SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended September 30, 1997
or
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ___________
Commission File Number 0-23006
DSP GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 94-2683643
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(State or other jurisdiction of (I.R.S. employer identification number)
incorporation or organization)
3120 Scott Boulevard, Santa Clara, California 95054
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (408) 986-4300
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Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
-- --
As of October 31, 1997 there were 9,917,996 shares of Common Stock ($.001 par
value per share) outstanding.
INDEX
DSP GROUP, INC.
Page No.
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PART I. FINANCIAL INFORMATION
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Item 1. Financial Statements (Unaudited)
Condensed consolidated balance sheets -- September 30,
1997 and December 31, 1996............................. 3
Condensed consolidated statements of operations -- Three
and nine months ended September 30, 1997 and 1996 ..... 4
Condensed consolidated statements of cash flows -- Nine
months ended September 30, 1997 and 1996 ............... 5
Notes to condensed consolidated financial statements --
September 30, 1997...................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations .............................. 11
PART II. OTHER INFORMATION
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Item 1. Legal Proceedings ................................. 18
Item 2. Changes in Securities .............................. 19
Item 3. Defaults upon Senior Securities .................... 19
Item 4. Submission of Matters to a Vote of Security
Holders........................................... 19
Item 5. Other Information................................... 19
Item 6. Exhibits and Reports on Form 8-K.................... 19
SIGNATURES........................................................ 20
EXHIBIT INDEX..................................................... 21
2
PART 1. FINANCIAL INFORMATION
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ITEM 1. FINANCIAL STATEMENTS
DSP GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
September 30, December 31,
1997 1996
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ASSETS (Unaudited) (Note)
Current Assets
Cash and cash equivalents $14,911 $12,172
Marketable securities 46,281 30,762
Accounts receivable, net 2,582 4,861
Inventories 3,987 2,957
Deferred income taxes 500 500
Prepaid expenses and other 2,349 1,357
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Total current assets 70,610 52,609
Property and equipment 8,745 7,324
Accumulated depreciation and amortization (4,976) (4,033)
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3,769 3,291
Investments in unconsolidated subsidiaries,
net of amortization of goodwill 1,856 2,415
Other assets, net 150 388
Deferred income taxes 504 504
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TOTAL ASSETS $76,889 $59,207
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable $4,070 $ 1,428
Other current liabilities 6,637 3,330
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Total current liabilities 10,707 4,758
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Common Stock 10 10
Additional paid-in capital 70,925 66,781
Accumulated deficit (4,753) (12,342)
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66,182 54,449
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $76,889 $59,207
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Note: The balance sheet at December 31, 1996 has been derived from the audited financial statements at that date.
See notes to condensed consolidated financial statements.
3
DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(In thousands, except per share amounts)
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- ----------------------
1997 1996 1997 1996
------- ------- ------- -------
Revenues:
Product sales $13,547 $11,403 $37,626 $29,136
Royalties, licensing and other 3,011 2,208 7,752 8,693
------- ------- ------- -------
Total revenues 16,558 13,611 45,378 37,829
Cost of revenues:
Cost of product sales 8,232 8,378 23,306 21,511
Cost of licensing, royalties and other 276 218 1,122 596
------- ------- ------- -------
Total cost of revenues 8,508 8,596 24,428 22,107
------- ------- ------- -------
Gross profit 8,050 5,015 20,950 15,722
Operating expenses:
Research and development 2,084 1,802 6,043 6,584
Sales and marketing 1,220 941 3,551 3,316
General and administrative 1,168 1,125 3,372 4,370
Acquired in-process technology -- 1,529 -- 1,529
------- ------- ------- -------
Total operating expenses 4,472 5,397 12,966 15,799
------- ------- ------- -------
Operating income (loss) 3,578 (382) 7,984 (77)
Other income (expense):
Interest and other income 753 331 2,006 1,131
Other expenses (55) (48) (176) (121)
Equity in loss of unconsolidated subsidiaries, net (42) (193) (559) (287)
------- ------- ------- -------
Income before income taxes 4,234 (292) 9,255 646
Provision (benefit from) for income taxes 886 (29) 1,666 68
------- ------- ------- -------
Net income (loss) $3,348 $ (263) $ 7,589 $ 578
------- ------- ------- -------
------- ------- ------- -------
Net income (loss) per share:
Primary $ 0.32 $ (0.03) $ 0.76 $ 0.06
Fully diluted $ 0.32 $ (0.03) $ 0.73 $ 0.06
Shares used in per share computations:
Primary 10,350 9,534 10,018 9,567
Fully diluted 10,531 9,534 10,441 9,567
See notes to condensed consolidated financial statements.
