FORM 6-K
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Report of Foreign Issuer
Pursuant to Rule 13a-16 of 15d-16 of
the Securities Exchange Act of 1934
For the month of November 1999
(containing quarterly information for the quarter ended September 30, 1999)
Galileo Technology Ltd.
- --------------------------------------------------------------------------------
(Translation of registrant's name into English)
Moshav Manof, D.N. Misgav 20184, Israel
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(Address of principal executive offices)
Indicate by check mark whether the registrant files or will file annual
reports under cover Form 20-F or Form 40-F.
Form 20-F X Form 40-F _____
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Indicate by check mark whether the registrant by furnishing the information
contained in this Form is also thereby furnishing the information to the
Commission pursuant to Rule 12g3-2(b) under the Securities Exchange Act of 1934.
Yes _____ No X
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GALILEO TECHNOLOGY LTD.
FORM 6-K
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited):
Condensed Consolidated Balance Sheets
September 30, 1999 and December 31, 1998
Condensed Consolidated Statements of Operations Three and
nine months ended September 30, 1999 and 1998
Condensed Consolidated Statements of Cash Flows Nine months
ended September 30, 1999 and 1998
Notes to Condensed Consolidated Financial Statements
(Unaudited)
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Item 3. Quantitative and Qualitative Disclosures about Market Risk
PART II. OTHER INFORMATION
Item 1. Exhibits - Exhibit Index
Signatures
1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
GALILEO TECHNOLOGY LTD.
CONDENSED CONSOLIDATED BALANCE SHEETS
(U.S. dollars, in thousands)
September 30, December 31,
1999 1998
-------------------------------
(Unaudited) (1)
ASSETS
Current assets:
Cash and cash equivalents $ 45,440 $ 45,607
Short-term investments 57,268 40,838
Accounts receivable, net 10,990 5,207
Inventories 6,846 2,851
Prepaid expenses and other assets 3,159 1,745
-------------------------------
Total current assets 123,703 96,248
Other assets 2,082 1,857
Property and equipment, net 7,991 4,816
-------------------------------
Total assets $ 133,776 $ 102,921
===============================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 10,949 $ 4,826
Accrued and other liabilities 8,444 6,078
Deferred income 1,480 771
Short-term debt and current maturities of long-term debt 10 128
-------------------------------
Total current liabilities 20,883 11,803
Accrued severance pay 346 283
Long-term debt - 6
Other liabilities 1,351 1,030
Commitments
Shareholders' equity:
Ordinary Shares 72,263 70,148
Treasury Shares at cost - (1,451)
Deferred compensation (559) (941)
Accumulated other comprehensive income 25 155
Retained earnings 39,467 21,888
-------------------------------
Total shareholders' equity 111,196 89,799
-------------------------------
Total liabilities and shareholders' equity $ 133,776 $ 102,921
===============================
See accompanying notes.
(1) The balance sheet at December 31, 1998 has been derived from audited
financial statements at that date, but does not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements.
2
GALILEO TECHNOLOGY LTD.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(U.S. dollars, in thousands, except per share data)
(Unaudited)
Three Months Ended Nine Months Ended
---------------------------------- ---------------------------------
September 30, September 30, September 30, September 30,
1999 1998 1999 1998
---------------------------------- ---------------------------------
Net sales $22,024 $11,454 $55,447 $37,952
Cost of sales 7,620 4,343 19,314 14,301
---------------------------------- ---------------------------------
Gross profit 14,404 7,111 36,133 23,651
Operating expenses:
Research and development 4,689 2,807 11,653 8,011
Selling, marketing and administrative 3,404 2,285 8,786 7,008
---------------------------------- ---------------------------------
Total operating expenses 8,093 5,092 20,439 15,019
---------------------------------- ---------------------------------
Operating income 6,311 2,019 15,694 8,632
Other income, net 1,123 984 3,415 3,106
---------------------------------- ---------------------------------
Income before provision for income taxes 7,434 3,003 19,109 11,738
Provision for income taxes 375 150 955 535
---------------------------------- ---------------------------------
Net income $ 7,059 $ 2,853 $18,154 $11,203
=================================== ================================
Earnings per share:
Basic $ 0.17 $ 0.07 $ 0.44 $ 0.28
=================================== ================================
Diluted $ 0.16 $ 0.07 $ 0.41 $ 0.26
=================================== ================================
Shares used in computing earnings per share:
Basic 41,472 40,742 41,059 40,722
=================================== ================================
Diluted 45,399 42,014 44,676 42,332
=================================== ================================
See accompanying notes.
