability of a circuit network. For example, delays or
gaps in the timing of a message are typically not as critical to data
transmissions as they are to voice conversations. The nature of packet
switching makes it difficult to prevent such delays or gaps as well as to
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repair such defects in a way that does not degrade the quality of a voice
conversation. If this problem is not solved, the convergence of circuit and
packet networks may never fully occur or may occur at a much slower rate
than the Company anticipates. It may also be difficult or time-consuming
for the industry to agree to standards incorporating any one solution to
such technical issues if such a solution does exist. Without uniform
standards, substantial convergence of circuit and packet networks may not
occur.
The Company does not expect that these technical problems will be
solved, uniform standards agreed upon or market acceptance of such
solutions to occur in time to generate significant sales opportunities
related to convergence before the second half of 2000. However, convergence
may well take much longer or, as noted above, not fully occur at all.
Moreover, uncertainty regarding the technology or standards employed in
converged networks may cause carriers to delay their purchasing plans.
Finally, the imposition of access fees on packet networks might slow
the convergence of circuit and packet networks. Today, federal regulation
requires an operator of a long distance circuit network to pay an access
fee to the local phone company serving the recipient of a long distance
call. Packet network operators do not currently pay such access fees. In
the future, access fees may be imposed on carriers using packet networks to
transmit voice calls. These access fees might also be imposed on the
termination of "pure" data messages by operators of packet networks. The
imposition of these access fees would reduce the economic advantages of
using packet networks for voice and other transmissions, which may slow the
convergence of circuit and packet networks.
IF THE COMPANY'S INFRASTRUCTURE PRODUCTS DO NOT PLAY AN INTEGRAL ROLE IN
THE ARCHITECTURE FOR CONVERGED CIRCUIT AND PACKET NETWORKS, THE COMPANY'S
BUSINESS AND PROFITABILITY WOULD SUFFER.
Many of the Company's principal products are designed to facilitate a
particular type of network architecture called Signaling System #7, or SS7.
If this technology does not play a significant role in future network
architecture for converged networks, the Company's products will become
less competitive or obsolete. There can be no assurances that SS7 or the
Company's products will play a key role as network architecture designs for
converged circuit and packet networks evolve. In addition, SS7 may be
modified substantially for the architecture of converged networks. If this
modification occurs, the Company may need to substantially change or adapt
its product design. Any of these changes or adaptations may be costly.
Moreover, the Company may not be able to respond to this modification in a
timely manner, or at all.
CUSTOMERS MAY PREFER FULLY INTEGRATED SWITCHING SOLUTIONS OFFERED BY THE
COMPANY'S COMPETITORS.
The Company's product strategy is to develop and provide only certain
parts of a network switch which would be used in converged circuit and
packet networks. This means that the Company's new IP7 Secure Gateway and
VoX Gateway Controller will need to be deployed with the products of other
manufacturers in order to constitute a complete switching solution for a
converged network. Some of the Company's competitors, including Lucent,
Nortel and Cisco, intend to manufacture fully integrated switches for
converged networks that would not require any of the Company's products.
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Some or all of the Company's customers or potential customers may prefer to
purchase such a fully integrated switching product rather than purchasing
the Company's convergence switching products. They may prefer a fully
integrated switch, even if the Company's convergence switching products are
offered with the switch components made by others. Customers may choose
this option because of the convenience of "one-stop shopping," or because
they believe that the fully integrated products are superior. If a
significant number of the Company's potential customers prefer a fully
integrated solution made entirely by one manufacturer, the Company's
strategy could fail because its products do not achieve broad market
acceptance for converged networks, and its business could suffer.
THE COMPANY'S DEPENDENCE ON STRATEGIC RELATIONSHIPS WITH MANUFACTURERS OF
OTHER PRODUCTS MAKES IT POTENTIALLY VULNERABLE TO THE ACTIONS AND
PERFORMANCE OF OTHER MANUFACTURERS.
Because the Company's new IP7 Secure Gateway and VoX Gateway
Controller will need to be bundled with the products of other manufacturers
in order to constitute a switch in converged circuit and packet networks,
the Company may be adversely affected by the actions of the manufacturers
of the other necessary switch elements. First, these manufacturers may not
choose to make their product designs compatible with the Company's
products. Second, those manufacturers who do choose to make their products
compatible with the Company's products may not develop or deliver their
products on a timely basis, or may not develop products which perform as
expected or are priced competitively. Third, manufacturers of these
products may also subsequently change the design of their products in a
manner which makes it difficult or impossible to make the Company's
products compatible. Fourth, manufacturers of these products may decide to
develop a fully integrated network switch for converged networks and may
cease selling non-integrated switching products. Finally, because the
Company intends to market a product which incorporates network switching
products made by others, any other manufacturer who markets the Company's
products together with its products may terminate or cease to fully support
its efforts to sell the Company's products. All of these actions will be
outside of the Company's control. Any of these actions could materially and
adversely affect the Company's business and profitability.
IF UNIFORM STANDARDS ARE ACCEPTED WHICH VARY SIGNIFICANTLY FROM THE
STANDARDS THAT THE COMPANY HAS PROPOSED FOR ONE PART OF THE ARCHITECTURE
FOR CONVERGED CIRCUIT AND PACKET NETWORKS, THE COMPANY'S BUSINESS AND
PROFITABILITY COULD BE MATERIALLY AND ADVERSELY AFFECTED.
There are currently no uniform governing standards with respect to the
architecture of the converged circuit switched and packet switched
networks. The Company has submitted particular proposals for one part of
these standards to various standards governing bodies, which would allow
the Company's new IP7 Secure Gateway to interface with other elements of a
network switch in a converged network. If the Company's interface, which is
named the TALI interface, is not adopted or if it is adopted in a different
form, the Company may need to substantially modify its product design. Such
modifications may be costly, may take a significant amount of time and may
not prove successful. Any of these would cause the Company's business and
operating results to suffer.
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IF THE COMPANY'S PRODUCTS DO NOT SATISFY CUSTOMER DEMAND FOR PERFORMANCE OR
PRICE, THE COMPANY'S CUSTOMERS COULD PURCHASE PRODUCTS FROM ITS COMPETITORS.
If the Company is not able to compete successfully against its current and
future competitors, its current and potential customers may choose to purchase
similar products offered by the Company's competitors, which would negatively
affect the Company's revenues. The Company faces formidable competition from a
number of companies offering a variety of network infrastructure, diagnostics or
call center products. The markets for the Company's products are subject to
rapid technological changes, evolving industry standards and regulatory
developments. The Company's competitors include many large domestic and
international companies as well as many smaller established and emerging
technology companies. The Company competes principally on the basis of:
o product performance and functionality;
o product quality and reliability;
o customer service and support; and
o price.
Many of the Company's competitors have substantially greater financial
resources, product development, marketing, distribution and support
capabilities, name recognition and other resources than the Company. The Company
anticipates that competition will continue to intensify with the anticipated
convergence of voice and data networks. The Company may not be able to compete
effectively or to maintain or capture meaningful market share, and the Company's
business could be harmed, if the Company's competitors' solutions provide higher
performance, offer additional features and functionality or are more reliable or
less expensive than the Company's products. Increased competition could force
the Company to lower its prices or take other actions to differentiate its
products, which could adversely affect its operating results.
THE COMPANY DEPENDS ON A LIMITED NUMBER OF CUSTOMERS, AND THE LOSS OF ANY OF
THESE CUSTOMERS COULD ADVERSELY AFFECT THE COMPANY'S OPERATING RESULTS.
Historically, a limited number of customers has accounted for a significant
percentage of the Company's revenues in each fiscal quarter. Less than 10% of
the Company's customers accounted for 70% of the Company's revenues in each of
1998 and 1999. The Company anticipates that its operating results in any given
period will continue to depend to a significant extent upon revenues from a
small number of customers. In addition, the Company anticipates that the mix of
customers in each fiscal period will continue to vary. In order to increase its
revenues, the Company will need to attract additional significant customers on
an ongoing basis. Its failure to sell a sufficient number of products or to
obtain a sufficient number of significant customers during a particular period
could adversely affect its operating results.
IF THE COMPANY FAILS TO DEVELOP OR INTRODUCE NEW PRODUCTS IN A TIMELY FASHION,
ITS BUSINESS WILL SUFFER.
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If the Company fails to develop or introduce on a timely basis new products or
product enhancements that achieve market acceptance, its business will suffer.
The markets for the Company's network infrastructure and diagnostics products
are characterized by rapidly changing technology, frequent new product
introductions and enhancements and evolving industry standards. The Company's
success will depend to a significant extent upon its ability to accurately
anticipate the evolution of new products and technologies and to enhance its
existing products. It will also depend on the Company's ability to develop and
introduce innovative new products that gain market acceptance. Finally, sales of
both the Company's network infrastructure and its diagnostics products depend in
part on the continuing development and deployment of emerging standards and new
services based on these standards. There can be no assurances that the Company
will be successful in selecting, developing, manufacturing and marketing new
products or enhancing its existing products on a timely or cost-effective basis.
Moreover, the Company may encounter technical problems in connection with its
product development that could result in the delayed introduction of new
products or product enhancements. In addition, products or technologies
developed by others may render the Company's products noncompetitive or
obsolete.
THE COMPANY MAY BE UNABLE TO ACHIEVE THE ANTICIPATED BENEFITS FROM THE IEX
ACQUISITION IF IEX DOES NOT PERFORM ACCORDING TO THE COMPANY'S EXPECTATIONS OR
IF THE COMPANY DOES NOT INTEGRATE IEX INTO THE COMPANY'S OPERATIONS EFFECTIVELY.
The Company expects that its acquisition of IEX Corporation will result in
certain benefits to the Company, including: expanding the Company's potential
market for network infrastructure products; broadening its product offerings;
and acquiring additional engineering and technology resources. The Company's
acquisition of IEX creates a number of risks that the Company must address to
realize these benefits. First, the company's customers may not accept IEX's
network infrastructure products when sold in conjunction with the Company's
products. Second, the Company must successfully complete the integration of IEX
into the Company's existing business according to the Company's plans. In
particular, the Company will need to coordinate the respective sales and
marketing teams of IEX and Tekelec, which may pose unanticipated risks. Third,
if any of the Company's material assumptions regarding the business prospects
for IEX at the time of the acquisition were materially inaccurate, the Company
may not accomplish its strategic objectives and its business, financial
condition and operating results could be adversely affected. Finally, the
Company incurred substantial non-recurring charges in 1999 in connection with
the acquisition of IEX. There can be no assurances that the Company will not
incur additional material charges in subsequent quarters to reflect additional
costs associated with its ownership of IEX. If the Company's products do not
adequately address these risks, the Company may not realize the anticipated
benefits, and its business and operating results could be adversely affected.
LITIGATION RELATED TO PRODUCT LIABILITY CLAIMS COULD BE EXPENSIVE AND COULD
NEGATIVELY AFFECT THE COMPANY'S PROFITABILITY.
Products as complex as the Company's may contain undetected errors when
first introduced or as new versions are released. Such errors, particularly
those that result in a failure of the Company's switching products or
telecommunications networks, could harm the Company's customer relationships and
business. There can be no assurances that the
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Company's products will not have these kinds of errors. A product liability
claim brought against the Company could result in costly, protracted, highly
disruptive and time consuming litigation, which would harm the Company's
business. In addition, the Company may be subject to claims arising from its
failure to properly service or maintain its products or to adequately remedy
defects in its products once such defects have been detected. The Company's
agreements with its customers typically contain provisions designed to limit its
exposure to potential product liability claims. However, it is possible that the
limitation of liability provisions contained in the Company's agreements may not
be effective under the laws of some jurisdictions, particularly since the
Company has significant international sales. Although the Company maintains
product liability insurance, it may not be sufficient to cover all claims to
which the Company may be subject. The successful assertion against the Company
of one or a series of large uninsured claims would harm the Company's business.
Although the Company has not experienced any significant product liability
claims to date, the Company's sale and support of products may entail the risk
of these types of claims, and subject the Company to such claims in the future.
IF CUSTOMERS DO NOT CONTINUE TO PURCHASE TEST SYSTEMS, THE COMPANY'S DIAGNOSTICS
BUSINESS WOULD BE HARMED.
The future success of the Company's diagnostics business will depend on
continued growth in the market for telecommunications test systems and services
and the continued commercial acceptance of the Company's diagnostics products as
solutions to address the testing requirements of telecommunications equipment
manufacturers and network operators. While most of the Company's existing and
potential customers have the technical capability and financial resources to
produce their own test systems and perform test services internally, many have
chosen to purchase a substantial portion of their test equipment needs. There
can be no assurances that the Company's customers will continue to purchase
their test systems from third parties or that potential new customers will
purchase test equipment. Even if they do, they may choose the diagnostics
products and services offered by the Company's competitors.
Certain of the Company's customers in the diagnostics market also
manufacture network systems products that compete or may compete with the
Company's current or future network systems products. Increasing competition in
the network systems market may cause these customers to reduce their purchases
of the Company's diagnostics products.
THE COMPANY IS DEPENDENT ON RELATIONSHIPS WITH STRATEGIC PARTNERS AND
DISTRIBUTORS AND OTHER RESELLERS.
The Company believes that its ability to compete successfully against other
network systems product manufacturers depends in part on distribution and
marketing relationships with leading communications equipment suppliers. If the
Company cannot successfully enter these types of relationships on favorable
terms to the Company or maintain these relationships, the Company's business may
suffer.