4
DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
Nine Months Ended
September 30,
---------------------
1997 1996
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CASH PROVIDED BY OPERATING ACTIVITIES $ 15,848 $ 1,888
INVESTING ACTIVITIES:
Purchase of available-for-sale marketable securities (48,139) (9,145)
Sale and maturity of available-for-sale
marketable securities 32,619 18,933
Purchases of equipment (1,899) (700)
Equity investment in Aptel -- (2,158)
Sale of equipment 166 --
Capitalized software development costs -- (152)
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(17,253) 6,778
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FINANCING ACTIVITIES:
Repayment of stockholders' notes receivable -- 312
Sale of common stock for cash upon
exercise of options and warrants 4,144 495
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4,144 807
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INCREASE IN CASH AND CASH EQUIVALENTS $ 2,739 $ 9,473
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See notes to condensed consolidated financial statements.
5
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1997
(UNAUDITED)
NOTE A - BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT
ACCOUNTING POLICIES
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments (consisting only of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for
the three and nine months ended September 30, 1997, are not necessarily
indicative of the results that may be expected for the year ended December
31, 1997. For further information, reference is made to the consolidated
financial statements and footnotes thereto included in the Company's Annual
Report on Form 10-K for the year ended December 31, 1996. Certain
reclassifications have been made in the 1996 consolidated financial
statements to conform to 1997 presentation.
NOTE B - INVENTORIES
Inventory is valued at the lower of cost (first-in, first-out method) or
market. The components of inventory consist of the following (in thousands):
September 30, December 31,
1997 1996
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Work-in-process $ 56 $ 217
Finished goods 3,931 2,740
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$3,987 $2,957
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NOTE C - NET INCOME (LOSS) PER SHARE
Primary and Diluted - Net income (loss) per share are computed using the
weighted average number of shares of common stock and dilutive common
equivalent shares from stock options and warrants (using the treasury stock
method). In February 1997, the Financial Accounting Standards Board issued the
Statement of Financial Accounting Standards No. 128 Earnings per Share ("SFAS
No. 128") which is required to be adopted by the Company on December 31, 1997.
6
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
At that time, the Company will be required to change the method currently
used to compute earnings per share and to restate all prior periods. Under
the new requirements for calculating basic earnings per share, the dilutive
effect of stock options will be excluded. The impact of SFAS No. 128 is
expected to result in basic earnings per share as follows:
Three Months Nine Months
Ended September 30 Ended September 30,
------------------ ------------------
1997 1996 1997 1996
------ ------ ------ ------
Basic earnings per share.............. $0.34 $(0.03) $0.79 $0.06
The impact of SFAS 128 on the calculation of diluted earnings per share for
these periods is not expected to be material.
NOTE D - INVESTMENTS
The following is a summary of the cost of available-for-sale securities (in
thousands):
September 30, December 31,
1997 1996
------------ -----------
Corporate obligations $37,889 $19,301
Obligations of states and political subdivisions 10,998 16,891
Municipal auction rate preferred stock -- 2,200
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$48,887 $38,392
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Amounts included in marketable securities $46,281 $30,762
Amounts included in cash and cash equivalents 2,606 7,630
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$48,887 $38,392
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At September 30, 1997 and at December 31, 1996, the carrying amount of
securities approximated their fair market value and the amount of unrealized
gain or loss was not significant. Gross realized gains or losses for the
three months ended September 30, 1997 and 1996, were not significant. The
amortized cost of available-for-sale debt securities at September 30, 1997,
by contractual maturities, is shown below (in thousands):
7
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Amortized cost
--------------
Due in one year or less $46,900
Due after one year to eighteen months 1,987
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$48,887
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NOTE E - INCOME TAXES
The effective tax rate used in computing the provision for income taxes is
based on projected fiscal year income before taxes, including estimated
income by tax jurisdiction. The difference between the effective tax rate and
the statutory rate is due primarily to the utilization of net operating loss
carryforwards and tax exempt income in Israel.