3
GALILEO TECHNOLOGY LTD.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Increase (decrease) in cash and cash equivalents
(U.S. dollars, in thousands)
(Unaudited)
Nine Months Ended
----------------------------------
September 30, September 30,
1999 1998
----------------------------------
Cash flows from operating activities
Net income $ 18,154 $ 11,203
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and other 2,012 1,157
Amortization of deferred compensation 383 455
Deferred income taxes - 208
Changes in operating assets and liabilities:
Accounts receivable (5,783) (848)
Inventories (3,995) 214
Prepaid expenses and other assets (1,328) 299
Accounts payable 6,123 (686)
Accrued and other liabilities 2,366 (31)
Deferred income 709 (75)
Accrued severance pay and other liabilities 124 34
----------------------------------
Net cash provided by operating activities 18,765 11,930
Cash flows from investing activities
Purchases of short-term investments (28,022) (36,551)
Proceeds from short-term investments 11,462 25,421
Purchases of property and equipment (5,187) (2,150)
Other assets (51) -
----------------------------------
Net cash used in investing activities (21,798) (13,280)
Cash flows from financing activities
Proceeds from issuance of Ordinary Shares 2,990 1,863
Repurchase of Ordinary Shares - (1,467)
Repayment of debt (124) (184)
----------------------------------
Net cash provided by financing activities 2,866 212
Net decrease in cash and cash equivalents (167) (1,138)
Cash and cash equivalents at beginning of period 45,607 43,887
----------------------------------
Cash and cash equivalents at end of period $ 45,440 $ 42,749
==================================
See accompanying notes.
4
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation:
The condensed consolidated financial statements have been prepared by
Galileo Technology Ltd., without audit, and include the accounts of Galileo
Technology Ltd. and its wholly-owned subsidiaries ("Galileo" or collectively the
"Company"). Certain information and footnote disclosures, normally included in
financial statements prepared in accordance with generally accepted accounting
principles, have been condensed or omitted pursuant to such rules and
regulations. In the opinion of the Company, the financial statements reflect all
adjustments, consisting only of normal recurring adjustments, necessary for a
fair presentation of the financial position at September 30, 1999 and December
31, 1998, and the operating results and cash flows for the reported periods.
These financial statements and notes should be read in conjunction with the
Company's audited financial statements and notes thereto for the year ended
December 31, 1998, which were filed with the Securities and Exchange Commission
on Form 20-F.
The results of operations for the three and nine months ended
September 30, 1999 are not necessarily indicative of the results that may be
expected for the future quarters or the year ending December 31, 1999.
2. Earnings Per Share
The following table sets forth the computation of basic and diluted
earnings per share (in thousands, except per share data):
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------------- ------------------------------
1999 1998 1999 1998
-------------------------------- -----------------------------
Numerator used for both basic and diluted
earnings per share - net income $ 7,059 $ 2,853 $ 18,154 $ 11,203
-------------------------------- -----------------------------
Denominator for basic earnings per share-
Weighted average shares 41,472 40,742 41,059 40,722
-------------------------------- -----------------------------
Denominator for diluted earnings per share:
Denominator for basic earnings per share 41,472 40,742 41,059 40,722
Effect of dilutive securities-
Share options 3,927 1,272 3,617 1,610
-------------------------------- -----------------------------
45,399 42,014 44,676 42,332
================================ =============================
Earnings per share:
Basic $ 0.17 $ 0.07 $ 0.44 $ 0.28
================================ =============================
Diluted $ 0.16 $ 0.07 $ 0.41 $ 0.26
================================ =============================
Potentially dilutive securities excluded from
computations as the effect would be
antidilutive 26 2,042 50 764
================================= ==============================
5
3. Inventories
are stated at the lower of cost or market value. Cost is
determined by the first-in, first-out (FIFO) method. Substantially all of the
inventories are finished goods.
4. Comprehensive Income
Total comprehensive income for the three months ended September 30, 1999
and 1998 was $7,087,000 and $3,061,000, respectively. For the nine months ended
September 30, 1999 and 1998, total comprehensive income was $18,024,000 and
$11,347,000, respectively. Other comprehensive income represents net unrealized
gain (loss) on available-for-sale investments.
5. Segment Information
The Company and its subsidiaries operate in one segment, principally the
definition, development and marketing of semiconductor devices for the data
communication market. Operations in Israel include research and development and
production contracting. Operations in the U.S. include marketing and sales.
6. Stock Split
On September 17, 1999, the Company effected a two-for-one stock split in
the form of a stock dividend. Accordingly, all references to share and per-share
data for all periods presented have been adjusted to reflect this event.
7. New Accounting Standards
Effective January 1, 1999, the Company adopted Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed for or Obtained for
Internal Use" (the "SOP"). The SOP requires the capitalization of certain costs
incurred in connection with developing or obtaining software for internal use.
The Company previously expensed such costs as incurred. The adoption of the new
SOP does not have a material impact on the Company's consolidated results of
operations, financial position or cash flows.
