- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-Q /X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL QUARTER ENDED SEPTEMBER 30, 1998, 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 0-26952 ------------------------ SYNC RESEARCH, INC. (Exact name of Registrant as specified in its charter) DELAWARE 33-0676350 (State or other jurisdiction (I.R.S. Employer of Identification No.) incorporation or organization) 40 PARKER IRVINE, CA 92618 (Address of principal executive offices) Registrant's telephone number, including area code: (949) 588-2070 ------------------------ 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, 1998, 17,416,847 shares of the Registrant's Common Stock were issued and outstanding. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SYNC RESEARCH, INC. INDEX PAGE ----- Part I. Financial Information......................................................................... 3 Item 1. a) Condensed consolidated balance sheets at September 30, 1998 (unaudited) and December 31, 1997...................................................................................... 3 b) Condensed consolidated statements of operations (unaudited) for the three and nine months ended September 30, 1998 and 1997......................................................... 4 c) Condensed consolidated statements of cash flows (unaudited) for the nine months ended September 30, 1998 and 1997............................................................... 5 d) Notes to condensed consolidated financial statements...................................... 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations......... 9 Part II. Other Information............................................................................. 21 Item 1. Legal Proceedings............................................................................. 21 Item 2. Changes in Securities and Use of Proceeds..................................................... 21 Item 3. Defaults upon Senior Securities............................................................... 22 Item 4. Submission of Matters to a Vote of Security Holders........................................... 22 Item 5. Other Information............................................................................. 22 Item 6. Exhibits and Reports on Form 8-K.............................................................. 22 2 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS SYNC RESEARCH, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) ASSETS DECEMBER 31, 1997 SEPTEMBER 30, ------------ 1998 ------------- (UNAUDITED) Current assets: Cash and cash equivalents......................................................... $ 16,068 $ 21,734 Accounts and other receivables, net............................................... 2,764 4,657 Inventories....................................................................... 6,384 7,371 Prepaid expenses and other current assets......................................... 769 522 ------------- ------------ Total current assets................................................................ 25,985 34,284 Furniture, fixtures and equipment, net.............................................. 4,008 4,167 Other assets........................................................................ 44 44 ------------- ------------ Total assets........................................................................ $ 30,037 $ 38,495 ------------- ------------ ------------- ------------ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable and accrued liabilities.......................................... $ 3,877 $ 3,135 Accrued compensation and related costs............................................ 987 949 Deferred revenue.................................................................. 850 1,432 Current maturities of capitalized lease obligations............................... 52 50 ------------- ------------ Total current liabilities........................................................... 5,766 5,566 Capitalized lease obligations, less current maturities.............................. 66 111 Stockholders' equity: Common stock, $.001 par value: Authorized shares--50,000 Issued and outstanding shares--17,396 at September 30, 1998 and 17,288 at December 31, 1997............................................................. 17 17 Additional paid-in capital........................................................ 71,964 71,786 Deferred compensation............................................................. (13) (34) Accumulated deficit............................................................... (47,763) (38,951) ------------- ------------ Total stockholders' equity.......................................................... 24,205 32,818 ------------- ------------ Total liabilities and stockholders' equity.......................................... $ 30,037 $ 38,495 ------------- ------------ ------------- ------------ See accompanying notes. 3 SYNC RESEARCH, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, -------------------- --------------------- 1998 1997 1998 1997 --------- --------- --------- ---------- Net revenues......................................................... $ 7,541 $ 5,675 $ 20,227 $ 17,048 Cost of sales........................................................ 4,612 3,623 12,870 10,918 --------- --------- --------- ---------- Gross profit....................................................... 2,929 2,052 7,357 6,130 Operating expenses: Research and development........................................... 1,869 1,761 5,428 5,514 Selling and marketing.............................................. 3,018 3,697 8,962 11,323 General and administrative......................................... 889 791 2,207 2,930 Non-recurring charges.............................................. -- 735 267 1,241 --------- --------- --------- ---------- Total operating expenses........................................... 