In addition, the Company expects to increasingly rely on the deployment of its
products with those of other manufacturers, systems integrators and other
resellers, both domestically and internationally. To the extent the Company's
products are so incorporated, the Company depends on the timely and successful
development of those other products. Although the
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Company currently has a network of distributors for its diagnostics products
and use distributors only to a limited extent or not at all with respect to its
other product lines, the Company may expand its distribution activities with
respect to its other products, including network infrastructure products.
In addition, the Company acts as an original equipment manufacturer,
commonly referred to as an "OEM," with respect to some of the products that it
manufactures and sells to resellers. A number of these resellers market the
Company's products with their products. If these resellers are unable to develop
their products in a timely fashion or are unable to gain market acceptance,
their demand for the Company's products will decrease, which would negatively
impact the Company's revenues. In addition, because the Company competes
directly with some of its OEM customers, those customers may choose to purchase
products from other vendors with whom they do not compete.
THE COMPANY'S COMPLIANCE WITH TELECOMMUNICATIONS REGULATIONS AND STANDARDS MAY
BE DIFFICULT AND COSTLY, AND IF THE COMPANY FAILS TO COMPLY, ITS PRODUCT SALES
WOULD DECREASE.
In order to maintain market acceptance, the Company's products must
continue to meet a significant number of regulations and standards. In the
United States, the Company's products must comply with various regulations
defined by the Federal Communications Commission and Underwriters Laboratories
as well as standards established by Telcordia (formerly Bell Telecommunications
Research). Internationally, the Company's products must comply with standards
established by telecommunications authorities in various countries as well as
with recommendations of the International Telecommunications Union. As these
standards evolve, the Company will be required to modify its products or develop
and support new versions of its products. The failure of the Company's products
to comply, or delays in compliance, with the various existing and evolving
industry standards could delay introduction of its products, which could harm
the Company's business.
In order to penetrate the Company's target markets, it is important that
the Company ensures the interoperability of its products with the operations,
administration, maintenance and provisioning systems used by the Company's
customers. To ensure this interoperability, the Company periodically submits its
products to technical audits. The Company's failure or delay in obtaining
favorable technical audit results could adversely affect its ability to sell
products to some segments of the communications market.
Government regulatory policies are likely to continue to have a major
impact on the pricing of existing as well as new public network services and,
therefore, are expected to affect demand for such services and the
communications products, including the Company's products, that support such
services. Tariff rates, whether determined autonomously by carriers or in
response to regulatory directives, may affect cost effectiveness of deploying
public network services. Tariff policies are under continuous review and are
subject to change. User uncertainty regarding future policies may also affect
demand for communications products, including the Company's products. In
addition, the convergence of circuit and packet networks could be subject to
governmental regulation. Regulatory initiatives in this area could adversely
affect the Company's business.
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THE COMPANY HAS SIGNIFICANT INTERNATIONAL SALES, AND INTERNATIONAL MARKETS HAVE
INHERENT RISKS.
International sales are subject to inherent risks, including unexpected
changes in regulatory requirements and tariffs, difficulties in staffing and
managing foreign operations and distributors, longer payment cycles, greater
difficulty in accounts receivable collection and potentially adverse tax
consequences. Doing business overseas is generally more costly than doing
business in the United States. The Company sells its products worldwide through
its direct sales forces, distributors and other resellers and wholly owned
subsidiaries in Japan and the United Kingdom. International sales accounted for
27% in 1997, 31% in 1998 and 23% in 1999. The Company's sales through its
Japanese subsidiary, and to a limited extent, other sales, are denominated in
local currencies while other international sales are U.S. dollar-denominated.
The Company expects that international sales will continue to account for a
significant portion of its revenues in future periods.
Exchange rate fluctuations on foreign currency transactions and
translations arising from international operations may contribute to
fluctuations in the Company's business and operating results. Fluctuations in
exchange rates could also affect demand for the Company's products. If, for any
reason, exchange or price controls or other restrictions in foreign countries
are imposed, the Company's business and operating results could suffer. In
addition, any inability to obtain local regulatory approvals in foreign markets
on a timely basis could harm the Company's business.
In particular, if the Company is not able to manage its planned expansion
into Europe, the Company's business may suffer. In addition, the Company is
relatively unknown in Europe, and the Company may have difficulty establishing
relationships or building name recognition there, which could adversely affect
its performance in this market. Moreover, European telecommunications networks
generally have a different structure, and the Company's products may not be
completely compatible with this different structure. As a result, the Company's
products may not be competitive with those of its competitors in Europe.
Access to foreign markets is often difficult due to the established
relationships between a government-owned or controlled communications operating
company and its traditional indigenous suppliers of communications equipment.
These foreign communications networks are in many cases owned or strictly
regulated by government. There can be no assurances that the Company will be
able to successfully penetrate these markets, particularly for its switching
products.
THE COMPANY'S LOSS OF SERVICES OF KEY PERSONNEL OR FAILURE TO ATTRACT AND RETAIN
ADDITIONAL KEY PERSONNEL COULD ADVERSELY AFFECT THE COMPANY'S BUSINESS.
The Company depends to a significant extent upon the continuing services
and contributions of its senior management team and other key personnel,
particularly Michael L. Margolis, its Chief Executive Officer and President;
Cecil Boyd, its Senior Vice President and General Manager, Network Systems
Division; Danny Parker, its Vice President and General Manager, Network
Diagnostics Division; Lee Smith, its Vice President, Strategy and Business
Development; and Gary Crockett, its Chief Technical Officer. The Company does
not have long-term employment agreements or other arrangements with its
employees which would prevent them from leaving Tekelec. The Company's future
success also depends upon
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its ongoing ability to attract and retain highly skilled personnel. Competition
for these employees is intense. The Company is currently actively searching for
a Chief Financial Officer. The Company's business could suffer if it were to
lose any key personnel and not be able to find appropriate replacements in a
timely manner or if it were unable to attract and retain additional highly
skilled personnel.
THERE CAN BE NO ASSURANCES THAT THE COMPANY'S MEASURES TO PROTECT ITS
PROPRIETARY TECHNOLOGY AND OTHER INTELLECTUAL PROPERTY RIGHTS ARE ADEQUATE.
The Company's success depends to a significant degree on its proprietary
technology and other intellectual property. Although the Company regards its
technology as proprietary, it has sought only limited patent protection. The
Company relies on a combination of patents, copyrights, trademarks, trade
secrets, confidentiality agreements and contractual restrictions to establish
and protect its proprietary rights. These measures, however, afford only limited
protection and may not prevent third parties from misappropriating the Company's
technology or other intellectual property. In addition, the laws of certain
foreign countries do not protect the Company's proprietary rights to the same
extent as do the laws of the United States, which makes misappropriation of the
Company's technology and other intellectual property more likely. If the Company
fails to successfully enforce or defend its intellectual property rights or if
it fails to detect misappropriation of its proprietary rights, the Company's
ability to effectively compete could be seriously impaired.
The Company's pending patent and trademark registration applications may
not be allowed, and the Company's competitors may challenge the validity or
scope of the Company's patent or trademark registration applications. In
addition, the Company may face challenges to the validity or enforceability of
its proprietary rights and litigation may be necessary to enforce and protect
its rights, to determine the validity and scope of its proprietary rights and
the rights of others, or to defend against claims of infringement or invalidity.
Any such litigation would be expensive and time consuming, would divert the
Company's management and key personnel from business operations and would likely
harm its business and operating results.
IF THIRD PARTIES CLAIM THAT THE COMPANY IS INFRINGING THEIR INTELLECTUAL
PROPERTY, THE COMPANY MAY BE PREVENTED FROM SELLING CERTAIN PRODUCTS AND INCUR
SIGNIFICANT EXPENSES TO RESOLVE THESE CLAIMS.
Third parties may claim that the Company is infringing their intellectual
property rights. Any claims made against the Company regarding patents or other
intellectual property rights could be expensive and time consuming to resolve or
defend, would divert the Company's management and key personnel from its
business operations and may require the Company to modify or cease marketing its
products, develop new technologies or products, acquire licenses to proprietary
rights that are the subject of the infringement claim or refund to its customers
all or a portion of the amounts they paid for infringing products. If such
claims are asserted, there can be no assurances that it would prevail or be able
to acquire any necessary licenses on acceptable terms, if at all. In addition,
the Company may be requested to defend and indemnify certain of its customers
and resellers against claims that its products infringe the proprietary rights
of others. The Company may also be subject to potentially significant damages or
injunctions against the sale of certain products or use of certain technologies.
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30
The Company receives from time to time claims of infringement from third
parties or otherwise becomes aware of relevant patents or other intellectual
property rights of third parties that may lead to disputes. Although the Company
believes that its intellectual property rights are sufficient to allow it to
sell its existing products without violating the valid proprietary rights of
others, there can be no assurances that the Company's technologies or products
do not infringe on the proprietary rights of third parties or that such parties
will not initiate infringement actions against the Company.
IF THE COMPANY IS UNABLE TO PROCURE SOME OF ITS SUBSYSTEMS AND COMPONENTS FROM
OTHER MANUFACTURERS, THE COMPANY MAY NOT BE ABLE TO OBTAIN SUBSTITUTE SUBSYSTEMS
OR COMPONENTS ON TERMS THAT ARE AS FAVORABLE.
Certain of the Company's products contain subsystems or components acquired
from other OEMs. These OEM products are often available only from a limited
number of manufacturers. In the event that an OEM product becomes unavailable
from a current OEM vendor, second sourcing would be required. This sourcing may
not be available on reasonable terms, if at all, and could delay customer
deliveries, which could adversely affect the Company's business.
ITEM 2. PROPERTIES
The Company's executive offices and principal manufacturing operations are
located in Calabasas, California at a facility consisting of approximately
58,000 square feet. The Company leases the facility under a lease expiring in
November 2004, subject to a five-year renewal option.
The Company also occupies a 155,000 square-foot facility in Morrisville,
North Carolina under a lease expiring in November 2009. This facility is used
primarily for engineering, product development, customer support and regional
sales activities for the Company network systems products and the Company's
network diagnostics products.
The Company's IEX subsidiary leases a facility consisting of approximately
88,000 square feet in Richardson, Texas under a lease expiring in May 2003,
subject to a five-year renewal option. The IEX facility is used for engineering,
product development, customer support, and general administrative and sales
activities for certain of the Company's network systems products and the
Company's call center products.
The Company also has seven regional sales offices occupying an aggregate of
approximately 9,500 square feet under leases expiring between 2000 and 2004 in
Campbell, California; Vista, California; Englewood, Colorado; Duluth, Georgia;
Lombard, Illinois; Tinton Falls, New Jersey; and Irving, Texas.
The Company's Japanese subsidiary occupies approximately 10,400 square feet
in Tokyo under leases expiring between April 2000 and November 2001. The
Company's subsidiary in the United Kingdom occupies approximately 1,700 square
feet in Staines under a month-to-month lease.
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The Company believes that its existing facilities will be adequate to meet
the Company's needs at least through 2000, and that the Company will be able to
obtain additional space when, where and as needed on acceptable terms.
ITEM 3. LEGAL PROCEEDINGS
Inapplicable
ITEM 4. SUBMISION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Inapplicable
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock is traded over the counter on The Nasdaq Stock
Market under the symbol TKLC. The following table sets forth the high and low
closing sales prices for the Common Stock, as reported on The Nasdaq Stock
Market. As of March 1, 2000, there were 261 record holders of the Company's
Common Stock and approximately 9,500 beneficial holders based on information
provided by the Company's transfer agent and proxy solicitation agent.
High Low
---------- ---------
1998
First Quarter........................... $ 22.69 $ 14.05
Second Quarter.......................... 25.13 19.94
Third Quarter........................... 24.63 13.75
Fourth Quarter.......................... 22.25 10.63
1999
First Quarter........................... $ 22.25 $ 7.09
Second Quarter.......................... 12.19 6.69
Third Quarter........................... 17.19 9.13
Fourth Quarter.......................... 23.50 12.19
The Company has never paid a cash dividend. It is the present policy of the
Company to retain earnings to finance the growth and development of its business
and, therefore, the Company does not anticipate paying cash dividends on its
Common Stock in the foreseeable future.
On November 2, 1999, the Company issued $135,000,000 principal amount in
maturity of its 3.25% Convertible Subordinated Discount Notes due 2004 (the
"Notes") in a private placement and without registration in reliance on Section
4(2) of the Securities Act of 1933, as amended (the "Securities Act"). The issue
price of the Notes was 85.35% of the principal amount at maturity, and the total
gross proceeds to the Company were $115,227,900 before discounts and expenses.