In June 1999, the FASB issued Statement No. 137, "Accounting for Derivative
Instruments and Hedging Activities - Deferral of the Effective Date of FASB
Statement No. 133." This Statement defers for one year the effective date of
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities" ("SFAS 133"). The rule will now apply for years beginning after June
15, 2000. Because of the Company's minimal use of derivatives, the Company does
not anticipate that the adoption of SFAS 133 will have a significant effect on
the Company's consolidated results of operations or financial position.
6
PART I. FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following information should be read in conjunction with the condensed
consolidated interim financial statements and the notes thereto in Part I, Item
1 of this quarterly report and with Management's Discussion and Analysis of
Financial Condition and Results of Operations contained in the Company's Annual
Report on Form 20-F for the year ended December 31, 998.
The following Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements that involve risks and
uncertainties. The Company's actual results could differ materially from those
anticipated in these forward-looking statements as a result of certain factors,
including those set forth under "Risk Factors" contained herein and in the
Company's other filings with the Securities and Exchange Commission.
Overview
Galileo defines, develops and markets advanced digital semiconductor
devices that perform critical functions for network systems, including LANs,
WANs, and the Internet. Time-to-market pressures, bandwidth constraints and the
need for improved network management capabilities have forced network system
vendors increasingly to transition from internally-developed solutions to third-
party semiconductor devices that are highly-integrated, scalable, programmable
and flexible and meet the demands of more technologically sophisticated
networks. Galileo's highly integrated "datacom systems on silicon" simplify the
designs, reduce development risks and costs, and substantially improve time-to-
market for manufacturers of data communications equipment. The Company's product
lines --system controllers, switched Ethernet controllers, and communications
controllers -- provide three of the key technologies needed in communications
systems. Galileo Technology Ltd. is an international company with its
headquarters in Moshav Manof, Israel and its business headquarters, Galileo
Technology, Inc. ("GTI"), in San Jose, California.
7
Results of Operations
The following table sets forth, as a percentage of net sales, statement of
operations data for the periods indicated.
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
----------------------------------------------------
Net sales 100% 100% 100% 100%
Cost of sales 34.6 37.9 34.8 37.7
----------------------------------------------------
Gross profit 65.4 62.1 65.2 62.3
Operating expenses:
Research and development 21.3 24.5 21.0 21.1
Selling, marketing and administrative 15.4 20.0 15.9 18.5
----------------------------------------------------
Total operating expenses 36.7 44.5 36.9 39.6
Operating income 28.7 17.6 28.3 22.7
Other income, net 5.1 8.6 6.1 8.2
----------------------------------------------------
Income before provision for income taxes 33.8 26.2 34.4 30.9
Provision for income taxes 1.7 1.3 1.7 1.4
----------------------------------------------------
Net income 32.1% 24.9% 32.7% 29.5%
====================================================
Net Sales. Net sales to date have been derived primarily from the sale of
system controllers and switched Ethernet LAN controllers. Net sales increased to
$22.0 million for the three months ended September 30, 1999 from $11.5 million
for the three months ended September 30, 1998. Net sales increased to $55.4
million for the nine months ended September 30, 1999 from $38.0 million for the
nine months ended September 30, 1998. The Company experienced unit sales growth
for both its system controllers and switched Ethernet LAN controllers for the
three and nine months ended September 30, 1999 as compared to the three and nine
months ended September 30, 1998. Contributing to the increase in net sales was
the increased demand for the Company's new generation of switched Ethernet LAN
controllers, the GalNet-II product family, and new controller products.
Four customers accounted for approximately 22%, 22%, 12% and 11%,
respectively, of the Company's net sales for the three months ended September
30, 1999. The same four customers accounted for approximately 23%, 16%, 11% and
10%, respectively, of the Company's net sales for the nine months ended
September 30, 1999. The Company expects a significant portion of its future net
sales to remain concentrated within a limited number of strategic customers.
There can be no assurance that the Company will be able to retain its strategic
customers, that such customers will not cancel or reschedule orders or that, in
the event they cancel orders, such orders will be replaced by other sales. The
occurrence of any such events or the loss of a strategic customer would have a
material adverse effect on the Company's operating results. See "Risk Factors--
Risks Relating to the Company--Customer Concentration" and "--Dependence on
OEMs."
8
Cost of Sales/Gross Profit. Cost of sales consists principally of the cost
of purchased packaged semiconductor products from the Company's foundries. Cost
of sales increased to $7.6 million for the three months ended September 30, 1999
from $4.3 million for the three months ended September 30, 1998. Cost of sales
increased to $19.3 million for the nine months ended September 30, 1999 from
$14.3 million for the nine months ended September 30, 1998. The increase in cost
of sales for the three and nine months ended September 30, 1999 as compared to
the three and nine months ended September 30, 1998 was due to increased sales of
system controllers and switched Ethernet LAN controllers.