5,776 6,984 16,864 21,008 --------- --------- --------- ---------- Operating loss....................................................... (2,847) (4,932) (9,507) (14,878) Interest income, net................................................. 223 345 697 1,129 --------- --------- --------- ---------- Loss before income taxes............................................. (2,624) (4,587) (8,810) (13,749) Provision for income taxes........................................... -- -- 2 -- --------- --------- --------- ---------- Net loss............................................................. $ (2,624) $ (4,587) $ (8,812) $ (13,749) --------- --------- --------- ---------- --------- --------- --------- ---------- Basic and diluted net loss per share................................. $ (.15) $ (.27) $ (.51) $ (.80) --------- --------- --------- ---------- --------- --------- --------- ---------- Shares used in computing net loss per share.......................... 17,395 17,251 17,370 17,137 --------- --------- --------- ---------- --------- --------- --------- ---------- See accompanying notes. 4 SYNC RESEARCH, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (IN THOUSANDS) NINE MONTHS ENDED SEPTEMBER 30, --------------------- 1998 1997 --------- ---------- CASH FLOWS FROM OPERATING ACTIVITIES Net loss................................................................................. $ (8,812) $ (13,749) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization.......................................................... 1,381 1,267 Provision for losses on accounts receivable............................................ 17 81 Deferred compensation expense.......................................................... 21 74 Changes in operating assets and liabilities, net: Accounts and other receivables......................................................... 1,876 2,720 Inventories............................................................................ 987 (866) Accounts payable and accrued liabilities............................................... 742 (510) Accrued compensation and related costs................................................. 38 651 Deferred revenue....................................................................... (582) (31) Other.................................................................................. (247) (167) --------- ---------- Net cash used in operating activities...................................................... (4,579) (10,530) CASH FLOWS FROM INVESTING ACTIVITIES Purchases of furniture, fixtures and equipment, net...................................... (1,222) (1,183) --------- ---------- Net cash used in investing activities...................................................... (1,222) (1,183) CASH FLOWS FROM FINANCING ACTIVITIES Net bank repayments...................................................................... -- (802) Payments on capitalized lease obligations................................................ (43) (21) Proceeds from common stock options exercised and employee stock purchase plan............ 178 439 --------- ---------- Net cash provided by (used in) financing activities........................................ 135 (384) --------- ---------- Net decrease in cash and cash equivalents.................................................. (5,666) (12,097) Cash and cash equivalents at beginning of period........................................... 21,734 35,874 --------- ---------- Cash and cash equivalents at end of period................................................. $ 16,068 $ 23,777 --------- ---------- --------- ---------- SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Interest paid............................................................................ $ 39 $ 30 --------- ---------- --------- ---------- Income taxes paid........................................................................ $ 16 $ 8 --------- ---------- --------- ---------- See accompanying notes. 5 SYNC RESEARCH, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) ITEM 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES 1. BASIS OF PRESENTATION The condensed consolidated balance sheet as of September 30, 1998, the condensed consolidated statements of operations for the three and nine months ended September 30, 1998 and 1997 and the condensed consolidated statements of cash flows for the nine months ended September 30, 1998 and 1997 have been prepared without audit. In the opinion of management, the unaudited financial statements include all adjustments (consisting of normal recurring adjustments) necessary to present fairly the Company's financial position at September 30, 1998, the results of its operations for the three and nine months ended September 30, 1998 and 1997 and its cash flows for the nine months ended September 30, 1998 and 1997. The consolidated financial statements should be read in conjunction with the audited financial statements of Sync Research, Inc. and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 1997. The results of operations for the three and nine months ended September 30, 1998 are not necessarily indicative of the operating results to be expected for the full year. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the accompanying financial statements. Actual results could differ from those estimates. Certain prior period amounts have been reclassified to conform with the current period presentation. 2. CASH AND CASH EQUIVALENTS The Company invests its excess cash in money market funds and short-term debt instruments of U.S. corporations with strong credit ratings. The Company has established guidelines with respect to the diversification and maturities that maintain safety and liquidity. The Company considers all highly liquid investments with an original maturity of three months or less and money market funds to be cash equivalents. 