The Notes are convertible into Common Stock of the Registrant at any time on or
after January 31, 2000, unless previously redeemed or otherwise repurchased by
the Registrant. The conversion rate
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of the Notes is 56.3393 shares of Common Stock per $1,000 principal amount at
maturity, subject to adjustment in certain events. The Company sold the Notes to
Deutsche Bank Securities Inc. and Warburg Dillon Read LLC as the initial
purchasers, and the initial purchasers have advised the Company that they resold
the Notes only to "Qualified Institutional Buyers" (as defined in Rule 144A
under the Securities Act) in compliance with Rule 144A and, outside of the
United States, to investors that were not "United States persons" as defined in
Rule 902 of Regulation S under the Securities Act.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
The statement of operations data included in the selected consolidated
financial data set forth below for the years ended December 31, 1999, 1998 and
1997 and the balance sheet data set forth below at December 31, 1999 and 1998
are derived from, and are qualified in their entirety by reference to, the
Company's audited consolidated financial statements and notes thereto included
in this Annual Report on Form 10-K. The statement of operations data set forth
below for the years ended December 31, 1996 and 1995 and the balance sheet data
set forth below at December 31, 1997, 1996 and 1995 are derived from audited
consolidated financial statements of the Company, which are not included herein.
FIVE-YEAR SELECTED FINANCIAL DATA
FOR THE YEARS ENDED DECEMBER 31, 1999 1998 1997 1996 1995
------------------------------------------------------
(thousands, except per-share data)
STATEMENT OF OPERATIONS DATA:
Revenues ..................................... $226,068 $176,669 $125,140 $ 72,126 $ 75,276
Income (Loss) before provision
for income taxes .......................... 10,229 55,551 29,741 (284) 8,450
Net income (loss) ............................ 444 39,209 28,996 (2,511) 6,311
Earnings (Loss) per share:
Basic ................................... $ 0.01 $ 0.73 $ 0.58 $ (0.05) $ 0.15
Diluted ................................. 0.01 0.67 0.51 (0.05) 0.13
Weighted average number of shares outstanding:
Basic ................................... 54,931 53,518 50,408 47,100 42,116
Diluted ................................. 58,690 58,708 56,842 47,100 48,207
BALANCE SHEET DATA (at December 31):
Cash and investments ......................... $106,664 $113,774 $ 70,518 $ 44,244 $ 43,609
Working capital .............................. 127,702 108,762 86,354 44,688 56,983
Total assets ................................. 394,434 210,210 136,465 82,518 80,488
Long-term liabilities ........................ 137,552 2,252 2,839 1,061 380
Shareholders' equity ......................... 176,595 165,777 107,877 61,751 63,607
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion should be read in conjunction with, and is
qualified in its entirety by, the consolidated financial statements and the
notes thereto included in this Annual Report on Form 10-K. Historical results
and percentage relationships among any amounts in the financial statements are
not necessarily indicative of trends in operating results for any future
periods.
OVERVIEW
In May 1999, the Company acquired all of the outstanding stock of IEX
Corporation ("IEX"), which develops, markets and sells solutions for intelligent
networks, call centers and other telecommunications markets.
The Company's product offerings are currently organized along three
distinct product lines: network systems, network diagnostics and call center.
Network Systems Products. Prior to the Company's May 1999 acquisition of
IEX, the Company's network systems product line was known as the network
switching product line and consisted principally of the Eagle STP and products,
features and applications based on the Eagle platform, including the IP7 Secure
Gateway and the Company's local number portability solution. As a result of the
acquisition of IEX, the network systems product line has been expanded to
include IEX's network products, including, among others, Network Switch, Service
Node, Service Control Point, VoX Gateway Controller, Prepaid Services and other
convergence products.
Network Diagnostics Products. In January 1999, the Company scaled back its
data network diagnostics product line and integrated it into its intelligent
network diagnostics product line. Prior to that time, the Company treated these
product lines separately for organizational and financial reporting purposes.
Since that time, the Company has reported these products together as the network
diagnostics product line. This product line consists principally of the MGTS and
i3000 families of diagnostics products and the Sentinel network surveillance
system.
Call Center Products. The Company's IEX call center business develops and
supplies software-based solutions for call centers, and its products include the
TotalView Workforce Management and TotalNet Call Routing solutions.
IEX Acquisition. The Company accounted for the IEX acquisition under the
purchase method of accounting, and the results of operations for 1999 include
the results of operations of IEX following the close of the acquisition on May
7, 1999. In connection with the acquisition, the Company also recorded
approximately $133.4 million of goodwill and other intangible assets, net of
related deferred income tax liabilities. During the second quarter of 1999 and
in connection with the acquisition of IEX, the Company recorded a charge of $6.0
million related to the write-off of purchased in-process research and
development and an additional $830,000 charge for the write-off of certain
assets made redundant by the acquisition.
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RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the
percentages that statement of operations items bear to total revenues:
PERCENTAGE OF REVENUES
FOR THE YEARS ENDED DECEMBER 31,
-------------------------------
1999 1998 1997
-------------------------------
Revenues ............................................ 100.0% 100.0% 100.0%
Cost of goods sold ............................. 34.3 33.3 33.2
Amortization of purchased technology ......... 2.8 -- --
----- ----- -----
Gross profit ........................................ 62.9 66.7 66.8
Research and development ....................... 18.7 14.9 16.8
Selling, general and administrative ............ 28.4 22.9 27.9
Amortization of goodwill and other purchased
intangibles .................................. 7.0 -- --
Acquired in-process research and development and
other acquisition-related charges ............ 3.0 -- --
Restructuring .................................. 0.8 -- --
----- ----- -----
Income from operations .............................. 5.0 28.9 22.1
Interest and other income (expense), net ....... (0.5) 2.6 1.7
----- ----- -----
Income before provision for income taxes ............ 4.5 31.5 23.8
Provision for income taxes ..................... 4.3 9.3 0.6
----- ----- -----
Net income ..................................... 0.2% 22.2% 23.2%
===== ===== =====
The following table sets forth, for the periods indicated, the
revenues by principal product line as a percentage of total revenues:
PERCENTAGE OF REVENUES
FOR THE YEARS ENDED DECEMBER 31,
----------------------------------
1999 1998 1997
----------------------------------
Network systems...................................... 61% 66% 58%
Network diagnostics.................................. 30 34 42
Call center.......................................... 9 -- --
---- ---- ----
Total......................................... 100% 100% 100%
==== ==== ====
The following table sets forth, for the periods indicated, the
revenues by geographic territory as a percentage of total revenues:
PERCENTAGE OF REVENUES
FOR THE YEARS ENDED DECEMBER 31,
-------------------------------------
1999 1998 1997
--------------------------------------
North America................................... 77% 69% 73%
Japan .......................................... 10 12 13
Europe.......................................... 4 4 5
Rest of World................................... 9 15 9
---- ---- ----
Total ................................... 100% 100% 100%
==== ==== ====
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1999 COMPARED WITH 1998
Revenues. The Company's revenues increased by $49.4 million, or 28%, during
1999 due primarily to the inclusion of post-acquisition IEX product sales
following the acquisition of IEX in May 1999, and secondarily to increased Eagle
STP switching and network diagnostics product sales.
Revenues from network systems products increased by $21.5 million, or 19%,
to $137.8 million due primarily to the addition of sales of IEX's intelligent
network products and higher Eagle STP products sales including increased
extension and upgrade sales, as well as initial sales of the Company's IP7
Secure Gateway product.
Revenues from network diagnostics products increased by $6.6 million, or
11%, to $64.9 million due to higher sales of intelligent network diagnostics
products partially offset by lower sales of data network diagnostics products.
Revenues from call center products following the acquisition of IEX in May
1999 added $21.1 million in 1999.
Revenues in North America increased by $52.3 million, or 43%, primarily as
a result of the inclusion of post-acquisition IEX product sales and secondarily
due to higher sales of Eagle STP switching and network diagnostics products.
Sales in Japan were flat due to lower Chameleon and MGTS product sales, offset
by higher sales of MGTS-related development services and an increase of $2.9
million from the impact of currency translations. Revenues in Europe increased
by $2.0 million, or 26%, due to higher network systems product sales partially
offset by lower network diagnostics products. Rest of world revenues decreased
by $4.9 million, or 19%, due primarily to lower network systems product sales.
The impact of exchange rate fluctuations on currency translations increased
revenues by $2.9 million, or 1%, and did not have a material effect on net
income.
The Company believes that its future revenue growth depends in large part
upon a number of factors, including the continued market acceptance of the
Company's Eagle product and related applications and Sentinel diagnostics
products, and market acceptance of the recently introduced suite of products for
converged circuit and packet networks, including the IP7 Secure Gateway, and VoX
Gateway Controller network systems products and the i3000 and IP 7 Sentinel
diagnostics products.
Gross Profit. Gross profit as a percentage of revenues decreased to 62.9%
in 1999 compared with 66.7% in 1998. The decrease in gross margins was primarily
due to the amortization of purchased technology acquired from IEX and a higher
proportion of lower margin sales in Japan, primarily development services.
Excluding the amortization of purchased technology related to the IEX
acquisition, gross profit as a percentage of sales was 65.7% for 1999. Changes
in the following factors, among others, may affect gross profit: product and
distribution channel mix; competition; customer discounts; supply and demand
conditions in the electronic components industry; internal manufacturing
capabilities and efficiencies; foreign currency fluctuations; and general
economic conditions.
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Research and Development. Research and development expenses increased
overall by $15.9 million, or 60%, and increased as a percentage of revenues to
18.7% in 1999 from 14.9% in 1998. The dollar increase was attributable
principally to the inclusion of post-acquisition IEX research and development
expenses and increased expenses incurred in connection with the hiring of
additional personnel for product development and enhancements for both network
systems and network diagnostics products, primarily related to the Company's
continued development of products to address the Internet Protocol/SS7 market.
Based on present product development plans, the Company expects that research
and development expenses for 2000 will increase in dollars when compared to
1999.
The Company intends to continue to make substantial investments in product
and technology development and believes that its future success depends in large
part upon its ability to continue to enhance existing products and to develop or
acquire new products that maintain the Company's technological competitiveness.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by $23.8 million, or 59%, and increased as a
percentage of revenues to 28.4% in 1999 from 22.9% in 1998. The dollar increase
was primarily due to the inclusion of post-acquisition IEX selling, general and
administrative expenses and higher personnel and infrastructure-related expenses
incurred to support the growing Eagle STP installed base and anticipated higher
sales levels. The increase in these expenses over 1998 levels was also due to a
$1.7 million insurance settlement realized in 1998 which benefited the 1998
expenses. The company expects that selling, general and administrative expenses
for 2000 will increase in dollars when compared to 1999.
Interest and Other Income (Expense). Interest income decreased by $555,000,
or 12%, due to lower invested cash balances primarily as a result of cash paid
in connection with the acquisition of IEX. Interest expense of $4.9 million was
due to interest incurred for short-term notes issued in connection with the
acquisition of IEX and convertible debt issued to refinance the short-term
notes.
Income Taxes. The income tax provision for 1999 was $9.8 million and
reflected the effect of non-deductible acquisition-related costs, partially
offset by a benefit of $3.6 million from the utilization of deferred tax
liabilities related to certain of these acquisition-related costs. Excluding the
effect of these acquisition-related items, an estimated effective tax rate of
35% was applied and represented federal, state and foreign taxes on the
Company's income, reduced primarily by research and development and foreign tax
credits, compared to an effective tax rate of 36% for 1998. The decrease in the
effective tax rate was due to a higher proportion of research and development
expenses and corresponding tax credits. The Company expects that its effective
tax rate, excluding the effect of acquisition-related items, will be 36% for
2000.
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1998 COMPARED WITH 1997
Revenues
The Company's revenues increased by $51.5 million, or 41%, during 1998 due
to higher sales of both network systems products and network diagnostics
products.
Revenues from network systems products increased by 62%, or $44.3 million,
to $116.3 million due primarily to increased Eagle STP market acceptance
worldwide as reflected by higher international sales, increased sales of
upgrades and software enhancements to the Company's larger Eagle STP installed
base and higher sales of Local Number Portability (LNP) and Local Service
Management System (LSMS) features. In 1998, the Company sold 62 pairs of Eagle
STPs compared with 45 pairs in 1997.
Revenues from network diagnostics products increased by 22%, or $10.5
million, to $58.3 million. This increase was primarily driven by higher sales of
development services in Japan and the addition of sales of the Company's
Sentinel product domestically, partially offset by lower sales of the Company's
Chameleon products in all markets.
Revenues in North America increased by $29.9 million, or 33%, as a result
of higher network systems and MGTS product sales, partially offset by lower
Chameleon product sales. Revenues in Japan increased by $5.6 million, or 34%,
due primarily to higher sales of MGTS-related development services and
third-party data diagnostics products, partially offset by lower Chameleon and
MGTS product sales. Revenues in Europe increased by $1.1 million, or 16%, due to
higher network systems product sales. Other international revenues increased by
$15.0 million, 141%, primarily due to higher network systems product sales
including a large sale in South Africa.
The impact of exchange rate fluctuations on currency translations, which
consisted primarily of the translation of Japanese yen into U.S. dollars,
decreased revenues by approximately $1.5 million, or 1%, and did not have a
significant impact on net income.
Gross Profit
Gross profit as a percentage of revenues was essentially flat at 67%.
Research and Development
Although research and development expenses increased by $5.4 million, or
25%, such expenses decreased as a percentage of revenues from 16.8% in 1997 to
14.9% in 1998. The dollar increase was attributable primarily to ongoing
development expenses in the Network Switching Division with respect to
development of new features for the Eagle products and consisted principally of
expenses incurred in connection with the hiring of additional personnel and
higher depreciation expense resulting from equipment acquisitions.