NOTE F - SIGNIFICANT CUSTOMERS
Product sales to a distributor accounted for 39% and 25% of total revenues
for the three months ended September 30, 1997 and 1996, respectively, and 32%
and 14% of total revenues for the nine months ended September 30, 1997 and
1996, respectively. Product sales to a different distributor accounted for
11% of total revenues for both the three and nine months ended September 30,
1996. The loss of one or more major distributors or customers could have a
material adverse effect on the Company's business, financial condition and
results of operations.
NOTE G - EQUITY INVESTMENT
The Company has two investments in companies which are accounted for under
the equity method.
AudioCodes, Ltd.: AudioCodes, Ltd., an Israeli corporation ("AudioCodes"), is
primarily engaged in research, development, production and marketing of voice
communication products. On July 14, 1997, AudioCodes completed a private
placement of its equity securities without the participation of the Company,
which resulted in the Company's equity position being diluted to 29% of the
capital stock of AudioCodes.
Aptel Ltd.: During the third quarter of 1996, the Company made an initial
cash investment of $2 million for approximately 40% of Aptel Ltd. ("Aptel").
Aptel, which is located in Israel, has expertise in spread spectrum direct
sequence modulation technology.
8
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Expenses related to the acquisition in the third quarter of 1996, were
$158,000. The acquisition was accounted for as a purchase in accordance with
Accounting Principles Board Opinion No. 16. The total cost of the acquisition
was allocated to the estimated fair value of the assets acquired, and as a
result the Company incurred in the third quarter of 1996, a one-time
write-off of acquired in-process technology of $1.5 million based on an
independent estimate of value.
The condensed consolidated statements of income for the three and nine months
ended September 30, 1997, include a $0 and $407,000 equity loss,
respectively, of the Company's proportionate share of Aptel's net loss in the
same period, limited to the Company's remaining equity investment in Aptel.
The book value of the Company's original equity investment in Aptel has been
zero since June 30, 1997.
NOTE H-CONTINGENCIES
The Company is involved in certain claims arising in the normal course of
business, including claims that it may be infringing patent rights owned by
third parties. The Company is unable to foresee the extent to which these
matters will be pursued by the claimants or to predict with certainty the
eventual outcome. However, the Company believes that the ultimate resolution
of these matters will not have a material adverse effect on its business,
financial position, or results of operations. The estimate of the potential
impact on the Company's financial position or overall results of operations
or cash flows for the above matter could change in the future.
In November 1995, after the Company's stock price declined, several lawsuits
were filed in the United States District Court for the Northern District of
California accusing the Company, its former Chief Executive Officer, and its
former Chief Financial Officer of issuing materially false and misleading
statements in violation of the federal securities laws. These lawsuits were
consolidated into a single amended complaint in February 1996. In the
amended complaint, plaintiffs sought unspecified damages on behalf of all
persons who purchased shares of the Company's Common Stock during the period
June 6, 1995 through November 10, 1995. On June 11, 1996, the Court granted
the Company's motion to dismiss the lawsuit, with leave to amend. The
plaintiffs filed an amended complaint on July 11, 1996. On March 7, 1997,
the Court issued an order dismissing with prejudice all claims based on
statements issued by the Company. The Court permitted plaintiffs to proceed
with their claims regarding statements the Company allegedly made to
securities analysts. The Court also dismissed with leave to amend
plaintiffs' claim that the Company is responsible for the statements
contained in analysts' reports, but the plaintiffs have chosen not to amend
this claim. On November 5, 1997, the parties reached an agreement in
principle to settle this litigation. The proposed settlement requires that
the Company fund approximately $50,000 of the settlement amount to fulfill
the retention amounts under the Company's insurance policy. The proposed
settlement is subject to the execution of a stipulation of settlement and
9
DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
court approval. The Company believes the ultimate resolution of this matter
will not have a material adverse effect on the Company's financial position,
results of operations, or cash flow.
NOTE I - SUBSEQUENT EVENT
On October 9, 1997, Nexus Telecommunication Systems Ltd. ("Nexus") announced
its intent to acquire one hundred percent of Aptel's shares from Aptel's
current shareholders, for an aggregate of 925,000 shares of Nexus common
stock. On such date, the last reported sale price reported on the OTC
Bulletin Board Service for Nexus' common stock was $6.00 per share. The
closing of such transaction is proposed to take place in November 1997.