3. FURNITURE, FIXTURES AND EQUIPMENT Furniture, fixtures and equipment are recorded at cost and consist of the following (in thousands): SEPTEMBER 30, DECEMBER 31, 1998 1997 ------------- ------------ Equipment acquired under capital leases......................... $ 275 $ 275 Furniture and fixtures.......................................... 859 795 Computer equipment and software................................. 7,462 6,326 Leasehold improvements.......................................... 1,106 1,084 ------------- ------------ 9,702 8,480 Accumulated depreciation and amortization....................... (5,694) (4,313) ------------- ------------ $ 4,008 $ 4,167 ------------- ------------ ------------- ------------ 6 SYNC RESEARCH, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) 4. INVENTORIES Inventories consist primarily of computer hardware and components and are stated at the lower of cost (first-in, first-out) or market, as follows (in thousands): SEPTEMBER 30, DECEMBER 31, 1998 1997 ------------- ------------- Raw materials................................................... $ 3,189 $ 3,636 Work in process................................................. 508 862 Finished goods.................................................. 2,687 2,873 ------ ------ $ 6,384 $ 7,371 ------ ------ ------ ------ 5. PER SHARE INFORMATION In 1997, the Financial Accounting Standards Board issued Statement No. 128, Earnings per Share. Statement No. 128 replaced the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented to conform with Statement No. 128. Net loss per common share is computed using the weighted average number of common shares and common share equivalents outstanding during the periods presented. Common share equivalents result from the dilutive effect, if any, of outstanding options and warrants to purchase common stock. 6. CREDIT AGREEMENT Under the Company's unsecured credit agreement with a bank in effect as of September 30, 1998, the Company was entitled to borrow an amount not to exceed $5,000,000 at the bank's prime rate. The agreement expired on October 5, 1998 and the Company is negotiating the renewal of the agreement. There were no amounts outstanding under this agreement as of September 30, 1998. 7. IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130, REPORTING COMPREHENSIVE INCOME (Statement No. 130), which is effective for years beginning after December 15, 1997. Statement No. 130 establishes standards for reporting and displaying comprehensive income and its components with the same prominence as other financial statement information. The implementation of this statement did not have a significant effect on the Company's reported results of operations or financial position. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION (Statement No. 131), which is effective for years beginning after December 15, 1997. Statement No. 131 establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. The Company operates in one business 7 SYNC RESEARCH, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) segment. Accordingly, the adoption of this statement did not have a significant effect on the Company's financial statements. 8. LITIGATION On November 5, 1997, an action entitled Dalarne Partners, Ltd. v. Sync Research, Inc., et al., No SACV97-877 AHS(Eex) was filed against the Company and certain of its directors and officers. The action was filed in the U.S. District Court for the Central District of California, Southern Division. The action purports to be a class action lawsuit brought on behalf of purchasers of the Company's common stock during the period from November 18, 1996 through March 20, 1997. The complaint asserts claims for violation of the Securities Exchange Act of 1934. The complaint seeks to recover damages in an unspecified amount. No trial date or other deadline has been established. The Company intends to defend this lawsuit vigorously. 8 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto included in Part I--Item 1 of this Quarterly Report. In addition, except for the historical statements contained herein, the following discussion contains forward-looking statements. The Company wishes to alert readers that the factors set forth in the Company's Annual Report on Form 10-K for the year ended December 31, 1997, and in the section of this Item 2 titled "Additional Factors That May Affect Future Results," as well as other factors, could in the future affect, and in the past have affected, the Company's results. The Company's actual results for future periods could differ materially from those expressed in any forward-looking statements, made by or on behalf of the Company. Readers are cautioned not to place undue reliance on these forward-looking statements which reflect management's analysis only as of the date hereof. The Company assumes no obligation to update these forward-looking statements to reflect actual results or changes in factors or assumptions affecting such forward-looking statements. OVERVIEW Sync commenced operations in 1981 and funded operations through 1988 with revenue from communications software consulting and custom product development for equipment vendors and large end-users. The Company shipped its first commercial WAN product in 1989. In 1991, Sync released its first conversion node and frame relay access products. The Company has historically emphasized its relationship with channel partners and other resellers and supporting sales efforts of these resellers in connection with the Company's direct sales efforts. The Company currently maintains OEM, marketing and sales arrangements with communications and networking companies such as IBM, as well as carriers such as Sprint, MCI, and Intermedia Communications, and systems integrators such as Electronic