37
38
Selling, General and Administrative
Although selling, general and administrative expenses increased by $5.5
million, or 16%, such expenses decreased as a percentage of revenues from 28.0%
in 1997 to 22.9% in 1998. The increase in dollars was attributable primarily to
increased infrastructure costs required to meet the needs of the growing Eagle
installed base and to support higher sales levels of switching and intelligent
network diagnostics products. Sales, general and administrative expenses were
reduced in 1998 by the proceeds from the settlement of an insurance claim in the
amount of approximately $1.7 million, net of applicable costs.
Income Taxes
During 1998, the Company recorded tax benefits of $3.7 million resulting
from a reduction of its valuation allowance for deferred taxes, and tax benefits
associated with research and development tax credits. The reduction in the
valuation allowance was based on the Company's improved income trend and
management's assessment of various uncertainties related to the Company's
ability to utilize certain research and development tax credit carryforwards.
For the year ended December 31, 1998, excluding the one-time tax benefits, the
Company had a tax provision of $20.0 million, resulting in an effective tax rate
of 36%. For 1997, the Company had an effective tax rate of 33% excluding a
one-time tax benefit of $9.0 million resulting from a reduction of its valuation
allowance for deferred taxes.
Interest and Other Income (Expense)
Interest income increased by $2.4 million primarily as a result of higher
average investment balances in 1998.
LIQUIDITY AND CAPITAL RESOURCES
General
During 1999, the Company financed net working capital and capital
expenditure requirements principally from operations, available cash, the
proceeds from the issuance of common stock resulting from the exercise of
options and warrants and the proceeds from the issuance of convertible debt. The
Company's principal sources of liquidity for the next year are expected to
consist of its working capital, cash generated by operations, available cash
including funds available under current bank lines of credit and proceeds from
the exercise of options and warrants.
During 1999, cash and cash equivalents increased by $14.7 million to $46.7
million, after net proceeds of $29.1 million from the sale of short-term and
long-term investments. Operating activities, including the effects of exchange
rate changes on cash, provided $32.0 million. Financing activities, which
represented net proceeds from the issuance of convertible debt, the repayment of
short-term notes issued in May 1999 in connection with the Company's acquisition
of IEX and the issuance of common stock upon the exercise of options and
warrants, provided $21.8 million, and investing activities, excluding the net
proceeds from the sale of short-term and long-term investments, used $68.2
million primarily due to cash paid in connection with the acquisition of IEX.
Accounts receivable, including amounts due from related parties, increased
by 51% during 1999 due primarily to higher sales levels. Inventory levels
increased by 89%, primarily to support the higher sales levels and a broader
product offering, including the added IEX
38
39
products. Trade accounts payable increased by 49% during 1999, primarily due to
the inclusion of IEX payables and the increased level of operating expenses
incurred to support product development programs and anticipated higher sales
levels. Deferred revenues increased 197% during 1999 primarily as a result of
the inclusion of IEX deferred revenue and increased extended warranty service
revenues which are deferred and recognized ratably over the warranty period.
Capital expenditures of $13.9 million during 1999 represented the planned
addition of equipment principally for research and development, manufacturing
operations and facility expansion. Technology purchases, excluding purchased
technology recorded in connection with the acquisition of IEX, amounted to $1.6
million, and consisted primarily of software licenses purchased for use in
network infrastructure and diagnostics product applications.
The Company has a $15.0 million line of credit with a U.S. bank and lines
of credit aggregating $2.9 million available to our Japanese subsidiary from
various Japan-based banks.
The Company's $15.0 million credit facility is collateralized by
substantially all of the Company's assets, bears interest at the lender's prime
rate (8.5% at December 31, 1999), and expires on June 30, 2000 if not renewed.
Under the terms of this facility, the Company is required to maintain certain
financial ratios and meet certain net worth and indebtedness tests. In
connection with the May 1999 acquisition of IEX, the Company renegotiated
certain terms of this credit facility, including various financial ratios and
net worth and indebtedness tests, and believes that it is in compliance with
these requirements. There were no borrowings under this credit facility in 1998
or 1999.
The Company's Japanese subsidiary has collateralized yen-denominated lines
of credit with Japan-based banks, primarily available for use in Japan,
amounting to the equivalent of $2.9 million with interest at the Japanese prime
rate (1.375% at December 31, 1999) plus 0.125% per annum which expire between
August 2000 and November 2000, if not renewed. There were no borrowings under
these lines of credit in 1998 or 1999. On November 2, 1999, the Company
completed a private placement of $135,000,000 aggregate principal amount at
maturity of 3.25% convertible subordinated discount notes due 2004. The notes
were issued at 85.35% of their face amount (equivalent to gross proceeds at
issuance of approximately $115,200,000 before discounts and expenses). The gross
proceeds at issuance before discounts and expenses included approximately
$15,200,000 from the sale of notes issued upon the initial purchasers' exercise
in full of their over-allotment option.
On November 2, 1999, the Company completed a private placement of $135.0
million aggregate principal amount at maturity of 3.25% convertible subordinated
discount notes due 2004. The notes were issued at 85.35% of their face amount
(equivalent to gross proceeds at issuance of approximately $115.2 million
before discounts and expenses). The gross proceeds at issuance before discounts
and expenses included approximately $15.2 million from the sale of notes
issued upon the initial purchasers' exercise in full of their over-allotment
option.
The notes are convertible at any time after January 31, 2000 into Tekelec
common stock, unless the notes have been previously redeemed or otherwise
purchased, at a conversion rate of 56.3393 shares per $1,000 principal amount at
maturity (approximately 7.6 million shares in total) which represents a
redemption price of $15.15 per share of common stock. The notes can be redeemed
by the Company after November 2, 2002 at the redemption price together with
accrued but unpaid interest.
The notes were issued with a 14.65% discount and carry a cash interest
(coupon) rate of 3.25%, payable on May 2 and November 2 of each year, commencing
on May 2, 2000. The payment of the principal amount of the notes at maturity
together with cash interest paid over the term of the notes represents a yield
to maturity of 6.75% per year, computed on a semi-annual bond equivalent basis.
Interest expense is computed based on the accretion of the discount, the
39
40
accrual of the cash interest payment and the amortization of expenses related to
the offering of these notes, and amounted to approximately $1.4 million for the
period of November 2, 1999 through December 31, 1999.
The Company believes that its existing working capital, funds generated
through operations, current bank lines of credit and proceeds from the exercise
of options and warrants will be sufficient to satisfy operating requirements for
at least the next twelve months. Nonetheless, the Company may seek additional
sources of capital as necessary or appropriate to fund acquisitions or to
otherwise finance growth or operations. There can be no assurance that such
funds, if needed, will be available on favorable terms, if at all.
Foreign Exchange
International operations are subject to certain opportunities and risks,
including currency fluctuations. In 1999, 1998 and 1997, the percentages by
which weighted average exchange rates for the Japanese yen strengthened
(weakened) against the U.S. dollar were (15%), 7% and 9%, respectively.
The change in cumulative translation adjustments in 1999 was due primarily
to the weakening of the Japanese yen against the U.S. dollar when comparing the
exchange rate at December 31, 1999, to that of December 31, 1998. Realized
exchange gains (losses) are recorded in the period when incurred, and amounted
to $79,000, $56,000 and $(273,000) in 1999, 1998 and 1997, respectively.
Exchange gains and losses include the remeasurement of certain currencies into
functional currencies and the settlement of intercompany balances.
40
41
New Accounting Pronouncements
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" (SAB
101), which provides additional guidance in applying generally accepted
accounting principles to revenue recognition in the financial statements. The
Company is currently evaluating the provisions of SAB 101 and its potential
impact on the Company's revenue recognition policy.
"Safe Harbor" Statement under the Private Securities Litigation Reform Act of
1995
The statements that are not historical facts contained in this Management's
Discussion and Analysis of Financial Condition and Results of Operations and
other sections of this Annual Report on Form 10-K are forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 that
reflect the current belief, expectations or intent of the Company's management.
These statements are subject to and involve certain risks and uncertainties
including, but not limited to, timing of significant orders and shipments and
the resulting fluctuation of the Company's operating results; changes in
customer product mix; customer acceptance of the Company's products; capital
spending patterns of customers; the Company's limited product offerings; risks
relating to the convergence of voice and data networks; competition and pricing;
the Company's relatively limited number of customers; new product introductions
by the Company or its competitors; risks related to the Company's acquisition of
IEX; product liability risks; the continued growth in third party purchases of
diagnostics systems; customer acceptance of the Company's products;
uncertainties relating to the Company's international operations; intellectual
property protection; carrier deployment of intelligent network services; the
level and timing of research and development expenditures; regulatory changes;
general economic conditions; and other risks described in this Annual Report on
Form 10-K and in certain of the Company's other Securities and Exchange
Commission filings. Many of these risks and uncertainties are outside of the
Company's control and are difficult for the Company to forecast or mitigate.
Actual results may differ materially from those expressed or implied in such
forward-looking statements. See also "Business - Business Risk Factors."
41
42
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Inapplicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See the consolidated financial statements of the Company and its
subsidiaries included herein and listed in Item 14 (a) of this Annual Report on
Form 10-K.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item is incorporated by reference to the
sections of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 12, 2000, entitled "Election of Directors" and
"Executive Officers" to be filed with the Commission.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this Item is incorporated by reference to the
sections of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 12, 2000, entitled "Election of Directors -
Compensation of Directors," "Executive Compensation and Other Information,"
"Board of Directors and Compensation Committee Reports on Executive
Compensation" and "Performance Graph," to be filed with the Commission.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this Item is incorporated by reference to the
section of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 12, 2000, entitled "Common Stock Ownership of
Principal Shareholders and Management," to be filed with the Commission.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item is incorporated by reference to the
section of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 12, 2000, entitled "Certain Relationships and
Related Transactions," to be filed with the Commission.
42
43
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) The following documents are filed as part of this Report:
CONSOLIDATED FINANCIAL STATEMENTS PAGE
--------------------------------- ----
o Report of Independent Accountants F-1
o Consolidated Statements of Operations for each of the
three years in the period ended December 31, 1999 F-2
o Consolidated Balance Sheets as of December 31, 1999 and 1998 F-3
o Consolidated Statements of Cash Flow for each of the
three years in the period ended December 31, 1999 F-4
o Consolidated Statements of Shareholders' Equity for each of
the three years in the period ended December 31, 1999 F-6
Consolidated Statements of Comprehensive Income for each
of the three years in the period ended December 31, 1999 F-7
o Notes to Consolidated Financial Statements F-8
CONSOLIDATED FINANCIAL STATEMENT SCHEDULE
o Report of Independent Accountants on Financial Statement
Schedule S-1
o Schedule II Valuation and Qualifying Accounts and Reserves
for each of the three years in the period ended
December 31, 1999 S-2
Schedules which are not listed above have been omitted because they are not
applicable or the information required to be set forth therein is included in
the consolidated financial statements or notes thereto.
LIST OF EXHIBITS
2.1 Agreement and Plan of Reorganization dated as of April 20,
1999 by and among Tekelec, Eagle Lonestar Corporation, IEX
Corporation, IEX Partners, Teknekron Partners II, Gary
Crockett and Stephen Lynn (Pursuant to item 601(b)(2) of
Regulation S-K, certain exhibits and schedules have been
omitted but will be furnished supplementally to the
Commission upon request.) (1)
3.1 Amended and Restated Articles of Incorporation(2)
43
44
3.2 Bylaws, as amended(3)
4.1 Rights Agreement dated as of August 25, 1997 between the
Registrant and U.S. Stock Transfer Corporation as Rights
Agent(4)
4.2 Note and Security Agreement dated as of May 7, 1999 by and
among Tekelec, IEX Corporation and the Significant
Stockholders of IEX Corporation (1)
4.3 Secured Promissory Notes dated as of May 7, 1999 made by
Tekelec and IEX Corporation in favor of each of the
Significant Stockholders of IEX Corporation (1)
4.4 Indenture dated as of November 2, 1999 between the
Registrant and Bankers Trust Company as Trustee, including
form of the Registrant's 3.25% Convertible Subordinated
Discount Notes due 2004 (5)
4.5 Registration Rights Agreement dated as of November 2, 1999
among the Registrant, Deutsche Bank Securities Inc. and
Warburg Dillon Read LLC (5)
10.1 Amended and Restated 1984 Stock Option Plan, including forms
of stock option agreements(6)(7)
10.2 Amended and Restated Non-Employee Director Equity Incentive
Plan, including forms of stock award certificate and
nonstatutory stock option agreements(6), as amended February
21, 1996(7)(9)
10.3 1994 Stock Option Plan, including forms of stock option
agreements(8), as amended February 4, 1995(10), March 3,
1995 (10), January 27, 1996(9), February 26, 1997(11), March
19, 1997(11) and March 20, 1998(7)(12)
10.4 Retirement Pension Rules of Tekelec, Ltd.(7)(13)
10.5 Form of Indemnification Agreement between the Registrant and
all directors of the Registrant(7)(14)
10.6 Lease dated as of February 8, 1988 between the Registrant
and State Street Bank and Trust Company of California, N.A.,
not individually, but solely as an Ancillary Trustee for
State Street Bank and Trust Company, a Massachusetts banking
corporation, not individually, but solely as Trustee for the
AT&T Master Pension Trust, covering the Company's principal
facilities in Calabasas, California(15)
10.7 Officer Severance Plan, including form of Employment
Separation Agreement(7)(16), as amended March 8, 1999 ( 17 )
and February 4, 2000
10.8 Employee Stock Purchase Plan, including form of subscription
agreement(7)(9)
10.9 Credit Agreement dated April 18, 1999 between the Registrant
and Imperial Bank as amended by First Amendment to Credit
Agreement effective July 30, 1999 (5)
44
45
10.10 General Security Agreement dated October 22, 1996 between
the Registrant and Imperial Bank(3)
10.11* Distribution and OEM Agreement dated as of June 1, 1997
between the Registrant and Daewoo Telecom, Ltd.(4)
10.12 Warrants to purchase shares of the Company's Common Stock
and Schedule of Warrantholders(7)(18)
10.13 Stock Award Agreement dated February 17, 1998 between the
Registrant and Michael Margolis(7) (19)
10.14 Lease dated as of November 6, 1998 between the Registrant
and Weeks Realty, L.P., covering the Company's facilities in
Morrisville, North Carolina (17)
21.1 Subsidiaries of the Registrant
23.1 Consent of PricewaterhouseCoopers LLP
27.1 Financial Data Schedule for the year ended December 31, 1999
- -----------------------
* Confidential treatment has been granted with respect to portions of this
exhibit, and such confidential portions have been deleted and filed with
the Commission pursuant to Rule 24b-2 promulgated under the Securities
Exchange Act of 1934.