Aptel has issued convertible debentures for $900,000, which will be converted
into shares of its common stock prior to Nexus' proposed acquisition of
Aptel. Furthermore, Aptel issued additional convertible debentures, for which
the Company invested approximately $176,000 in Aptel. If the proposed
acquisition of Aptel by Nexus is completed, the Company will hold
approximately 297,000 shares of Nexus common stock.
On October 21, 1997 the Company entered into an agreement with National
Semiconductor Corporation-Registered Trademark- ("National") under which the
Company has become the worldwide exclusive distributor for general licensing
and support of National's CompactRISC-TM- core technology.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
TOTAL REVENUES. Total revenues increased to $16.6 million in the third
quarter of 1997 from $13.6 million in the third quarter of 1996 due primarily
to increased sales of the Company's TAD speech processors, especially those
utilizing flash memory, and royalties received from licensees. In the first
three quarters of 1997, total revenues increased to $45.4 million from $37.8
million in the comparable period of 1996. This increase was due primarily to
increased product sales.
Export sales, primarily consisting of TAD speech processors shipped to
customers in Europe and Asia as well as license fees on DSP core designs,
represented 90% and 91% of total revenues for the Company in the three and
nine months ended September 30, 1997, respectively, and 94% and 92% of total
revenues in the three and nine months ended September 30, 1996, respectively.
All export sales are denominated in U.S. dollars.
Revenues from Tomen Electronics (a distributor), accounted for 39% and 32% of
total revenues in the three and nine months ended September 30, 1997,
respectively, and 25% and 14% in the three and nine months ended September
30, 1996, respectively. Revenues from DSP Solutions, Inc. (a distributor),
accounted for 11% of total revenues for both the three and nine months ended
September 30, 1996.
GROSS PROFIT. Gross profit as a percentage of total revenues increased to
49% in the third quarter of 1997 from 37% in the third quarter of 1996, and
increased from 42% in the first three quarters of 1996, to 46% in the
comparable period of 1997. The increase in gross profit is primarily due to
the increase in product gross margin. Product gross profit as a percentage of
product sales increased to 39% in the third quarter of 1997 compared to 27%
in the third quarter of 1996, and increased to 38% in the first three
quarters of 1997, from 26% in the first three quarters of 1996 mainly due to
lower costs of manufactured products.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased to $2.1 million in the third quarter of 1997 from $1.8 million in
the third quarter of 1996. In the third quarter of 1997, the Company's
efforts in recruiting additional engineers were successful, resulting in
increased research and development expenses primarily due to increased
headcount as compared to the same period in 1996. Expenses also increased due
to higher levels of maintenance and depreciation. In the first three quarters
of 1997, research and development expenses decreased to $6.0 million from
$6.6 million in the same period in 1996. The decrease is primarily due to a
decrease in the cost of materials associated with the Company's development
of new speech processors for TAD products and personal computer telephony
applications.
11
SALES AND MARKETING EXPENSES. Sales and marketing expenses increased to $1.2
million in the third quarter of 1997 from $0.9 million in the third quarter
of 1996. In the first nine months of 1997, sales and marketing expenses
slightly increased to $3.5 million from $3.3 million in the comparable period
of 1996. The increase is primarily due to higher costs of sales and marketing
personnel, partly due to higher sales. Sales and marketing expenses as a
percentage of total revenues slightly decreased to 7% and 8% in the three and
nine months ended September 30, 1997, respectively, compared to 7% and 9% in
the three and nine months ended September 30, 1996, respectively.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
slightly increased to $1.2 million in the third quarter of 1997 from $1.1
million in the third quarter of 1996. The increase is due primarily to a
temporary increase in rent expenses and an increase in depreciation. In the
first three quarters of 1997, general and administrative expenses decreased
to $3.4 million from $4.4 million in the comparable period of 1996. These
expenses as a percentage of total revenues decreased to 7% in the first three
quarters of 1997, compared to 12% in the comparable period of 1996. The
expense decline is due primarily to resigned officers' severance pay which
was incurred in the second quarter of 1996, and to the relocation of certain
general and administrative functions to Israel, where salaries and related
costs are lower.
ACQUIRED IN-PROCESS TECHNOLOGY. In August 1996, the Company expensed $1.5
million of in-process technology in connection with the purchase of
approximately a 40% equity interest in Aptel. See Note G of Notes to
Condensed Consolidated Financial Statements.