The gross margin on net sales for the three months ended September 30, 1999
increased to 65.4% from 62.1% for the three months ended September 30, 1998. The
gross margin on net sales for the nine months ended September 30, 1999 increased
to 65.2% from 62.3% for the nine months ended September 30, 1998. The increase
in the Company's gross margin on net sales for the three and nine months ended
September 30, 1998, is primarily due to the increased percentage of net sales
comprising of new products that currently generate higher gross margin.
Additionally, the Company has experienced overall lower product manufacturing
costs in the three and six months ended September 30, 1999 as compared to the
three and six months ended September 30, 1998. These factors were partially
offset by a decline in the average selling price of the company's products. The
Company anticipates that the average selling price on the company's existing
products will continue to decline in the future. Such declines in the average
selling price will lead to declines in the Company's overall gross margin,
absent offsetting cost reductions or higher margins on new product
introductions.
Research and Development Expenses. Research and development expenses
primarily consist of salaries and related costs of employees engaged in ongoing
research, design and development activities, and subcontracting costs. Research
and development expenses for the three months ended September 30, 1999 increased
to $4.7 million from $2.8 million for the three months ended September 30, 1998.
Research and development expenses increased to $11.7 million for the nine months
ended September 30, 1999 from $8.0 million for the nine months ended September
30, 1998. As a percentage of net sales, research and development expenses were
21.3% and 24.5% for the three months ended September 30, 1999 and 1998,
respectively. The increase in research and development expenses in absolute
dollars reflects the addition of personnel, an increase in nonrecurring
engineering and product verification expenses and higher depreciation expense.
The Company anticipates that research and development expenses will continue to
increase in absolute dollars.
Selling, Marketing and Administrative Expenses. Selling, marketing and
administrative expenses are mainly comprised of commissions to sales
representatives, employee-related expenses, advertising, trade exhibition
expenses and professional fees. Selling, marketing and administrative expenses
were $3.4 million for the three months ended September 30, 1999 and $2.3 million
for the three months ended September 30, 1998. Selling, marketing and
administrative expenses increased to $8.8 million for the nine months ended
September 30, 1999 from $7.0 million for the nine months ended September 30,
1998. As a percentage of net sales, selling, marketing and administrative
expenses were 15.4% and 20.0% for the three months ended September 30, 1999 and
1998, respectively. Selling, marketing and administrative expenses were 15.9%
and 18.5% of net sales for the nine months ended September 30, 1999 and 1998,
respectively. The increase in selling, marketing and administrative expenses in
absolute dollars was primarily due to increased sales commissions on higher
sales and personnel additions. The Company anticipates that sales, marketing and
administrative expenses will continue to increase in absolute dollars.
Other Income, Net. Other income, net was $1.1 million for the three months
ended September 30, 1999 and $1.0 million for the three months ended September
30, 1998. Other income, net increased to $3.4 million for the nine months ended
September 30, 1999 from $3.1 million for the nine months ended September 30,
1998. The increase in other income, net for the three and nine months ended
September 30, 1999 from the three and nine months ended September 30, 1998 is
primarily due to higher average cash and short-term investment balances as a
result of cash generated from operations.
Provision for Income Taxes. The provision for income taxes for the three
and nine months ended September 30, 1999 and 1998 primarily consisted of the
Company's United States income tax expense.
9
The Company receives certain tax benefits through operating in Israel, as a
result of the "Approved Enterprise" status of most of the Company's existing
facilities. The Approved Enterprise status will allow a full tax exemption on
the undistributed income derived from the Company's investment in its Israeli
facilities. The benefits of the investment plans are expected to expire in 2006.
Entitlement to the benefits is conditional upon the Company fulfilling the
conditions stipulated by the Investment Law, regulations published thereunder
and the instruments of approval for the specific investments in Approved
Enterprises. In the event that these conditions are violated, in whole or in
part, the Company would be required to refund the amount of tax benefits, with
the addition of the Israeli CPI linkage adjustment and interest. The Company
believes its Approved Enterprise operates in substantial compliance with all
such conditions and criteria.
If the Company decides to distribute a cash dividend out of income that has
been exempted from tax, the income out of which the dividend is distributed will
be subject to the 25% Israeli corporate tax rate. The Company currently has no
plans to distribute dividends and intends to retain future earnings to finance
the development of its business.
The Company's pre-tax income from its U.S. operations is subject to U.S.
taxation at U.S. statutory tax rates. However, the Company anticipates that most
of its income will be generated from its Israeli operations and therefore its
overall effective tax rate will be significantly lower than the U.S. statutory
income tax rate.
Liquidity and Capital Resources
Cash, cash equivalents and short-term investments were $102.7 million at
September 30, 1999. The Company generated net cash from operations of $18.8
million for the nine months ended September 30, 1999. Net cash from operations
for the nine months ended September 30, 1999 consisted primarily of net income
plus depreciation and an increase in accounts payable and accrued and other
liabilities offset by an increase in accounts receivable, inventories and
prepaid expenses and other assets. Investing activities for the nine months
ended September 30, 1999, other than purchases and proceeds from short-term
investments and other assets, reflected purchases of property and equipment of
$5.2 million. Continued expansion of the Company's business may require higher
levels of capital equipment purchases. Financing activities provided cash of
$2.9 million primarily from the issuance of Ordinary Shares pursuant to option
exercises.