(1) Incorporated by reference to Registrant's Current Report on Form 8-K (file
No. 0-15135) filed with the Commission on May 14, 1999.
(2) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended June 30, 1998.
(3) Incorporated by reference to the Registrant's Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1996.
(4) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended September 30, 1997.
(5) Incorporated by reference to Registrant's Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended September 30, 1999.
(6) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 33-48079) filed with the Commission on May 22,
1992.
45
46
(7) Constitutes a management contract or compensatory plan or arrangement
required to be filed as an exhibit to this Annual Report on Form 10-K.
(8) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 33-82124) filed with the Commission on July 28,
1994.
(9) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-05933) filed with the Commission on June 13,
1996.
(10) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 33-60611) filed with the Commission on June 27,
1995.
(11) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-28887) filed with the Commission on June 10,
1997.
(12) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-71261) filed with the Commission on January
27, 1999.
(13) Incorporated by reference to the Registrant's Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1994.
(14) Incorporated by reference to the Registrant's Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1987.
(15) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended June 30, 1988.
(16) Incorporated by reference to the Registrant's Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1993.
(17) Incorporated by reference to the Registrant's Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1998.
(18) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-37843) filed with the Commission on October
14, 1997.
(19) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended March 31, 1998.
(B) REPORTS ON FORM 8-K
On May 14, 1999, the Registrant filed a Current Report on Form 8-K
reporting in Item 2 its announcement that it had acquired all of the stock
of privately held IEX Corporation in exchange for cash and secured
promissory notes.
On October 19, 1999, the Registrant filed a Current Report on Form 8-K
reporting in Item 5 its announcement that it intended to issue and sell
convertible subordinated discount notes in a private placement.
46
47
On October 28, 1999, the Registrant filed a Current Report on Form 8-K
reporting in Item 5 its announcement that it had entered into an agreement
to issue and sell in a private placement $117,500,000 principal amount at
maturity of its 3.25% convertible subordinated discount notes due 2004, and
that it had granted the initial purchase of the notes a 30-day option to
purchase an additional $17,500,000 principal amount at maturity of the
notes to cover over-allotments, if any.
On November 3, 1999, the Registrant filed a Current Report on Form 8-K
reporting in Item 5 its announcement that it had completed its private
placement of $135,000,000 principal amount at maturity of its 3.25%
convertible notes due 2004.
(C) EXHIBITS
See the list of Exhibits under Item 14(a)3 of this Annual Report on Form
10-K.
(D) FINANCIAL STATEMENT SCHEDULES
See the Schedule under Item 14(a)2 of this Annual Report on Form 10-K.
47
48
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
TEKELEC
By: /s/ Michael L. Margolis
------------------------------------
Michael L. Margolis, President and
Chief Executive Officer
Dated: March 28, 2000
Pursuant to the requirements of the Securities Act of 1934, this report has
been signed below by the following persons on behalf of the Registrant and in
the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Jean-Claude Asscher Chairman of the Board March 28, 2000
- -------------------------------------
Jean-Claude Asscher
/s/ Michael L. Margolis President, Chief Executive March 28, 2000
- ------------------------------------ Officer and Director
Michael L. Margolis
/s/ Robert V. Adams Director March 28, 2000
- --------------------------------------
Robert V. Adams
/s/ Daniel L. Brenner Director March 28, 2000
- --------------------------------------
Daniel L. Brenner
/s/ Howard Oringer Director March 28, 2000
- --------------------------------------
Howard Oringer
/s/ Jon F. Rager Director March 28, 2000
- ------------------------------------
Jon F. Rager
/s/ Douglas W. Moxley Controller March 28, 2000
- ------------------------------------ (Principal Financial Officer and
Douglas W. Moxley Principal Accounting Officer)
48
49
REPORT OF INDEPENDENT ACCOUNTANTS
To The Shareholders And Board Of Directors Of Tekelec
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, cash flow, shareholders' equity, and
comprehensive income present fairly, in all material respects, the financial
position of Tekelec and its subsidiaries (the "Company") at December 31, 1999
and 1998, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 1999, in conformity with
accounting principles generally accepted in the United States. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States which require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above.
/s/ PricewaterhouseCoopers LLP
Woodland Hills, California
February 1, 2000
F-1
50
TEKELEC
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------------
1999 1998 1997
-------------------------------------------
(thousands, except per-share data)
REVENUES ............................................ $ 226,068 $ 176,669 $ 125,140
COSTS AND EXPENSES:
Cost of goods sold ............................. 77,389 58,883 41,524
Amortization of purchased technology ........... 6,397 19 --
Research and development ....................... 42,289 26,371 21,019
Selling, general and administrative ............ 64,294 40,458 34,971
Amortization of goodwill and other intangibles . 15,863 -- --
Acquired in-process research and development and
other acquisition-related charges ............ 6,830 -- --
Restructuring .................................. 1,800 -- --
--------- --------- ---------
Total costs and expenses .................... 214,862 125,731 97,514
--------- --------- ---------
Income from operations .............................. 11,206 50,938 27,626
Interest and other income (expense):
Interest income ................................ 4,230 4,785 2,378
Interest expense ............................... (4,914) -- --
Other, net ..................................... (293) (172) (263)
--------- --------- ---------
Total other income (expense) ................. (977) 4,613 2,115
--------- --------- ---------
Income before provision for income taxes ............ 10,229 55,551 29,741
Provision for income taxes ..................... 9,785 16,342 745
--------- --------- ---------
NET INCOME ................................... $ 444 $ 39,209 $ 28,996
========= ========= =========
EARNINGS PER SHARE:
Basic ........................................ $ 0.01 $ 0.73 $ 0.58
Diluted ...................................... 0.01 0.67 0.51
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING:
Basic ........................................ 54,931 53,518 50,408
Diluted ...................................... 58,690 58,708 56,842
See notes to consolidated financial statements
F-2
51
TEKELEC
CONSOLIDATED BALANCE SHEETS
DECEMBER 31,
------------------------------
1999 1998
------------------------------
(thousands, except share data)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents........................................... $ 46,671 $ 31,932
Short-term investments, at fair value............................... 37,997 37,704
Accounts and notes receivable, less allowances
1999 - $1,478; 1998 - $763...................................... 83,649 54,606
Inventories......................................................... 24,310 12,872
Amounts due from related parties.................................... 1,847 1,896
Deferred income taxes, net.......................................... 8,365 8,616
Prepaid expenses and other current assets........................... 5,150 3,317
-------- --------
Total current assets.............................................. 207,989 150,943
Long-term investments, at fair value..................................... 21,996 44,138
Property and equipment, net.............................................. 21,667 12,859
Deferred income taxes.................................................... 2,780 1,514
Other assets............................................................. 4,296 625
Intangible assets........................................................ 135,706 131
--------- ---------
Total assets...................................................... $ 394,434 $ 210,210
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Trade accounts payable.............................................. $ 16,249 $ 10,904
Accrued expenses.................................................... 19,196 10,932
Accrued payroll and related expenses................................ 8,937 5,660
Current portion of deferred revenues................................ 35,330 10,480
Income taxes payable................................................ 575 4,205
-------- --------
Total current liabilities......................................... 80,287 42,181
Long-term convertible debt............................................... 115,786 --
Deferred income taxes.................................................... 19,229 --
Long-term portion of deferred revenues................................... 2,537 2,252
------- --------
Total liabilities................................................. 217,839 44,433
------- --------
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY:
Common stock, without par value, 200,000,000 shares authorized;
issued and outstanding 1999- 55,713,127; 1998 - 54,328,512 ....... 101,385 92,803
Retained earnings................................................... 72,528 72,084
Accumulated other comprehensive income.............................. 2,682 890
--------- ---------
Total shareholders' equity........................................ 176,595 165,777
--------- ---------
Total liabilities and shareholders' equity........................ $ 394,434 $ 210,210
========== ==========
See notes to consolidated financial statements
F-3
52
TEKELEC
CONSOLIDATED STATEMENTS OF CASH FLOW
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------------
1999 1998 1997
--------------------------------------------
(thousands)
CASH FLOW FROM OPERATING ACTIVITIES:
Net income ............................................. $ 444 $ 39,209 $ 28,996
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation ........................................... 8,519 5,776 4,790
Amortization ........................................... 22,260 19 --
Write-offs of acquired in-process research and
development .......................................... 6,000 -- --
Non cash portion of restructuring charge ............... 800 -- --
Convertible debt accretion ............................. 558 -- --
Deferred income taxes .................................. (4,742) 276 (82)
Stock-based compensation ............................... -- 343 --
Changes in assets and liabilities: (excluding the effect
of acquisition)
Accounts and notes receivable ........................ (18,506) (24,873) (12,537)
Inventories .......................................... (5,324) (1,507) (3,299)
Amounts due from related parties ..................... 49 389 93
Income taxes receivable .............................. 3,478 775 (857)
Prepaid expenses and other current assets ............ (1,182) (1,548) (266)
Trade accounts payable ............................... 3,383 5,660 (412)
Accrued expenses ..................................... 5,798 4,955 (49)
Accrued payroll and related expenses ................. (4,442) (1,225) 2,842
Deferred revenues .................................... 11,328 2,200 6,766
Income taxes payable ................................. 2,158 12,800 (849)
--------- --------- ---------
Total adjustments .................................. 30,135 4,040 (3,860)
--------- --------- ---------
Net cash provided by operating activities ......... 30,579 43,249 25,136
--------- --------- ---------
CASH FLOW FROM INVESTING ACTIVITIES:
Purchase of available-for-sale securities .............. (52,737) (107,272) (22,737)
Proceeds from maturity of available-for-sale
securities ........................................... 81,842 57,200 18,000
Payments in connection with acquisition, net of cash
acquired ............................................. (49,087) -- --
Purchase of property and equipment ..................... (13,948) (8,702) (6,552)
Purchase of technology ................................. (1,561) (150) --
(Increase) Decrease in other assets .................... (3,615) (45) 46
--------- --------- ---------
Net cash used in investing activities .............. (39,106) (58,969) (11,243)
--------- --------- ---------
CASH FLOW FROM FINANCING ACTIVITIES:
Repayments of short-term notes ......................... (100,000) -- --
Net proceeds from issuance of convertible debt ......... 115,228 -- --
Proceeds from issuance of common stock ................. 6,573 7,634 8,759
--------- --------- ---------
Net cash provided by financing activities .......... 21,801 7,634 8,759
--------- --------- ---------
Effect of exchange rate changes on cash ..................... 1,465 1,270 (1,115)
--------- --------- ---------
Net increase (decrease) in cash and cash
equivalents ...................................... 14,739 (6,816) 21,537
--------- ---------
CASH AND CASH EQUIVALENTS AT BEGINNING OF THE YEAR .......... 31,932 38,748 17,211
--------- --------- ---------
CASH AND CASH EQUIVALENTS AT END OF THE YEAR ................ $ 46,671 $ 31,932 $ 38,748
========= ========= =========
See notes to consolidated financial statements
F-4
53
TEKELEC
CONSOLIDATED STATEMENTS OF CASH FLOW (CONTINUED)
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
CASH PAID DURING THE YEAR FOR:
Interest .................................... $ 3,471 $ -- $ --
Income taxes ................................ 8,248 2,297 2,408
SUPPLEMENTAL DISCLOSURE OF NON-CASH FLOW ACTIVITY:
Tax benefit related to stock options ............... 2,009 9,199 9,819
Notes payable issued in connection with acquisition 100,000 -- --
ASSETS AND LIABILITIES RECOGNIZED IN CONNECTION WITH
ACQUISITION:
Account Receivable .......................... 9,957 -- --
Other current assets ........................ 13,261 -- --
Investments ................................. 7,255 -- --
Property and equipment ...................... 3,490 -- --
Other assets ................................ 169 -- --
Intangibles ................................. 61,000 -- --
Goodwill .................................... 95,274 -- --
Accounts payable ............................ 1,515 -- --
Other current liabilities ................... 22,929 -- --
Deferred income tax liability ............... 22,875 -- --
See notes to consolidated financial statements
F-5
54
TEKELEC
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
COMMON STOCK ACCUMULATED
--------------------- OTHER TOTAL
NUMBER RETAINED COMPREHENSIVE SHAREHOLDERS'
OF SHARES AMOUNT EARNINGS INCOME (LOSS) EQUITY
----------------------------------------------------------------------
(thousands)
- -------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1996 ............ 48,040 $ 57,049 $ 3,879 $ 823 $ 61,751
Exercise of stock options
and warrants ................... 4,212 8,759 -- -- 8,759
Stock option tax benefits ........ -- 9,819 -- -- 9,819
Translation adjustment ........... -- -- -- (1,448) (1,448)
Net loss ......................... -- -- 28,996 -- 28,996
- -------------------------------------------------------------------------------------------------------------------
---------
BALANCE, DECEMBER 31, 1997 ............ 52,252 75,627 32,875 (625) 107,877
Exercise of stock options
and warrants ................... 2,032 7,634 -- -- 7,634
Issuance of restricted stock,
net of unearned compensation 45 343 -- -- 343
Stock option tax benefits ........ -- 9,199 -- -- 9,199
Translation adjustment ........... -- -- -- 1,515 1,515
Net income ....................... -- -- 39,209 -- 39,209
- -------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1998 ............ 54,329 92,803 72,084 890 165,777
Exercise of stock options
and warrants ................... 1,384 6,452 -- -- 6,452
Compensation related to vesting
of restricted stock .......... -- 121 -- -- 121
Stock option tax benefits ........ -- 2,009 -- -- 2,009
Translation adjustment ........... -- -- -- 1,792 1,792
Net income ....................... -- -- 444 -- 444
- -------------------------------------------------------------------------------------------------------------------
BALANCE, DECEMBER 31, 1999 ............ 55,713 $ 101,385 $ 72,528 $ 2,682 $ 176,595
====================================================================================================================
See notes to consolidated financial statements
F-6
55
TEKELEC
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
For the Years Ended December 31,
-------------------------------------
1999 1998 1997
---------------------------------------
(thousands)
Net income .................................. $ 444 $ 39,209 $ 28,996
Other comprehensive income (loss):
Foreign currency translation adjustments 1,792 1,515 (1,448)
-------- -------- --------
Comprehensive income ........................ $ 2,236 $ 40,724 $ 27,548
======== ======== ========
See notes to consolidated financial statements
F-7
56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
The company designs, manufactures and markets network infrastructure
products and diagnostics systems for telecommunications networks. The Company's
customers include telecommunications carriers, network service providers and
equipment manufacturers. The Company also develops and sells management software
to operators of call centers.