OTHER INCOME (EXPENSE) - NET. Interest and other income (expense), net was
$1.8 million in the nine months ended September 30, 1997, compared to $1.0
million in the nine months ended September 30, 1996. The increase is
primarily the result of higher levels of cash equivalents and marketable
securities in 1997 as compared with 1996 as well as higher interest yields.
EQUITY IN LOSS OF INVESTEES. Equity in loss of investees was a $42,000 loss
for the third quarter of 1997 as compared to a $193,000 loss in the third
quarter of 1996. In the first three quarters of 1997, equity in loss of
investees was a $559,000 loss compared to a $287,000 loss in the comparable
period of 1996. The condensed consolidated statements of income for the first
three quarters of 1997 include a $407,000 equity loss for the Company's
proportionate share of the results of operations of Aptel, and a loss of
$152,000 on the Company's equity basis in AudioCodes. The Company's initial
investment in Aptel was in the third quarter of 1996, and accordingly the
Company's results of operations for the first two quarters of 1996 do not
include any amounts pertaining to Aptel. During the first half of 1997, the
Company's share of equity losses in Aptel reduced the book value of the
Company's investment to zero and, therefore, the Company does not continue to
recognize equity losses of Aptel.
PROVISION FOR INCOME TAXES. In 1997 and 1996, the Company benefited for
federal and state tax purposes from the utilization of its net operating loss
carryforwards, foreign tax holiday and tax exempt interest income, as well as
the recognition of certain other deferred tax assets in 1996.
12
LIQUIDITY AND CAPITAL RESOURCES
OPERATING ACTIVITIES. During the nine months ended September 30, 1997, net
cash provided by operations was $15.8 million, primarily due to (i) $7.6
million of net income, (ii) a $2.7 million increase in accounts payable,
(iii) a $2.5 million increase in income taxes payable and accrued expenses,
(iv) a $2.3 million decrease in accounts receivable, (vi) a $1.3 million of
depreciation and amortization, and (v) a $0.6 million equity in loss of
unconsolidated subsidiaries. These were offset primarily by a $1.0 million
increase in inventories and a $1.0 million increase in prepaid expenses and
other current assets.
INVESTING ACTIVITIES. The Company purchased $48.1 million and sold or had
maturities of $32.6 million of investments classified as marketable
securities in the first nine months of 1997. Capital equipment additions in
the first nine months of 1997 totaled $1.9 million, primarily for leasehold
improvements for the Company's Santa Clara offices and its new offices in
Herzlia Pituach, Israel, which the Company moved into in August 1997.
FINANCING ACTIVITIES. During the three and nine months ended September 30,
1997, the Company received $3.3 million and $4.1 million, respectively, upon
the exercise of employee stock options and through purchases pursuant to the
employee stock purchase plan.
At September 30, 1997, the Company's principal source of liquidity consisted
of cash and cash equivalents totaling $14.9 million and marketable securities
of $46.3 million. The Company's working capital at September 30, 1997 was
$59.9 million.
The Company believes that its current cash will be sufficient to meet its
cash requirements through at least the next twelve months. As part of its
business strategy, the Company occasionally evaluates potential acquisitions
of businesses, products and technologies. Accordingly, a portion of its
available cash may be used for the acquisition of complementary products or
businesses. Such potential transactions may require substantial capital
resources, which may require the Company to seek additional debt or equity
financing. There can be no assurance that the Company will consummate any
such transactions. See "Factors Affecting Future Operating Results --
Acquisition Strategy."
13
FACTORS AFFECTING FUTURE OPERATING RESULTS
THIS FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS CONCERNING THE COMPANY'S
FUTURE PRODUCTS, EXPENSES, REVENUE, LIQUIDITY AND CASH NEEDS AS WELL AS THE
COMPANY'S PLANS AND STRATEGIES. THESE FORWARD-LOOKING STATEMENTS ARE BASED
ON CURRENT EXPECTATIONS AND THE COMPANY ASSUMES NO OBLIGATION TO UPDATE THIS
INFORMATION. NUMEROUS FACTORS COULD CAUSE ACTUAL RESULTS TO DIFFER
SIGNIFICANTLY FROM THE RESULTS DESCRIBED IN THESE FORWARD-LOOKING STATEMENTS,
INCLUDING THE FOLLOWING RISK FACTORS.