At September 30, 1999, the Company had $102.8 million in working capital.
The Company's principal sources of liquidity at September 30, 1999 consisted of
approximately $102.7 million in cash, cash equivalents and short-term
investments. The Company believes that its existing cash, cash equivalents and
short-term investments, together with any cash flow generated from its
operations, will be sufficient to satisfy its working capital and capital
expenditure requirements for at least the next 12 months.
Foreign Currency Transactions
Substantially all of the Company's sales and a substantial portion of its
costs are denominated in United States dollars. Since the dollar is the primary
currency in the economic environment in which the Company operates, the dollar
is its functional currency, and, accordingly, monetary accounts maintained in
currencies other than the dollar (principally cash and liabilities) are
remeasured using the foreign exchange rate at the balance sheet date.
Operational accounts and nonmonetary balance sheet accounts are remeasured and
recorded at the rate in effect at the date of the transaction. The effects of
foreign currency remeasurement are reported in current operations, and have been
immaterial to date.
Impact of Year 2000
The "Year 2000" issue results from the use in computer hardware and
software of two digits rather than four digits to define the applicable year.
When computer systems must process dates both before and after January 1, 2000,
two-digit year "fields" may create processing ambiguities that can cause errors
and system failures. The results of these errors may range from minor undetected
errors to complete shutdown of an affected system. These errors or failures may
have limited effects, or the effects may be widespread,
10
depending on the computer chip, system or software, and its location and
function. The effects of the Year 2000 problem are exacerbated because of the
interdependence of computer and telecommunications systems in the United States
and throughout the world. Because of this interdependence, the failure of one
system may lead to the failure of many other systems even though the other
systems are themselves "Year 2000 compliant."
The Company relies heavily on information technology ("IT") systems and
other systems and facilities such as telephones, building access control systems
and heating and ventilation equipment ("non-IT") systems. If the Company's or
significant third parties' IT and/or non-IT systems do not adequately or
accurately process or manage day or date information beyond the year 1999, there
could be a material adverse impact on the Company's operations. To address the
issue, the Company has assembled a Year 2000 cross-functional project team. The
Year 2000 project team has developed a phased approach to identifying and
remediating Year 2000 issues, with many of these phases overlapping with one
another or conducted simultaneously. The Company is also working with its
significant third party suppliers of products and systems to assure that the
products and systems supplied to the Company, and the products the Company
supplies to its customers, are Year 2000 compliant.
The Year 2000 project consists of four main phases. The first phase
involves an internal assessment of the Company's IT and non-IT systems to
identify any potentially non-compliant Year 2000 systems. The Company has
substantially completed its internal assessment of its IT and non-IT systems.
Although, the Company believes it has completed the internal assessment of its
IT and non-IT, the Company will continue to internally assess newly acquired,
developed or modified systems. Also, there can be no assurance that the Company
has successfully identified all applicable systems to be tested. In addition to
the internal assessment of the Company's systems, the Company has conducted
inquiries of its significant third party vendors to assess their Year 2000
readiness The Company has inquired and received responses from substantially all
of its significant third party vendors in regards to their Year 2000 readiness.
The Company has not identified any significant third party vendor without its
own Year 2000 readiness plan in place.
The second phase of the Year 2000 project is to remediate any of the
Company's IT and/or non-IT systems that are determined not to be Year 2000
compliant. The Company has successfully upgraded all identified non-compliant
systems to date. To the extent the Company further identifies any non-compliant
systems while performing its ongoing assessment phase the Company intends on
either replacing or upgrading such systems.
The third phase of the Year 2000 project is to test all assessed internal
IT and non-IT systems. Such testing will include present and forward date
testing which will simulate dates in the Year 2000. The Company has completed
this phase and did not identify any internal IT or non-IT systems that are
currently being relied upon by the Company that were not Year 2000 compliant.
The fourth phase is to develop contingency/recovery plans aimed at ensuring
the continuity of critical business functions before and after December 31,
1999. As part of that process, the Company has developed reasonably likely
failure scenarios for its critical IT and non-IT systems and external
relationships. Based on such analysis, the Company has developed plans that are
designed to reduce the impact on the Company, and provide methods of returning
to normal operations, if one or more of those scenarios occur. There can be no
assurance that any such plans will fully mitigate any such failures or problems
or mitigate such failures or problems at all.