Data Systems and Diebold. In 1997 and 1998, the Company implemented expense reduction initiatives, and the Company may in the future implement additional expense reduction initiatives, with the goal of enabling the Company to achieve profitability at lower revenue levels. There can be no assurance that Sync's products will achieve significant market penetration, either through its channel partners and other resellers or its direct sales force, or that the Company will successfully introduce new and enhanced products or compete effectively in its market, or that its efforts to implement expense reductions will enable it to become profitable at lower revenue levels, if at all. RESULTS OF OPERATIONS NET REVENUES The Company derives its revenues primarily from sales of advanced wide-area networking products. Product revenues are recognized upon shipment and the Company generally does not have any significant remaining obligations upon shipment of its products. Product returns and sales allowances are provided for at the date of sale. Service revenues from customer maintenance fees for ongoing customer support and product updates are recognized ratably over the term of the maintenance period, which is typically 12 months. Net revenues for the third quarter of 1998 were $7.5 million, compared to net revenues of $5.7 million for the quarter ended September 30, 1997. Net revenues for the nine months ended September 30, 1998 were $20.2 million, compared to $17.0 million for the comparable period in 1997. The increase in net revenues in the third quarter of 1998 compared to the third quarter of 1997 was due primarily to increased sales of frame relay access products and circuit management products, partially offset by a reduction in sales of transmission products. Sales to IBM and one large end user customer accounted for 13.4% and 15.2% of the Company's total revenues for the three months ended September 30, 1998, and 16.4% and 21.0% of the Company's total revenues for the nine months ended September 30, 1998, respectively. 9 Net revenues by product group for the three months ended September 30, 1998 and 1997 were as follows ($ in thousands): 1998 PERCENTAGE 1997 PERCENTAGE --------- ------------- --------- ------------- Frame relay access products....................... $ 3,288 44% $ 2,187 39% Circuit management products....................... 2,252 30 1,543 27 Transmission products............................. 571 8 1,007 18 Other............................................. 1,430 18 938 16 --------- --- --------- --- $ 7,541 100% $ 5,675 100% --------- --- --------- --- --------- --- --------- --- Net revenues by product group for the nine months ended September 30, 1998 and 1997 were as follows ($ in thousands): 1998 PERCENTAGE 1997 PERCENTAGE --------- ------------- --------- ------------- Frame relay access products.................... $ 10,894 54% $ 6,973 41% Circuit management products.................... 4,207 21 3,655 21 Transmission products.......................... 1,432 7 3,198 19 Other.......................................... 3,694 18 3,222 19 --------- --- --------- --- $ 20,227 100% $ 17,048 100% --------- --- --------- --- --------- --- --------- --- The increase in revenues from sales of frame relay access products in 1998 compared to the 1997 periods was due primarily to continued acceptance of the Company's 3600 frame relay access device product line that was released in the first quarter of 1997. The decline in revenues from sales of transmission products as compared to the prior year periods was due primarily to lower sales in the Pacific Rim as a result of the continued Asian economic crisis. The percentage of net revenues represented by sales through channel partners and other resellers declined to 45.6% and 50.1% for the three and nine months ended September 30, 1998, respectively, from 70.9% and 72.3% for the corresponding periods of 1997, respectively, primarily due to a few large end user sales during the first three quarters of 1998. The Company expects that sales to IBM will decline as a result of the completion of one large project in the third quarter of 1998. The Company believes that sales through channel partners and other resellers will continue to account for a significant portion of net revenues. However, the mix of sales to channel partners and other resellers may change from period to period. International sales represented 6.5% and 6.6% of the Company's total sales during the three and nine months ended September 30, 1998, as compared to 20.6% and 19.9% during the three and nine months ended September 30, 1997. The decline was due primarily to continued sluggishness in the Company's sales to the Pacific Rim as a result of the current Asian economic crisis. The near-term outlook on the Company's sales to the Pacific Rim remains uncertain. GROSS PROFIT Cost of sales primarily consists of purchased materials used in the assembly of the Company's products, fees paid to third party subcontractors for installation and maintenance services, and compensation paid to employees in the Company's manufacturing and service organizations. Gross profit increased to $2.9 and $7.4 million for the three and nine months ended September 30, 1998, respectively, from $2.1 and $6.1 million in the corresponding prior year periods. Gross profit as a percentage of net revenues increased to 38.8% and 36.4% for the three and nine months ended September 30, 1998, respectively, as compared to 36.2% and 36.0% for the three and nine months ended September 30, 1997. The increase in margins during 1998 compared to the prior year periods was primarily due to the higher revenue levels in 1998. 