POTENTIAL FLUCTUATIONS IN QUARTERLY OPERATING RESULTS. The Company's
revenues are derived predominately from product sales and accordingly vary
significantly depending on the volume and timing of product orders, which may
fluctuate significantly due to seasonal customer buying patterns for TADs.
The Company's quarterly operating results also depend on the timing of
recognition of license fees and the level of per unit royalties. Through
1997, the Company expects that revenues from its DSP core designs and
TrueSpeech will be derived primarily from license fees rather than per unit
royalties. The uncertain timing of these license fees has caused, and may
continue to cause, quarterly fluctuations in the Company's operating results.
The Company's per unit royalties from licenses are entirely dependent upon
the success of its original equipment manufacturer ("OEM") licensees in
introducing products utilizing the Company's technology and the success of
those OEM products in the marketplace.
The Company's quarterly operating results may also fluctuate significantly as
a result of other factors, such as the timing of new product introductions by
the Company or its customers, licensees or competitors; market acceptance of
new products and technologies; fluctuations in the level of sales by OEMs and
other vendors of products incorporating the Company's products; the mix of
products sold; and changes in general economic conditions.
DECLINING AVERAGE SELLING PRICES AND GROSS MARGINS; DEPENDENCE ON DIGITAL TAD
MARKET. The Company has experienced a decrease in the average selling prices
of its TAD speech processors, but has to date been able to offset this
decrease over time through manufacturing cost reductions and the introduction
of new products with higher performance. The Company experienced a
significant decline in the gross margin on TADs in the second and third
quarters of 1996 due to competitive market pricing pressures and delays in
ongoing cost reduction efforts. While the Company achieved significant cost
reductions in the fourth quarter of 1996 and in first three quarters of
fiscal 1997, there is no guarantee that the Company's ongoing efforts to
reduce costs will be successful or that they will keep pace with the
anticipated, continuing decline in average selling prices.
The Company's existing and potential competitors in each of its markets
include large and emerging domestic and foreign companies, many of which have
significantly greater financial, technical, manufacturing, marketing, sales
and distribution resources and management expertise than the Company. The
markets for each of the Company's products are extremely competitive, and the
Company expects that such competition will continue to increase.
14
For example, sales of TAD products comprise a substantial portion of the
Company's product sales. As a result, any inability of the Company to
respond to increased price competition for its TAD speech processors or its
other products through the continuing and frequent introduction of new
products or reductions of manufacturing costs, or any significant delays by
the Company in developing, manufacturing or shipping new or enhanced products
would have a material adverse effect on the Company's business, financial
condition and results of operations. Furthermore, any adverse change in the
digital TAD market or the Company's ability to compete and maintain its
position in that market would have a material adverse effect on the Company's
business, financial condition and results of operations.
RELIANCE ON INTERNATIONAL OPERATIONS; RISK OF OPERATIONS IN ISRAEL. The
Company is subject to the risks of doing business internationally, including
unexpected changes in regulatory requirements; fluctuations in the exchange
rate for the United States dollar; imposition of tariffs and other barriers
and restrictions; and the burdens of complying with a variety of foreign
laws. The Company is also subject to general geopolitical risks, such as
political and economic instability and changes in diplomatic and trade
relationships, in connection with its international operations. In
particular, the Company's principal research and development facilities are
located in the State of Israel and, as a result, at September 30, 1997, 68 of
the Company's 96 employees were located in Israel, including 100% of the
Company's research and development personnel. In addition, although the
Company is incorporated in Delaware, approximately half of the Company's
directors and executive officers are non-residents of the United States.
Therefore, the Company is directly affected by the political, economic and
military conditions to which Israel is subject. In addition, many of the
Company's expenses in Israel are paid in Israeli currency, thereby also
subjecting the Company to foreign currency fluctuations and to economic
pressures resulting from Israel's generally high rate of inflation. While
substantially all of the Company's sales and expenses are denominated in
United States dollars, a portion of the Company's expenses are denominated in
Israeli shekels. The Company's primary expenses paid in Israeli currency are
employee salaries and lease payments on the Israeli facility. As a result,
an increase in the value of Israeli currency in comparison to the United
States dollar could increase the cost of technology development, research and
development expenses and general and administrative expenses. The rate of
inflation in Israel for the first nine months of 1997 was 6.4% and for 1996
was 10.6%. There can be no assurance that currency fluctuations, changes in
the rate of inflation in Israel or any of the other aforementioned factors
will not have a material adverse effect on the Company's business, financial
condition and results of operations.