The Impact of Year 2000 issues on the Company will depend not only on the
review and corrective actions that the Company takes, but also on the way in
which Year 2000 issues are addressed by governmental agencies, business and
other third parties, including the Company's significant vendors and customers,
that provide services or data to, or receive services, data or product from, the
Company, or whose financial condition or operational capability is important to
the Company. As discussed above, to reduce this exposure, the Company is
engaging in an ongoing process of identifying and contacting mission-critical
third party vendors to determine their Year 2000 plans and target dates to
ensure Year 2000
11
compliance. Notwithstanding the Company's efforts, there can be no assurance
that the Company, mission-critical third party vendors or other significant
third parties will adequately address their Year 2000 issues.
The extent and magnitude of the Year 2000 problem as it will affect the
Company, both before and for some period after January 1, 2000, are difficult to
predict or quantify for a number of reasons. Among the most important are lack
of control over systems that are used by third parties who are critical to the
Company's operation, including the Company's significant customers and vendors,
dependence on third party software vendors to deliver Year 2000 upgrades in a
timely manner, and the uncertainty surrounding how others will deal with
liability issues raised by Year 2000 related failures. Therefore it is very
difficult for the Company to assess the most reasonably likely worst case
scenario in the event that any Year 2000 problems arise.
To date the Company's costs related to replacing and upgrading its IT and
non-IT systems relating to the Year 2000 compliance project have been
immaterial, and based on the results of its assessment phase completed to date
the Company does not expect the aggregate amount spent on such replacements and
upgrades to exceed $25,000. However, there can be no assurance that unexpected
delays or problems, including the failure to ensure Year 2000 compliance by
systems or products supplied to the Company by a third party, will not have an
adverse effect on the Company, its financial performance, or the competitiveness
or customer acceptance of its products. Further, the Company's current
understanding of expected costs is subject to change as the project progresses
and does not include potential costs related to actual customer claims.
12
RISK FACTORS
Risks Relating to the Company
Potential Fluctuations in Operating Results. The Company's operating
results are subject to quarterly and other fluctuations due to a variety of
factors, including the gain or loss of significant customers, increased pricing
pressures, the timing of new product and feature announcements and introductions
by the Company, its competitors or its customers and market acceptance of
existing, new or enhanced versions of the Company's and its competitors' and
customers' products. Additionally, even if existing, new or enhanced versions of
the Company's products are accepted by the Company's customers, the Company
could experience fluctuations in its operating results as a result of any delays
or slowdown in the customers production ramp. Other factors include the
availability of foundry capacity, the availability of products as a result of
fluctuations in manufacturing yields and the availability and cost of raw
materials to its main supplier, TSMC in Taiwan, the availability of advanced
packaging capacity, changes in the mix of products sold, the cyclical nature of
both the data communications market and the semiconductor industry, the timing
of significant orders, order cancellations and reschedulings, significant
increases in expenses associated with expansion of operations and changes in
pricing policies of the Company, its competitors or TSMC, including decreases in
unit average selling prices ("ASPs") of the Company's products. Historically,
unit ASPs in the semiconductor industry have decreased over the life of
individual products. In the past, the Company has experienced decreases in unit
ASPs on each of its products. The Company believes that many of its current and
potential customers are volume purchasers, and will require volume discounts,
and that per unit ASPs of individual products will continue to decline in the
future due to these increased volume shipments and other pricing pressures. Such
declines in unit ASPs will lead to declines in the gross margins for these
products, absent offsetting cost reductions or high margins on new product
introductions. Furthermore, as the Company enters new markets, there can be no
assurance that gross margins will be consistent with historical levels. These
factors are difficult to forecast, and these or other factors could materially
affect the Company's quarterly or annual operating results. Therefore, there can
be no assurance as to the level of net sales or net income, if any, that may be
attained by the Company in any given period in the future. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Dependence on Taiwan Semiconductor Manufacturing Company ("TSMC"),
Substantially all of the Company's semiconductor devices are manufactured,
assembled and tested by TSMC and its subcontractors. The Company intends to
continue to rely on TSMC and its subcontractors for substantially all of its
manufacturing, assembly and testing requirements for the foreseeable future.
TSMC also manufactures products for other companies. The Company does not have a
long-term manufacturing agreement with TSMC. Therefore, TSMC is not obligated to
supply products to the Company for any specific period, in any specific quantity
or at any specific price, except as may be provided in a particular purchase
order that has been accepted by TSMC. The Company's reliance on TSMC for the
manufacture, assembly and testing of its products involves a number of risks,
including the possible absence of adequate capacity as the Company expands, the
unavailability of, or interruption in access to, certain process technologies
and reduced control over delivery schedules, quality assurance, manufacturing
yields and costs. The Company has experienced delays and may in the future
experience delays in receiving semiconductor devices from TSMC, and there can be
no assurance that the Company will be able to obtain semiconductor devices
within the time frames and in the volumes required by the Company at an
affordable cost or at all.