10 OPERATING EXPENSES Research and development expenses primarily consist of compensation paid to personnel, including consultants, engaged in research and development, amounts paid for outside development services and costs of materials utilized in the development of hardware products, including prototype units and the depreciation and amortization of equipment and tools utilized in the development process. It is the Company's policy to expense all research and development costs as incurred and to capitalize certain software development costs subsequent to the establishment of technological feasibility. To date, $455,000 of externally acquired software has been capitalized. Research and development expenses increased slightly to $1.9 million for the third quarter of 1998, as compared to $1.8 million for the third quarter of the prior year. The increase in research and development expenses in the third quarter of 1998 was primarily due to the development of new products and the continued enhancement of existing products. For the nine months ended September 30, 1998, expenses were slightly lower at $5.4 million compared to $5.5 million for the nine months ended September 30, 1997. Selling and marketing expenses consist primarily of base and incentive compensation paid to sales and marketing personnel, travel and related expenses, and costs associated with promotional and trade show activities. Selling and marketing expenses decreased to $3.0 million for the quarter ended September 30, 1998, as compared to $3.7 million in the quarter ended September 30, 1997, and decreased to $9.0 million for the nine months ended September 30, 1998 compared to $11.3 million in the prior year period. The decrease in selling and marketing expenses resulted primarily from sales and marketing headcount reductions, partially offset by higher incentive based compensation. General and administrative expenses consist primarily of compensation paid to administrative personnel, payments to consultants, professional services and costs related to public company activities. General and administrative expenditures increased to $889,000 for the quarter ended September 30, 1998, as compared to $791,000 for the quarter ended September 30, 1997 primarily as a result of higher legal fees incurred in connection with the Company's pending class action lawsuit. General and administrative expenditures decreased to $2.2 million for the nine months ended September 30, 1998 from $2.9 million for the nine months ended September 30, 1997. These expenses decreased due to the Company's 1997 cost reduction programs. Non-recurring charges consist primarily of expenses related to changes in the Company's executive management in the second quarter of 1998 and costs related to the reduction in employees and the elimination or reduction of certain remote office lease obligations undertaken in March and September 1997. Net interest income was $223,000 and $697,000 for the three and nine months ended September 30, 1998, respectively, as compared to $345,000 and $1.1 million for the three and nine months ended September 30, 1997, respectively. The decrease in net interest income was primarily due to the Company's lower cash balances resulting from the utilization of cash to fund the Company's operating activities. INCOME TAXES There was no provision for income tax in 1997. The provision for income taxes in 1998 represents minimum state taxes. LIQUIDITY AND CAPITAL RESOURCES As of September 30, 1998, the Company's principal sources of liquidity consisted of $16.1 million of cash and cash equivalents and a $5 million unsecured bank line of credit which expired in October 1998. The Company is currently attempting to negotiate an extension of this credit agreement. During the nine months ended September 30, 1998, cash utilized by operating activities was $4.6 million, compared to $10.5 million for the nine months ended September 30, 1997. The lower cash utilization resulted primarily from the decrease in the net loss in 1998 as compared to 1997. Capital expenditures during the first nine months of 1998, consisting primarily of computer hardware and software purchases, were $1.2 million, the same as the corresponding 1997 period. 11 The Company believes that its available cash and cash equivalents will be sufficient to meet its working capital requirements at least through 1998. ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS The Company desires to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. Specifically, the Company wishes to alert readers that, except for the historical information contained therein, the previous discussion under "Results of Operations" and "Liquidity and Capital Resources" constitutes forward-looking statements that are dependent on certain risks and uncertainties which may cause actual results to differ materially from those expressed in any forward-looking statements made by or on behalf of the Company. The following is a description of certain of the major risks and uncertainties. HISTORY OF LOSSES; SIGNIFICANT FLUCTUATIONS IN OPERATING RESULTS; UNCERTAIN PROFITABILITY The Company has experienced operating losses since inception, with, in recent years, operating losses of $2.4 million in 1995, $11.7 million in 1996, $18.0 million in 1997 and $8.8 million for the nine months ended September 30, 1998. As of September 30, 1998, the Company had an accumulated deficit of approximately $47.8 million. The Company has experienced, and may in the future experience, significant fluctuations in revenues and operating results from quarter to quarter and from year to year due to a combination of factors. Factors that have in the past caused, or may in the future cause, the Company's revenues and operating results to vary significantly from period to period include: the timing of significant orders; the timing of customer implementation plans; the relatively long length of the sales cycles for certain of the Company's products; the market conditions in the networking industry; the timing of capital expenditures by Sync's target market