15
ACQUISITION STRATEGY. The Company has pursued, and will continue to pursue,
growth opportunities through internal development and acquisition of
complementary businesses, products and technologies. The Company is unable
to predict whether or when any prospective acquisition will be completed. The
process of integrating an acquired business may be prolonged due to
unforeseen difficulties and may require a disproportionate amount of
resources and management's attention. There can be no assurance that the
Company will be able to successfully identify suitable acquisition
candidates, complete acquisitions, integrate acquired businesses into its
operations, or expand into new markets. Once integrated, acquisitions may
not achieve comparable levels of revenues, profitability or productivity as
the existing business of the Company or otherwise perform as expected. The
occurrence of any of these events could have a material adverse effect on the
Company's business, financial condition or results of operations. Future
acquisitions may require substantial capital resources, which may require the
Company to seek additional debt or equity financing.
RELIANCE ON INDEPENDENT FOUNDRIES. All of the Company's integrated circuit
products are manufactured by independent foundries. While these foundries
have been able to adequately meet the demands of the Company's increasing
business, the Company is and will continue to be dependent upon these
foundries to achieve acceptable manufacturing yields and quality levels, and
to allocate to the Company a sufficient portion of foundry capacity to meet
the Company's needs in a timely manner. To meet its increased wafer
requirements, the Company has added additional independent foundries to
manufacture its TAD speech processors. Revenues could be materially and
adversely affected should any of these foundries fail to meet the Company's
request for products due to a shortage of production capacity, process
difficulties or low yield rates.
RELIANCE ON OEMS TO OBTAIN REQUIRED COMPLEMENTARY COMPONENTS. Certain of the
raw materials, components and subassemblies included in the products
manufactured by the Company's OEM customers, which also incorporate the
Company's products, are obtained from a limited group of suppliers.
Disruptions, shortages or termination of certain of these sources of supply
could occur. For example, the Company's customers for TAD speech processors
have in the past experienced difficulties obtaining sufficient timely
supplies of ARAMs which are included in certain digital TADs. These
shortages are due to the increasing demand for ARAMs for TAD products, and
fluctuations in ARAM production as ARAMs are a by-product in the fabrication
of dynamic random access memories ("DRAMs") with ARAM yields varying
inversely with the DRAM yield. Although such shortages were alleviated
during most of 1996 and in the first three quarters of fiscal 1997, there is
no guarantee that such favorable circumstances will continue. In addition,
there is a trend in the industry toward the production of 16 Mbit DRAMs,
rather than 4 Mbit DRAMs, which may increase the cost of TAD systems because
such systems mainly use 4 Mbit ARAMs. Supply disruptions, shortages or
termination could have an adverse effect on the Company's business and
results of operations due to its customers delay or discontinuance of orders
for the Company's products until such components are available.
16
INTELLECTUAL PROPERTY. As is typical in the semiconductor and software
industries, the Company has been and may from time to time be notified of
claims that it may be infringing patents or intellectual property rights
owned by third parties. For example, AT&T has recently asserted that G.723,
which is primarily composed of a TrueSpeech algorithm, includes certain
elements covered by patents held by AT&T and has requested that video
conferencing equipment manufacturers license such technology from AT&T. If
it appears necessary or desirable, the Company may seek licenses under such
patents or intellectual property rights that it is allegedly infringing.
Although holders of such intellectual property rights commonly offer such
licenses, no assurances can be given that licenses will be offered or that
the terms of any offered licenses will be acceptable to the Company. The
failure to obtain a license for key intellectual property rights from a third
party for technology used by the Company could cause the Company to incur
substantial liabilities and to suspend the manufacture of products utilizing
the technology. The Company believes that the ultimate resolution of these
matters will not have a material adverse effect on the Company's business,
financial position or results of operations.