Intense Competition. The data communications market into which the Company
sells its products is intensely competitive and is subject to frequent product
introductions with improved price/performance characteristics, rapid
technological change, unit ASP erosion and continued emergence of new industry
standards. The semiconductor industry is also intensely competitive and is
characterized by rapid technological change, product obsolescence and unit ASP
erosion. The Company expects competition to increase in the future from existing
competitors and from companies that may enter the Company's existing or future
markets, including certain current customers, with similar or substitute
solutions that may be less costly or provide better performance or features than
the Company's products. To be successful in the
13
future, the Company must continue to respond promptly and effectively to
changing customer performance, feature and pricing requirements, technological
change and competitors' innovations. There can be no assurance that the Company
will be able to compete successfully against current and future competitors or
that competitive pressures faced by the Company will not have a material adverse
effect on the Company's business, financial condition and results of operations.
Third-party merchant competitors vary in the scope of the products and
services they offer. Many large companies develop and market network components.
In the market for system controllers, the Company's competitors include NEC
Corp. with respect to the MIPS microprocessor, several small companies with
respect to the Intel i960 microprocessor, and Motorola and IBM with respect to
the Power PC microprocessor. The Company's switched Ethernet LAN controllers
compete with products from companies such as Texas Instruments Incorporated, MMC
Networks, Allayer Technologies Corporation, I-Cube, Inc., PMC-Sierra Inc, and
Broadcom Corporation. The Company's remote access WAN controller competes
directly with well-established products from Motorola, Inc. and more recent
products from Siemens A.G. and Temic Semiconductors. In addition, the Company
expects increased competition in the future from other emerging and established
companies.
Customer Concentration. To date, a small number of customers have accounted
for a majority of the Company's net sales. The Company expects that revenues
from the sale of its products to a limited number of customers will continue to
account for a significant percentage of its net sales for the foreseeable
future. In addition, a limited number of large OEMs account for a majority of
purchasers in the data communications market, and the Company's success will be
dependent upon its ability to establish and maintain relationships with these
customers. The Company currently has purchase agreements with a few of its
larger customers. None of the Company's customer purchase agreements contains
minimum purchase requirements. Customers purchase the Company's products
pursuant to short-term purchase orders that may be canceled without charge if
notice is given within an agreed-upon period. The loss of any one of the
Company's major customers would have a material adverse effect on the Company's
business, financial condition and results of operations. The Company's future
success depends in significant part upon the decision of the Company's current
and prospective customers to continue to purchase products from the Company.
There is increasing consolidation within the Company's customer base.
Accordingly, there can be no assurance that the Company's current customers will
continue to place orders with the Company or that the Company will be able to
obtain orders from new customers. If orders by current customers are canceled,
decreased or delayed or the Company fails to obtain significant orders from new
customers, the Company's business, financial condition and results of operations
would be materially adversely affected.
Product Concentration; Broad Market Acceptance of Products. The Company
currently derives substantially all of its net sales from its system controllers
and switched Ethernet LAN controllers, and the Company expects that net sales
from these products will continue to account for a substantial portion of the
Company's net sales for the foreseeable future. The Company's future performance
will also depend in part on its ability to successfully develop, introduce and
market new and enhanced products at competitive prices, including the Company's
WAN communication controllers. Broad market acceptance of these products is,
therefore, critical to the Company's future success. Factors that may affect the
market acceptance of the Company's products include the market acceptance of
network switching products, the price, functionality and availability of
competing products and technologies, and the success of the sales efforts of the
Company and its customers. There can be no assurance that the Company will be
able to develop products that will attain broad market acceptance. Failure of
the Company's products to achieve broad market acceptance would have a material
adverse effect on the Company's business, financial condition and results of
operations. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations".
Rapid Technological Change; Necessity to Develop and Introduce New
Products. The markets for the Company's products are characterized by rapidly
changing technologies, evolving and competing industry standards, changes in
customer needs, emerging competition, new product introductions and rapid
product obsolescence. The Company's future success will depend, in part, on its
ability to use leading technologies effectively, to continue to develop its
technical expertise, to maintain close working relationships with its key
customers in order to develop new products that meet changing customer needs, to
advertise and
14
market its products and to influence and respond to changing industry standards
and other technological changes on a timely and cost-effective basis. There can
be no assurance that the Company will be successful in effectively developing or
using new technologies, developing new products or enhancing its existing
products on a timely basis, or that such new technologies or enhancements will
achieve market acceptance. The Company's pursuit of necessary technological
advances may require substantial time and expense, and there can be no assurance
that the Company will succeed in adapting its products or business to alternate
technologies. Failure of the Company, for technological or other reasons, to
develop and introduce new or enhanced products that are compatible with industry
standards and that satisfy customer price and performance requirements would
have a material adverse effect on the Company's business, financial condition
and results of operations.