customers; competition and pricing in the industry; the Company's success in developing, introducing and shipping new products; new product introductions by the Company's competitors; announcements by IBM relating to products, services or pricing relevant to the Company; the rate of migration of large IBM customers to frame relay; production or quality problems; changes in material costs; disruption in sources of supply; changes in foreign currency exchange rates; and general economic conditions. In addition, revenues and gross margins may fluctuate due to the mix of distribution channels employed and the mix of products or services sold. For example, the Company generally realizes a higher gross margin on direct sales than on sales through its channel partners and other resellers. Accordingly, as channel partners and other resellers continue to account for a significant portion of the Company's net revenues, gross profit as a percentage of net revenues may decline. The Company's future revenues are difficult to predict. Revenues and operating results in any quarter depend on the volume and timing of, and the ability to fulfill, orders received within the quarter. Sales of the Company's products typically involve a sales cycle of several months or over a year from the point of initial customer contact until receipt of the first system order, and, in addition, the Company has in the past encountered, and may in the future encounter, subsequent delays between initial orders and network-wide deployment. There can be no assurance that average sales cycles will not increase in future periods. Further, due to the Company's focus on its channel partner marketing strategy, the Company's revenues in any period are highly dependent upon the sales efforts and success of Sync's channel partners and other resellers, which are not within the control of the Company. There can be no assurance that the Company's channel partners and other resellers will give a high priority to the marketing of the Company's products as compared to competitive products or alternative networking solutions or that Sync's channel partners and other resellers will continue to offer the Company's products. Significant portions of the Company's expenses are relatively fixed in advance, based in large part on the Company's forecasts of future sales. If sales are below expectations in any given period, the adverse effect of a shortfall in sales on the Company's operating results may be magnified by the Company's inability to adjust spending to compensate for such shortfall. The Company has in the past and may in the future reduce prices or increase spending to respond to competition or to pursue new product or market opportunities. Accordingly, there can be no assurance that the Company will be able to attain or sustain profitability on a quarterly or an annual basis. 12 In addition, if the Company's operating results fall below the expectations of public market analysts and investors, the price of the Company's common stock would likely be materially and adversely affected. UNCERTAIN MARKET ACCEPTANCE OF FRAME RELAY FOR MISSION-CRITICAL APPLICATIONS The market for SNA-over-frame relay and circuit management products is relatively uncertain and still evolving. The success of the Company and its channel partners in generating significant sales of frame relay access and circuit management products will depend in part on their ability to educate end users about the benefits of the Company's technology and convince end users to switch their mission-critical applications to frame relay. In addition, broad acceptance of frame relay services will also depend upon the tariffs for such services, which are determined by carriers. If the tariff structure for dedicated leased lines becomes more favorable relative to tariffs for a comparable network utilizing frame relay, the market for frame relay networking products could be adversely affected. There can be no assurance that the market will adopt frame relay for mission-critical applications to any significant extent. The failure of such adoption to occur could have a material adverse effect on the Company's business, operating results and financial condition. UNCERTAIN MARKET ACCEPTANCE OF THE COMPANY'S PRODUCTS; PRODUCT CONCENTRATION The Company currently derives substantially all of its revenues from its frame relay access, circuit management, transmission and other products and expects that revenues from these products will continue to account for substantially all of its revenues for the foreseeable future. Broad market acceptance of, and continuing demand for, 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 extent to which frame relay is adopted for mission-critical applications, the availability and price of competing products and technologies, announcements by IBM relating to products, services or pricing relevant to the Company, the success of the sales efforts of the Company and its resellers and tariff rates for carrier services. Moreover, the Company's operating history in the WAN internetworking market and its resources are limited relative to those of certain of its current and potential competitors. The Company's future performance will also depend in part on the successful development, introduction and market acceptance of new and enhanced products. Failure of the Company's products to achieve market acceptance could have a material adverse effect on the Company's business, operating results and financial condition. DEPENDENCE ON CHANNEL PARTNERS AND OTHER RESELLERS The Company's channel partners and other resellers currently account, and are expected to continue to account, for a significant part of the Company's net revenues. Sales through channel partners and other resellers accounted for 50.1%, 67.0%, 85.7%, and 88.1%, of net revenues of the Company in the nine months ended September 