ONGOING LITIGATION. In November 1995, after the Company's stock price
declined, several lawsuits were filed in the United States District Court for
the Northern District of California accusing the Company, its former Chief
Executive Officer, and its former Chief Financial Officer of issuing
materially false and misleading statements in violation of the federal
securities laws. These lawsuits were consolidated into a single amended
complaint in February 1996. In the amended complaint, plaintiffs sought
unspecified damages on behalf of all persons who purchased shares of the
Company's Common Stock during the period June 6, 1995 through November 10,
1995. On June 11, 1996, the Court granted the Company's motion to dismiss
the lawsuit, with leave to amend. The plaintiffs filed an amended complaint
on July 11, 1996. On March 7, 1997, the Court issued an order dismissing
with prejudice all claims based on statements issued by the Company. The
Court permitted plaintiffs to proceed with their claims regarding statements
the Company allegedly made to securities analysts. The Court also dismissed
with leave to amend plaintiffs' claim that the Company is responsible for the
statements contained in analysts' reports, but the plaintiffs have chosen not
to amend this claim. On November 5, 1997, the parties reached an agreement
in principle to settle this litigation. The proposed settlement requires that
the Company fund approximately $50,000 of the settlement amount to fulfill
the retention amounts under the Company's insurance policy. The proposed
settlement is subject to the execution of a stipulation of settlement and
court approval. The Company believes the ultimate resolution of this matter
will not have a material adverse effect on the Company's financial position,
results of operations, or cash flows.
VOLATILITY OF STOCK PRICE. The variety and uncertainty of the factors
affecting the Company's operating results, and the fact that the Company
participates in a highly dynamic industry, may result in significant
volatility in the Company's Common Stock price.
17
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In November 1995, after the Company's stock price declined, several lawsuits
were filed in the United States District Court for the Northern District of
California accusing the Company, its former Chief Executive Officer, and its
former Chief Financial Officer of issuing materially false and misleading
statements in violation of the federal securities laws. These lawsuits were
consolidated into a single amended complaint in February 1996. In the
amended complaint, plaintiffs sought unspecified damages on behalf of all
persons who purchased shares of the Company's Common Stock during the period
June 6, 1995 through November 10, 1995. On June 11, 1996, the Court granted
the Company's motion to dismiss the lawsuit, with leave to amend. The
plaintiffs filed an amended complaint on July 11, 1996. On March 7, 1997,
the Court issued an order dismissing with prejudice all claims based on
statements issued by the Company. The Court permitted plaintiffs to proceed
with their claims regarding statements the Company allegedly made to
securities analysts. The Court also dismissed with leave to amend
plaintiffs' claim that the Company is responsible for the statements
contained in analysts' reports, but the plaintiffs have chosen not to amend
this claim. On November 5, 1997, the parties reached an agreement in
principle to settle this litigation. The proposed settlement requires that
the Company fund approximately $50,000 of the settlement amount to fulfill
the retention amounts under the Company's insurance policy. The proposed
settlement is subject to the execution of a stipulation of settlement and
court approval.
On February 12, 1997, BEKA Electronic GmbH ("BEKA") commenced an action in
the United States District Court for the Northern District of California
against the Company. The action alleges breach of contract, breach of
implied covenant of good faith and fair dealing and requests an accounting by
the Company in connection with the Company's termination of the Sales
Representative Agreement between BEKA and the Company. The complaint seeks
an unspecified amount of damages. The parties have stipulated to trial by a
United States Magistrate. Trial is scheduled to commence in the summer of
1998. Currently, both parties are pursuing discovery. The Company believes
the lawsuit to be without merit and intends to continue defending itself
vigorously.
18
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Lease, dated November 28, 1996, by and between DSP Semiconductors
Ltd. and Bayside Land Corporation, Ltd., relating to the property
located on Shenkar Street, Herzlia Pituach, Israel.
10.2 Agreement, dated August 18, 1997, by and between DSP Semiconductors
Ltd. and Aptel Ltd.
11.1 Statement re: Computation of Per Share Earnings
27.1 Financial Data Schedule
(b) Reports on Form 8-K
None.
19
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.
DSP GROUP, INC.
(Registrant)
By /s/ Avi Basher
--------------------------------------------------------------------
Avi Basher, Vice President of Finance and Chief Financial Officer
and Secretary (Principal Financial Officer and Principal Accounting Officer)
Date: November 14, 1997
20
EXHIBIT INDEX
Exhibit 10.1 Lease, dated November 28, 1996, by and between DSP
Semiconductors Ltd. and Bayside Land Corporation, Ltd., relating
to the property located on Shenkar Street, Herzlia Pituach,
Israel.
Exhibit 10.2 Agreement, dated August 18, 1997, by and between DSP
Semiconductors Ltd. and Aptel Ltd.
Exhibit 11.1 Statement re Computation of Per Share Earnings
Exhibit 27.1 Financial Data Schedule
21