In addition, the Company's competitors may offer enhancements to existing
products, or offer new products based on new technologies, industry standards or
customer requirements, that have the potential to replace or provide lower cost
alternatives to the Company's products. The introduction of such enhancements or
new products by the Company's competitors could render the Company's existing
and future products obsolete, unmarketable or inoperable. There can be no
assurance that the Company will be able to develop new products to compete with
new technologies on a timely basis or in a cost-effective manner.
Dependence on OEMs. The Company's future success depends on OEMs' designing
the Company's products into their network systems. The Company must anticipate
market trends and the price, performance and functionality requirements of such
network system vendors and must successfully develop and manufacture products
that meet these requirements. In addition, the Company must meet the timing
requirements of such OEMs and must make products available to them in sufficient
quantities. The Company works closely with its customers to determine customers'
future product needs and receives a rolling forecast from customers for
products. The Company has incurred and expects to continue to incur expenses
based upon these sales forecasts. The Company's customer purchase agreements
contain no minimum purchase requirements. Customers purchase the Company's
products pursuant to short-term purchase orders that may be canceled without
charge if notice is given within an agreed-upon period. Therefore, there can be
no assurance that the actual net sales which the Company will receive will be
commensurate with the level of expenses that the Company will incur based on
forecasts it receives from its customers in any future period. The Company
believes that its success in broadly penetrating markets for its products also
depends on its ability to maintain and cultivate relationships with OEMs that
are leaders in the data communications and networking markets. Accordingly, in
selling to OEMs, the Company can often incur significant expenditures prior to
volume sales of new products. The inability of the Company to develop
relationships with additional OEMs and have its products designed into new
network systems developed by existing and potential OEM customers would have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Risks Relating to Operations in Israel
Operations in Israel. The Company is incorporated under the laws of, and
its principal offices are located in, the State of Israel. Thus, the Company is
directly influenced by the political, economic and military conditions affecting
Israel. Accordingly, any major hostilities involving Israel, the interruption or
curtailment of trade between Israel and its present trading partners or a
significant downturn in the economic or financial condition of Israel could have
a material adverse effect on the Company's business, financial condition and
results of operations. Despite some progress toward peace between Israel and its
Arab neighbors, there remain a number of countries that restrict business with
Israel or Israeli companies. There can be no assurance that restrictive laws or
policies toward Israel or Israeli businesses will not have an adverse effect on
the expansion of the Company's business.
Inflation and Currency Fluctuations. Because most of the Company's net
sales are generated in U.S. dollars, and a substantial portion of the Company's
operating expenses are incurred in NIS, the Company is exposed to risk to the
extent that the rate of inflation in Israel exceeds the rate of devaluation of
the NIS in relation to the U.S. dollar or the timing of such devaluation lags
behind inflation in Israel. Likewise, the
15
Company's operations could be adversely affected if it is unable to guard
against currency fluctuations in the future. In the future, the Company may
enter into currency hedging transactions to decrease the risk of financial
exposure from fluctuations in the exchange rate of the dollar against the NIS;
however, no assurance can be given that such measures will adequately protect
the Company from material adverse effects due to the impact of inflation in
Israel. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Dependence on Tax Benefits. The Company receives certain tax benefits
through operating in Israel, particularly as a result of the "Approved
Enterprise" status of most of the Company's existing facilities. To be eligible
for these tax benefits, the Company must continue to meet certain. The Company
believes that it is in compliance with all applicable conditions. If the Company
fails to meet such conditions in the future, the tax benefits could be canceled
and the Company would be required to refund the tax benefits already received
with the addition of the Israeli CPI linkage adjustment and interest. There can
be no assurance that these tax benefits will be continued in the future at their
current levels or at any level. Israeli authorities have indicated that the
government may reduce or eliminate these benefits in the future. The termination
or reduction of certain tax benefits would have a material adverse effect on the
Company's business, financial condition and results of operations. The Company
may, from time to time, submit requests for expansion of its Approved Enterprise
programs or for new programs. No assurance can be given that any such requests
will be approved. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Item 3. Quantitative and Qualitative Disclosures about Market Risk
In the normal course of business, the financial position of the Company is
routinely subjected to a variety of risks, including market risk associated with
interest rate movements and currency rate movements on non-U.S. dollar
denominated assets and liabilities, as well as collectibility of accounts
receivable. The Company regularly assesses these risks and has established
policies and business practices to protect against the adverse effects of these
and other potential exposures. As a result, the Company does not anticipate
material losses in these areas.
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PART II. OTHER INFORMATION
Item 1. Exhibits
EXHIBIT INDEX
Exhibit
Number Description of Document
- ------- -----------------------
1 October 19, 1999 Press Release: "Galileo Technology Ltd. Reports
Record Revenue and Profits."
27.1 Financial Data Schedule (Nine months ended September 30, 1999)
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
GALILEO TECHNOLOGY LTD.
November 19, 1999 By: George A. Hervey
----------------
George A. Hervey, Sr. Vice President
of Finance and Chief Financial Officer
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