PRINCIPLES OF CONSOLIDATION AND PRESENTATION
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany accounts and transactions are
eliminated. Certain items shown in the December 31, 1998 and 1997 financial
statements have been reclassified to conform with the current period
presentation.
ESTIMATES
The preparation of financial statements 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 dates of
the financial statements and revenues and expenses during the reporting periods.
Actual results could differ from those estimates. CASH AND CASH EQUIVALENTS The
Company considers all highly liquid debt instruments purchased with an original
maturity of three months or less to be cash equivalents.
INVENTORIES
Inventories are stated at the lower of cost (first in, first out) or
market.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, less accumulated depreciation
and amortization. Depreciation and amortization are provided using the
straight-line method. The estimated useful lives are:
Manufacturing and
development equipment 3-5 years
Furniture and office equipment 5 years
Demonstration equipment 3 years
Leasehold improvements The shorter of useful
life or lease term
SOFTWARE DEVELOPED FOR INTERNAL USE
The Company capitalizes costs of software, consulting services, hardware
and payroll-related costs incurred to purchase or develop internal-use software.
The Company expenses costs incurred during preliminary project assessment,
research and development, re-engineering, training and application maintenance.
F-8
57
SOFTWARE DEVELOPMENT COSTS
The Company provides for capitalization of certain software development
costs once technological feasibility is established. The costs so capitalized
are amortized on a straight-line basis over the estimated product life
(generally eighteen months to three years), or on the ratio of current revenue
to total projected product revenues, whichever is greater. To date, the
establishment of technological feasibility of the Company's products and general
release have substantially coincided. As a result, the Company has not
capitalized any internal software development costs as costs qualifying for such
capitalization have not been significant.
INTANGIBLE ASSETS
Intangible assets consist of goodwill, purchased technology and other
intangible assets, all of which are generally amortized over periods ranging
from three to five years. Intangible assets are stated at cost, less accumulated
amortization.
LONG-TERM ASSETS
The Company identifies and records impairment on long-lived assets when
events and circumstances indicate that such assets have been impaired. The
Company periodically evaluates the recoverability of its long-lived assets based
on expected nondiscounted cash flows, and recognizes impairment, if any, based
on expected discounted cash flows.
PRODUCT WARRANTY COSTS
The Company generally warrants its products for one year after sale and
provides for estimated future warranty costs at the time revenue is recognized.
At December 31, 1999 and 1998, accrued product warranty costs amounted to $2.8
million and $2.3 million, respectively, and are included in accrued expenses.
REVENUE RECOGNITION
Revenues from sales of network systems products, diagnostic products and
call center products are recognized upon shipment to the customer's final site
and satisfaction of related Company obligations, if any, provided that
persuasive evidence of an arrangement exists, the fee is fixed and deteminable
and collectability is deemed probable. Revenues associated with multiple-element
arrangements (products, upgrades, enhancements and post-contract customer
support) are allocated to each element based on vendor specific objective
evidence of fair value. Revenues associated with installation are recognized
upon completion. Extended warranty service revenues are recognized ratably over
the warranty period. Engineering service revenues are recognized on delivery or
as the services are performed. Development contract revenues are recognized
using the percentage-of-completion method based on the costs incurred relative
to total estimated costs. Provisions for anticipated losses, if any, on
development contracts are recognized in income currently.
INCOME TAXES
Income tax expense is the tax payable for the period and the change during
the period in non-capital-related deferred tax assets and liabilities. Deferred
income taxes are determined based on the difference between the financial
reporting and tax bases of assets and liabilities using enacted rates in effect
during the year in which the differences are expected to reverse.
F-9
58
Valuation allowances are established when necessary to reduce deferred tax
assets to the amount expected to be realized.
ADVERTISING
Advertising costs are expensed as incurred and amounted to $1.4 million,
$781,000 and $669,000 for 1999, 1998 and 1997, respectively.
STOCK BASED COMPENSATION
Statement of Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123), encourages but does not require companies to record
compensation cost for stock-based employee compensation plans at fair value for
awards granted subsequent to December 31, 1995. The Company has chosen to
continue to account for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25 "Accounting for
Stock Issued to Employees" (APB 25) and related interpretations. Accordingly, no
compensation expense has been recognized for the Company's stock option and
purchase plans. SFAS 123 requires companies that continue to follow APB 25 to
provide a pro forma disclosure of the impact of applying the fair value method
of SFAS 123. See Note N.
TRANSLATION OF FOREIGN CURRENCIES
Translation of foreign currencies is accounted for using the local currency
as the functional currency of the Company's foreign subsidiaries. All assets and
liabilities are translated at exchange rates in effect on the balance sheet
dates while revenues and expenses are translated at average rates in effect for
the period. The resulting gains and losses are included in a separate component
of shareholders' equity. Realized gains (losses) on foreign currency
transactions are reflected in net income (loss) and amounted to $79,000, $56,000
and $(273,000) for 1999, 1998 and 1997, respectively.
EARNINGS PER SHARE
Earnings per share are computed using the weighted average number of shares
outstanding and dilutive Common Stock equivalents (options and warrants), in
accordance with Statement of Financial Accounting Standards (SFAS) No. 128
"Earnings per Share."
COMPREHENSIVE INCOME
Comprehensive income generally represents all changes in shareholders'
equity during the period except those resulting from investments by, or
distributions to, shareholders.
SEGMENT INFORMATION
The Company uses the "management approach" in determining reportable
business segments. The management approach designates the internal organization
that is used by management for making operating decisions and assessing
performance as the source of the Company's reportable segments.
NEW ACCOUNTING PRONOUNCEMENTS
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" (SAB
101), which provides additional guidance in applying generally accepted
accounting principles to revenue recognition in the financial statements. The
Company is currently evaluating the provisions of SAB 101 and its potential
impact on the Company's revenue recognition policy.
F-10
59
NOTE B - ACQUISITION OF IEX CORPORATION
On may 7, 1999, the company acquired all of the outstanding stock of IEX
corporation ("IEX") for $163 million, consisting of $63 million in cash and $100
million in short-term notes which matured on november 7, 1999. IEX develops,
markets and sells solutions for intelligent networks, call centers and other
telecommunications markets.
The transaction has been accounted for under the purchase method of
accounting, and resulted in net goodwill and other intangibles of approximately
$133.4 Million, with an average amortization period of five years. The total
purchase price, including acquisition expenses of $2.0 Million, was allocated
among the assets acquired and liabilities assumed based on their estimated fair
values as follows:
(thousands)
In-process research and development.................................................... $ 6,000
Developed and existing technology...................................................... 48,000
Other intangibles...................................................................... 13,000
Goodwill............................................................................... 95,274
Tangible assets acquired............................................................... 50,045
Deferred income tax liabilities associated with certain intangible assets.............. (22,875)
Liabilities assumed.................................................................... (24,444)
-----------
$165,000
===========
Based on a third party appraisal, management determined that $6.0 million
of the purchase price represented acquired in-process research and development
that had not yet reached technological feasibility and had no alternative future
use. This amount was recorded as a non-recurring expense in the second quarter
of 1999. Amortization expense of purchased technology and other intangible
assets resulting from the acquisition amounted to $18.5 million, net of
amortization of associated deferred income tax liabilities of $3.6 million for
the year ended December 31, 1999.
The following table shows pro forma revenues, net income (loss) and diluted
earnings (loss) per share of the Company giving effect to the IEX acquisition as
of the beginning of 1999 and 1998, excluding the impact of the one-time
non-recurring charge noted above.
FOR THE YEARS ENDED
DECEMBER 31,
------------------------------------
1999 1998
------------------------------------
(thousands, except per-share amounts)
Revenues......................................... $ 239,826 $ 225,950
Net income (loss)................................ (6,672) 9,005
Diluted earnings (loss) per share................ (0.12) 0.15
NOTE C -- FAIR VALUE OF INVESTMENTS
The Company has short-term investments in corporate debt securities with
original maturities of less than 90 days whose carrying amounts approximate
their fair values because of their short maturities. These short-term
investments are included in cash and cash equivalents, are classified as
held-to-maturity securities and amounted to $17.9 million and $19.4 million at
December 31, 1999 and December 31, 1998, respectively.
F-11
60
The Company also had investments classified as available-for-sale
securities included in short-term and long-term investments, categorized as
follows:
DECEMBER 31,
--------------------------
1999 1998
--------------------------
(thousands)
TYPE OF SECURITY:
Corporate debt securities with maturities of less than one year.............. $27,853 $25,704
State and local government securities with maturities of less than one year.. 8,102 --
U.S. government securities with maturities of less than one year............. 2,042 12,000
------- -------
Total short-term investments................................................. 37,997 37,704
U.S. government securities with maturities of between one and two years..... 21,996 44,138
------- -------
$59,993 $81,842
======= =======
These available-for-sale securities are accounted for at their fair value, and
unrealized gains and losses on these securities are reported as a separate
component of shareholders' equity. At December 31, 1999 and 1998, net unrealized
gains or losses on available-for-sale securities were not significant. The
Company utilizes specific identification in computing realized gains and losses
on the sale of investments. Realized gains and losses are reported in other
income and expense, and were not significant for 1999, 1998 and 1997.
NOTE D -- BUSINESS AND CREDIT RISK
Financial instruments, which potentially subject the Company to
concentration of credit risk, consist principally of cash, investments and trade
receivables. The Company invests its excess cash in interest-bearing deposits
with major banks, United States government securities, high-quality commercial
paper and money market funds. At times the Company's cash balances may be in
excess of the FDIC insurance limits. With respect to trade receivables, the
Company sells network systems, communications diagnostic systems and call center
systems worldwide primarily to telephone operating companies, equipment
manufacturers and corporations that use its systems to design, install,
maintain, test and operate communications equipment and networks. Credit is
extended based on an evaluation of each customer's financial condition, and
generally collateral is not required. Credit losses, if any, have been provided
for in the financial statements and to date have been within management's
expectations.
NOTE E -- RELATED PARTY TRANSACTIONS
As of December 31, 1999, the Company's principal shareholder and a director
and his family owned an aggregate of approximately 26% of the Company's
outstanding stock.
F-12
61
The following is a summary of transactions and balances with a director and
a foreign-affiliated company controlled by the director:
1999 1998 1997
---- ---- ----
(thousands)
Product sales.......................................... $ 3,319 $ 4,269 $ 4,471
Purchases of inventory................................. -- -- 212
Director's fees and expenses........................... 66 51 104
Due from affiliates.................................... 1,847 1,896 2,286
The amounts due from affiliates are non-interest bearing.
NOTE F - RESTRUCTURING
During the first quarter of 1999, the Company announced its plan to scale
down its Data Network Diagnostics Division and integrate the division into its
Intelligent Network Diagnostics Division. In connection with this restructuring,
the Company recorded a restructuring charge of $1.8 million consisting of cash
severance costs for 27 terminated employees in management, research and
development, support and administrative functions, and non-cash charges
consisting of the write-down of certain assets to their net realizable value.
The costs consisted of the following:
(thousands)
Severance pay........................................ $ 700
Other accrued expenses............................. 300
Inventory............................................ 350
Fixed assets......................................... 200
Other assets......................................... 250
---------
$ 1,800
=========
At december 31, 1999, all 27 employees had been terminated, and all severance
costs and other accrued expenses had been paid.
NOTE G -- INCOME TAXES
The provision for income taxes consists of the following:
FOR THE YEARS ENDED DECEMBER 31,
--------------------------------------------
1999 1998 1997
--------------------------------------------
(thousands)
CURRENTLY PAYABLE:
Federal........................................... $ 9,991 $ 10,736 $ 5,394
State............................................. 2,683 3,500 1,554
Foreign........................................... 454 1,794 390
DEFERRED:
Federal........................................... (2,981) 2,134 (5,974)
State............................................. (414) (1,338) (745)
Foreign........................................... 52 (484) 126
----------- --------- ---------
$ 9,785 $ 16,342 $ 745
=========== ========= =========
F-13
62
The components of temporary differences that gave rise to deferred taxes at
december 31, 1999 and 1998 are as follows:
DECEMBER 31,
-----------------------------
1999 1998
-----------------------------
(thousands)
DEFERRED TAX ASSETS:
Allowance for doubtful accounts................... $ 394 258
Inventory adjustments............................. 953 1,708
Depreciation and amortization..................... 309 188
Research and development..........................
credit carryforward........................... 2,596 4,447
Accrued liabilities............................... 5,532 2,191
Warranty accrual.................................. 1,041 885
Other............................................. 320 453
--------- -----------
Total deferred tax asset.......................... 11,145 10,130
CURRENT PORTION........................................ 8,365 8,616
--------- -----------
LONG-TERM PORTION...................................... $ 2,780 $ 1,514
========= ===========
DEFERRED TAX LIABILITY:
Acquisition-related intangible assets............. $ 19,229 $ --
Current portion........................................ -- --
--------- -----------
Long term portion...................................... $ 19,229 $ --
========= ===========
The Company has not provided a valuation allowance for its deferred tax assets,
based on management's assessment of the Company's ability to utilize its
deferred tax assets. Realization of the deferred tax assets of $11.1 million is
dependent on the extent of the Company's income in carryback years and on the
Company generating sufficient taxable income in the future. Although realization
is not assured, the Company believes it is more likely than not that the
deferred tax assets will be realized. The amount of the deferred tax assets
considered realizable, however, could be reduced in the future if estimates of
future taxable income are reduced. In connection with the acquisition of IEX,
the Company recorded deferred income tax liabilities of $22.9 million associated
with certain intangible assets. These deferred income tax liabilities are
amortized on a straight-line basis and amounted to $19.2 million at December 31,
1999.
F-14
63
The provision for income taxes differs from the amount obtained by applying the
federal statutory income tax rate to income before provision for income taxes as
follows:
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------
1999 1998 1997
----------------------------------------
(thousands)
Federal statutory provision (benefit) ............... $ 3,580 $ 19,443 $ 10,112
State taxes, net of federal benefit ................. 1,474 1,530 534
Foreign taxes ....................................... 143 335 226
Reduction in valuation allowance .................... -- (2,248) (8,960)
Utilization of operating loss carryforwards ......... -- -- (499)
Research and development credits .................... (1,531) (2,111) (723)
Nontaxable FSC income ............................... (507) (865) --
Acquisition-related intangible assets, net of related
deferred income tax liability .................... 6,204 -- --
Other ............................................... 422 258 55
-------- -------- --------
Actual income tax provision ......................... $ 9,785 $ 16,342 $ 745
======== ======== ========
Effective tax rate .................................. 95.7% 29.4% 2.5%
At December 31, 1999, the Company had available state and federal research and
development credit carryforwards of $2.6 million, which will begin to expire in
the year 2003.
The Company has not provided for federal income taxes on $13.6 million of
undistributed earnings of its foreign subsidiaries that have been reinvested in
their operations.
NOTE H -- INVENTORIES
The components of inventories are:
DECEMBER 31,
-------------------------
1999 1998
-------------------------
(thousands)
Raw materials.......................................... $ 7,490 $ 3,830
Work in process........................................ 2,366 2,064
Finished goods......................................... 14,454 6,978
-------- ----------
$ 24,310 $ 12,872
======== ==========
NOTE I -- PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
DECEMBER 31,
------------------------
1999 1998
------------------------
(thousands)
Manufacturing and development equipment ................. $ 31,124 $ 23,024
Furniture and office equipment .......................... 16,007 9,677
Demonstration equipment ................................. 3,207 4,038
Leasehold improvements .................................. 4,105 1,953
-------- --------
54,443 38,692
Less, accumulated depreciation and amortization .... (32,776) (25,833)
-------- --------
$ 21,667 $ 12,859
======== ========
F-15
64
NOTE J - INTANGIBLE ASSETS
Intangible assets consist of the following:
DECEMBER 31,
--------------------------
1999 1998
--------------------------
(thousands)
Goodwill ........................... $ 95,274 $ --
Purchased technology ............... 49,712 150
Other .............................. 13,000 --
--------- ---------
157,986 150
Less, accumulated amortization (22,280) (19)
--------- ---------
Intangible assets, net $ 135,706 $ 131
========= =========
NOTE K -- LINES OF CREDIT AND BORROWINGS
The company has a $15.0 Million line of credit with a u.S. Bank and lines
of credit aggregating $2.9 Million available to the company's japanese
subsidiary from various japanese based banks.
The company's $15.0 million credit facility is collateralized by
substantially all of the Company's assets, bears interest at the lender's prime
rate (8.5% at December 31, 1999), and expires on June 30, 2000, if not renewed.
Under the terms of this facility, the Company is required to maintain certain
financial ratios and meet certain net worth and indebtedness tests. In
connection with the Company's May 1999 acquisition of IEX Corporation, the
Company renegotiated certain terms under this credit facility, including various
financial ratios and net worth and indebtedness tests. The Company believes it
is in compliance with these requirements. There have been no borrowings under
this credit facility.
The Company's Japanese subsidiary has collateralized yen-denominated lines
of credit with Japan-based banks, primarily available for use in Japan,
amounting to the equivalent of $2.9 million with interest at the Japanese prime
rate (1.375% at December 31, 1999) plus 0.125% per annum which expire between
August 2000 and November 2000, if not renewed. There have been no borrowings
under these lines of credit.
NOTE L - CONVERTIBLE DEBT
On November 2, 1999 the Company completed a private placement of $135.0
million aggregate principal amount at maturity of 3.25% convertible subordinated
discount notes due 2004. The notes were issued at 85.35% of their face amount
(equivalent to gross proceeds at issuance of approximately $115.2 million before
discounts and expenses). The gross proceeds at issuance before discounts and
expenses included approximately $15.2 million from the sale of notes issued upon
the initial purchasers' exercise in full of their over-allotment option.
The notes are convertible at any time after January 31, 2000 into Tekelec
common stock, unless the notes have been previously redeemed or otherwise
purchased, at a conversion rate of 56.3393 shares per $1,000 principal amount at
maturity (approximately 7.6 million shares in total) which represents a
redemption price of $15.15 per share of common stock. The notes can be redeemed
by the Company after November 2, 2002 at the redemption price together with
accrued but unpaid interest.
F-16
65
The notes were issued with a 14.65% discount and carry a cash interest
(coupon) rate of 3.25%, payable on May 2 and November 2 of each year, commencing
on May 2, 2000. The payment of principal the amount of the notes at maturity
together with cash interest paid over the term of the notes represents a yield
to maturity of 6.75% per year, computed on a semi-annual bond equivalent basis.
Interest expense is computed based on the accretion of the discount, the accrual
of the cash interest payment and the amortization of expenses related to the
offering of these notes on a straight-line basis, and amounted to approximately
$1.4 million for the period of November 2, 1999 through December 31, 1999.
NOTE M-- COMMITMENTS AND CONTINGENCIES
The Company leases its office and manufacturing facilities together with
certain office equipment under operating lease agreements. Lease terms generally
range from one to ten years; certain building leases contain options for renewal
for additional periods and are subject to increases up to 10% every 24 months.
Total rent expense was $4.0 million, $2.5 million and $2.5 million for
1999, 1998 and 1997, respectively.
Minimum annual noncancelable lease commitments at December 31, 1999 are:
For the Years Ending December 31, (thousands)
- --------------------------------- -----------
2000.............................................. $ 4,725
2001.............................................. 4,336
2002.............................................. 4,236
2003.............................................. 3,528
2004.............................................. 2,902
Thereafter........................................ 10,857
--------
$ 30,584
========
NOTE N-- STOCK OPTIONS AND EMPLOYEE BENEFIT PLANS
The Company has various stock option plans with maximum terms of ten years
under which 34.1 million shares of the Company's Common Stock have been
authorized and reserved for issuance. The terms of options granted under these
option plans are determined at the time of grant, generally vest ratably over a
one- to five-year period, and in any case the option price may not be less than
the fair market value per share on the date of grant. Both incentive stock
options and nonstatutory stock options can be issued under the option plans.
The Company also has Employee Stock Purchase Plans (ESPP), with maximum
terms of ten years, the latest of which expires in the year 2006, and under
which 800,000 shares of the Company's Common Stock have been authorized and
reserved for issuance. Eligible employees may authorize payroll deductions of up
to 10% of their compensation to purchase shares of Common Stock at 85% of the
lower of the market price per share at the beginning or end of each six-month
offering period.
F-17
66
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" (SFAS 123), encourages but does not require companies
to record compensation cost for stock-based employee compensation plans at fair
value for awards granted subsequent to December 31, 1995. The Company has chosen
to continue to account for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25 "Accounting for
Stock Issued to Employees," and related interpretations. Accordingly, no
compensation expense has been recognized for the Company's stock option and
purchase plans. Had compensation costs under these plans been determined based
upon the methodology prescribed under SFAS 123, the Company's net income (loss)
and diluted earnings (loss) per share would approximate the following proforma
amounts (in thousands except per-share data):
As Reported Proforma
----------- -----------
YEAR ENDED DECEMBER 31, 1999:
Net income (loss) ................. $ 444 $ (11,864)
Earnings (Loss) per share (diluted) 0.01 (0.22)
Year Ended December 31, 1998:
Net income ........................ $ 39,209 $ 32,836
Earnings per share (diluted) ...... 0.67 0.56
Year Ended December 31, 1997:
Net income ........................ $ 28,996 $ 26,646
Earnings per share (diluted) ...... 0.51 0.47
The effects of applying SFAS 123 in this proforma disclosure are not
indicative of future amounts, and additional awards in future years are
anticipated.
A summary of the status of the Company's stock options, as of December
31, 1999, 1998 and 1997, and the changes during the year ended on those dates
are presented below (shares in thousands):
1999 1998 1997
---------------------------------------------------------------
Wgtd. Avg. Wgtd. Avg. Wgtd. Avg.
Shares Exer. Price Shares Exer. Price Shares Exer. Price
------ ----------- ------ ----------- ------ -----------
Outstanding at beginning of year................. $ 8,438 $ 8.90 8,298 $ 4.50 9,672 $ 2.43
Granted - price equals fair value................ 4,932 12.07 1,959 20.25 2,722 7.27
Granted - price greater than fair value.......... 123 16.44 340 17.71 339 10.33
Exercised........................................ 1,187 3.72 1,838 2.88 3,777 1.87
Cancelled........................................ 1,357 10.39 321 8.15 658 3.72
------- ------ -----
Outstanding at year-end.......................... 10,949 10.79 8,438 8.90 8,298 4.50
======= ====== ======
Options exercisable at year-end.................. 4,063 2,550 2,273
Options available for future grant............... 4,823 3,528 3,513
Weighted average fair value of options granted
during the year:
Exercise price equals fair value at grant date$ 8.40 $13.92 $ 5.23
Exercise price greater than fair value at
grant date.................................. 10.88 11.85 6.89
F-18
67
The following table summarizes information about stock options outstanding
at December 31, 1999 (shares in thousands):
Options Outstanding Options Exercisable
----------------------------------- ----------------------------
Wgtd. Avg.
Number Remaining Wgtd.Avg. Number Wgtd. Avg.
Outstanding Contractual Exercise Outstanding Exercise
Range of Exercise Price at 12/31/99 Life Price at 12/31/99 Price
- ---------------------------------------------------------------------------------------------------
$ 0.75 to $ 0.99 417 3.49 $ 0.87 417 $ 0.87
1.00 to 4.00 2,067 5.93 3.41 1,389 3.44
4.03 to 5.55 1,226 6.99 4.77 563 4.73
7.07 to 10.63 1,347 8.84 8.40 622 7.43
10.88 to 15.94 3,540 9.23 13.07 516 13.33
16.13 to 23.69 2,352 8.35 20.10 556 20.14
------- ------
0.75 to 23.69 10,949 7.90 10.79 4,063 7.51
====== =====
The fair value of options granted during 1999, 1998 and 1997 is estimated
as $24.7 million, $15.7 million and $6.9 million, respectively, on the dates of
grants using the Black-Scholes option-pricing model with the following
assumptions: (i) dividend yield of 0%, (ii) expected volatility of 79%, 81% and
86%, respectively, for 1999, 1998 and 1997, (iii) weighted average risk-free
interest rates of 5.3%, 5.3% and 6.4% for 1999, 1998 and 1997, respectively,
(iv) weighted average expected life of 5.1 years for all three periods and (v)
assumed forfeiture rate of 42%, 50% and 58%, respectively, for 1999, 1998 and
1997.
During 1999, 1998 and 1997, approximately 198,000, 103,000 and 161,000
shares, respectively, were purchased under the Company's ESPP at weighted
average exercise prices of $10.27, $13.94 and $5.07, respectively. At December
31, 1999, 1998 and 1997, there were approximately 229,000, 427,000 and 530,000
shares, respectively, available for future grants. The weighted average fair
values of ESPP shares granted in 1999, 1998 and 1997 were $5.15, $7.37 and $2.23
per share, respectively.
In 1997, the Company granted warrants to purchase 521,000 shares of Common
Stock. The grant date fair values of these warrants was $7.44 per share. There
were no warrants granted in 1998 or 1999. See Note Q.
The Company has a 401(k) tax-deferred savings plan under which eligible
employees may authorize from 2% to 12% of their compensation to be invested in
employee-elected investment funds managed by an independent trustee and under
which the Company may contribute matching funds of up to 50% of the employees'
payroll deductions. During 1999, 1998 and 1997, the Company's contributions
amounted to $1.8 million, $654,000 and $401,000, respectively.
F-19
68
NOTE O--EARNINGS PER SHARE
The following table provides a reconciliation of the numerators and
denominators of the basic and diluted per-share computations for the years
ended December 31, 1999, 1998 and 1997:
NET INCOME SHARES PER-SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
FOR THE YEAR ENDED DECEMBER 31, 1999: -----------------------------------------
(thousands except per-share amount)
Basic EPS ........................... $ 444 54,931 $0.01
Effect of Dilutive Securities - Stock
Options and Warrants ........... -- 3,759
------- -------
Diluted EPS ......................... $ 444 58,690 $0.01
FOR THE YEAR ENDED DECEMBER 31, 1998:
Basic EPS ........................... $39,209 53,518 $0.73
Effect of Dilutive Securities - Stock
Options and Warrants ........... -- 5,190
------- -------
Diluted EPS ......................... $39,209 58,708 $0.67
======= ======= =====
FOR THE YEAR ENDED DECEMBER 31, 1997:
Basic EPS ........................... $28,996 50,408 $0.58
Effect of Dilutive Securities - Stock
Options and Warrants ........... -- 6,434
------- -------
Diluted EPS ......................... $28,996 56,842 $0.51
======= ======= =====
The computation of diluted number of shares excludes unexercised stock
options and warrants and potential shares issuable upon conversion of the
Company's convertible subordinated discount notes that are anti-dilutive. The
numbers of such shares excluded were 11.5 million, 1.3 million and 89,000 for
the years ended December 31, 1999, 1998 and 1997, respectively.
There were no transactions subsequent to December 31, 1999, which, had they
occurred prior to December 31, 1999, would have changed materially the number of
shares in the basic or diluted earnings per share computations.
F-20
69
NOTE P--OPERATING SEGMENT INFORMATION
Information for 1999 includes the post-acquisition results of IEX (See Note
B). The Network Systems operating segment develops, markets and sells the
Company's Eagle STP products based on the Company's high capacity packet
switching platform; IP7 Secure Gateway, an SS7 gateway for signaling in
converged networks, and other IP7 convergence products; and new network systems
products resulting from the Company's acquisition of IEX, including Service
Control Point, an advanced database server used for the provisioning of
telephony applications, VoX Gateway Controller, a media gateway controller for
converged networks, and Prepaid Services, a prepaid calling platform. The
Network Diagnostics operating segment develops, markets and sells diagnostic
products, including MGTS, a diagnostic tool used primarily by equipment
suppliers for research and development, Sentinel used for testing and
surveillance within telecommunications networks and i3000, used to perform
diagnostics in converged networks. The Japan Diagnostics operating segment sells
the Company's and third parties' diagnostic products to customers in Japan. The
Call Center operating segment develops, markets and sells software-based
solutions for Call Centers, including TotalView Workforce Management and
TotalNet Call Routing. Transfers between operating segments are made at prices
reflecting market conditions. The allocation of revenues from external customers
by geographical area is determined by the destination of the sale.
F-21
70
The Company's operating segments and geographical information are as follows (in
thousands):
OPERATING SEGMENTS
Net Sales
--------------------------------------------
1999 1998 1997
--------------------------------------------
Network Systems........................................ $ 137,796 $ 116,259 $ 71,941
Network Diagnostics.................................... 45,424 39,335 37,751
Call Center............................................ 21,128 -- --
Japan Diagnostics...................................... 21,890 21,981 16,384
Other Products......................................... 1,771 1,881 3,706
Intercompany Eliminations.............................. (1,941) (2,787) (4,642)
----------- ---------- ----------
Total net sales................................... $ 226,068 $ 176,669 $ 125,140
=========== ========== ==========
Operating Income
--------------------------------------------
1999 1998 1997
--------------------------------------------
Network Systems........................................ $ 35,305 $ 47,186 $ 22,591
Network Diagnostics.................................... 10,099 8,842 10,263
Call Center............................................ 8,704 -- --
Japan Diagnostics...................................... 2,352 4,342 3,450
Other Products 1....................................... (1,567) (764) (503)
Intercompany Eliminations.............................. 114 283 152
General Corporate 2.................................... (43,801) (8,951) (8,327)
----------- ---------- -------
Total operating income............................ $ 11,206 $ 50,938 $27,626
=========== ========== =======
- -------------
1 Other Products reflects the $1,800 restructuring charge recorded in 1999 (See
Note F).
2 General Corporate includes acquisition-related charges and amortization of
$28,970 for 1999, and a benefit of $1,663 for the settlement of an insurance
claim for 1998.
ENTERPRISE WIDE DISCLOSURES
The following table sets forth, for the periods indicated, revenues from
external customers by principal product line (in thousands):
1999 1998 1997
---------------------------------------------
Network Systems........................................ $ 137,796 $ 116,259 $ 71,941
Network Diagnostics.................................... 64,908 58,263 47,800
Call Center............................................ 21,128 -- --
Other Products......................................... 2,236 2,147 5,399
--------- --------- --------
Total revenues from external customers............ $ 226,068 $ 176,669 $125,140
========= ========= ========
The following table sets forth, for the periods indicated, revenues from
external customers by geographic territory (in thousands):
1999 1998 1997
--------------------------------------------
North America.......................................... $ 173,590 $ 121,288 $ 91,404
Japan.................................................. 22,034 21,981 16,384
Europe................................................. 9,717 7,738 6,687
Rest of World.......................................... 20,727 25,662 10,665
--------- --------- --------
Total revenues from external customers............ $ 226,068 $ 176,669 $125,140
========= ========= ========
F-22
71
The following table sets forth, for the periods indicated, long-lived assets by
geographic area in which the company holds assets (in thousands):
1999 1998 1997
--------------------------------------------
United States.......................................... $ 160,109 $ 12,348 $ 9,370
Japan.................................................. 1,175 1,216 996
Other.................................................. 385 51 --
---------- ---------- ----------
Total Assets...................................... $ 161,669 $ 13,615 $ 10,366
========== ========== ==========
There were no customers accounting for 10% or more of revenues in 1999 and 1998.
Sales to one customer accounted for 23% of revenues in 1997 and included sales
from the network systems and network diagnostics operating segments.
NOTE Q-- COMMON STOCK
Warrants: At December 31, 1999 and 1998, the Company had warrants outstanding to
purchase an aggregate of 319,000 shares of its Common Stock, as more fully
discussed below.
In July 1997, the Company issued warrants to purchase a total of
360,000 shares of its Common Stock to five directors and one corporate officer
at $14.08 per share. These warrants vest and become exercisable in 12 equal
quarterly installments beginning on September 30, 1997. During 1998, 36,000 of
these warrants were exercised, and 319,000 were outstanding at December 31, 1998
and December 31, 1999.
In January 1997, the Company issued warrants to a director and corporate
officer to purchase 161,000 shares of its Common Stock at $4.67 per share, all
of which vested in 1997. At December 31, 1997, 54,000 of these warrants were
outstanding, all of which were exercised during 1998.
RESTRICTED STOCK: In February 1998, the Company granted a restricted stock award
of 30,000 shares of its Common Stock to a director and corporate officer in
connection with the commencement of his employment. The restricted shares vest
in five equal annual installments beginning in February 1999. This award was
valued at $607,000, which is being recognized as stock-based compensation
expense over the term of the award.
In January 1998, the Company granted a restricted stock award for an
aggregate of 15,000 shares of its Common Stock to its five non-employee
directors. The restricted shares became fully vested in January 1999. This award
was valued at $240,000, all of which was recognized as stock-based compensation
expense in 1998.
F-23
72
NOTE R--Quarterly Financial Summary (Unaudited)
QUARTERS
For the Years Ended December 31, First Second Third Fourth
---------------------------------------------------
(thousands, except per-share data)
1999
Revenues ............................................... $ 32,685 $ 51,728 $ 64,743 $ 76,912
Gross profit ........................................... 21,336 32,256 39,301 49,389
Income (loss) before provision for income
taxes ................................................. 768 (4,624) 4,030 10,055
Net income (loss)....................................... 492 (6,136) 920 5,168
Earnings (loss) per share:
Basic ............................................. $ 0.01 $ (0.11) $ 0.02 $ 0.09
Diluted ........................................... 0.01 (0.11) 0.02 0.09
1998
Revenues ............................................... $ 34,908 $ 42,949 $ 49,658 $ 49,154
Gross profit ........................................... 23,503 28,818 32,998 32,448
Income before provision for income
taxes ............................................... 10,735 13,488 16,734 14,594
Net income ............................................. 6,656 8,365 10,372 13,816
Earnings per share:
Basic ............................................. $ 0.13 $ 0.16 $ 0.19 $ 0.26
Diluted ........................................... 0.11 0.14 0.18 0.24
Tekelec typically operates with a limited backlog, and most of its revenues in
each quarter result from orders received in that quarter. Further, Tekelec
typically generates a significant portion of its revenues for each quarter in
the last month of the quarter. Tekelec establishes its expenditure levels based
on its expectations as to future revenues, and if revenue levels were to fall
below expectations this would cause expenses to be disproportionately high.
Therefore, a drop in near-term demand would significantly affect revenues,
causing a disproportionate reduction in profits or even losses in a quarter.
Tekelec's quarterly operating results may fluctuate as a result of a number of
factors, including general economic and political conditions (such as recessions
in the U.S., Japan and Europe), capital spending patterns of Tekelec's
customers, increased competition, variations in the mix of sales, fluctuation in
proportion of foreign sales, and announcements of new products by Tekelec or its
competitors.
F-24
73
REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE
To The Shareholders And Board Of Directors Of Tekelec
Our report on the consolidated financial statements of Tekelec and its
subsidiaries is included on page F-1 of this Form 10-K. In connection with our
audits of such financial statements, we have audited the related consolidated
financial statement schedule at December 31, 1999, 1998 and 1997 and for each of
the three years in the period ended December 31, 1999, as included on page S-2
of this Form 10-K.
In our opinion, the consolidated financial statement schedule referred to above,
when considered in relation to the basic financial statements taken as a whole,
presents fairly, in all material respects, the information required to be
included therein.
/s/ PricewaterhouseCoopers LLP
Woodland Hills, California
February 1, 2000
S-1
74
TEKELEC
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
Column A Column B Column C Column D Column E
- ----------------------------------------------------------------------------------------------------------------------
Additions
Balance at Charged to Charged to Deductions Balance at
Beginning Costs and Other and other End of
Description of Period Expenses Accounts Adjustments Period
- -----------------------------------------------------------------------------------------------------------------------
(thousands)
Year ended December 31, 1997:
- -----------------------------
Allowance for doubtful accounts $ 368 $ 101 $ -- $ -- $ 469
Product warranty ............... 1,555 655 -- 990 1,220
Inventory provision ............ 1,315 775 -- 750 1,340
Deferred tax valuation allowance 14,990 -- -- 12,742 2,248
Year ended December 31, 1998:
- -----------------------------
Allowance for doubtful accounts $ 469 $ 475 $ -- $ 181 $ 763
Product warranty ............... 1,220 2,388 -- 1,261 2,347
Inventory provision ............ 1,340 1,021 -- 621 1,740
Deferred tax valuation allowance 2,248 -- -- 2,248 --
Year ended December 31, 1999:
- -----------------------------
Allowance for doubtful accounts $ 763 $ 265 $ 495 $ 45 $ 1,478
Product warranty ............... 2,343 1,395 -- 985 2,753
Inventory provision ............ 1,740 760 -- 328 2,172
S-2
75
EXHIBIT INDEX
Sequentially
Exhibit Numbered
Number Description Page
- ------ ----------- -----------
10.7 Amendment No. 2 to Tekelec Officer Severance Plan
dated February 4, 2000.................................................
21.1 Subsidiaries of the Registrant........................................
23.1 Consent of PricewaterhouseCoopers LLP.................................
27.1 Financial Data Schedule for the year ended
December 31, 1999.....................................................