30, 1998, and for the years ended December 31, 1997, 1996 and 1995, respectively. The Company currently maintains OEM, marketing and sales arrangements with communications and networking companies such as IBM, as well as carriers such as Sprint, MCI and Intermedia Communications and system integrators such as Electronic Data Systems and Diebold. Sales through IBM accounted for 13.4% and 16.4% of the Company's net revenues for the three and nine months ended September 30, 1998, respectively. The Company expects revenues to IBM will decline as a result of the completion of one large project in the third quarter of 1998. The Company's agreements with its channel partners and other resellers do not restrict the sale of products that compete with those of the Company. In addition, these agreements generally provide for discounts based on expected or actual volumes of products purchased or resold by the reseller in a given period, do not require minimum purchases, and prohibit distribution of certain products by the Company through certain categories of third parties under certain conditions. The agreements also specify that the channel partners and certain other resellers will be provided manufacturing rights and access to certain of the Company's source code upon the occurrence of specified conditions or defaults. 13 Certain of the Company's channel partners offer alternative solutions, designed by themselves or third parties, for SNA internetworking or have pre-existing relationships with current or potential competitors of the Company. Certain of the Company's channel partners have in the past developed competitive products and terminated their relationships with the Company, and such developments could occur in the future. Many of the Company's resellers offer competitive products manufactured either by third parties or by themselves. For example, NET and Racal, which accounted for 6.6% and 4.4%, respectively, of the Company's net revenues in 1996, have developed competitive products and product strategies and accordingly, did not account for a significant portion of 1997 or 1998 revenues. Sales to 3Com accounted for 2.0% of revenues for the nine months ended September 30, 1998 and 6.5%, 19.2% and 17.9% of net revenues of the Company in 1997, 1996 and 1995, respectively. The Company believes the amount of revenues derived from sales to 3Com will likely decline as competitive products impact the conversion product business. The Company generally realizes a higher gross margin on direct sales than on sales through its channel partners and other resellers. Accordingly, as channel partners and other resellers continue to account for a significant portion of the Company's net revenues, gross profit as a percentage of net revenues may decline. Each of the Company's channel partners or other resellers can cease marketing the Company's products at the reseller's option, under certain conditions, with limited notice and with little or no penalty. There can be no assurance that the Company will retain its current channel partners or other resellers or that it will be able to recruit additional or replacement channel partners. The loss of one or more of the Company's channel partners or other resellers could have a material adverse effect on the Company's business, operating results and financial condition. In addition, there can be no assurance that the Company's channel partners and other resellers will give priority to the marketing of the Company's products as compared to competitive products or alternative networking solutions or that Sync's channel partners and other resellers will continue to offer the Company's products. Any reduction or delay in sales of the Company's products by its channel partners could have a material adverse effect on the Company's business, operating results and financial condition. YEAR 2000 COMPLIANCE Many currently installed computer and telecommunications systems and software products were not designed to consider the impact of moving into the 21st century. As a result, errors or system failures could result if these systems and applications are not corrected or replaced prior to the year 2000. The Company is currently in the process of evaluating the impact of the "Year 2000" issue upon its products, support systems and overall business. The Company relies on third party suppliers for the management and control of fabrication, assembly and testing of substantially all of the Company's products. The Company has, either internally or in collaboration with certain of its suppliers and customers, evaluated and tested certain of its products and intends to test all of its current products by the end of 1998. The Company believes that several of its discontinued conversion and frame relay products are not Year 2000 compliant and the Company currently does not plan to update these products. The Company has adopted a Year 2000 compliance definition based upon certain generally accepted Year 2000 standards, input from customers, and other available sources. The Company has tested its frame relay access and circuit management products against this definition. These products have been updated to be fully compliant against this definition. The Company is in the process of evaluating its other current products. Some of these products either do not have internal dating or rely on date information from other devices resident in the networks in which they operate. Thus, any Year 2000 problems from third party networking products could cause the Company's products not to work in accordance with their specifications. In addition, the Company's products are tested as standard-built, stand-alone units, or at most, in a standard system configuration. Accordingly, custom built products and special system configurations may create problems the Company has not or will not uncover. Upon completion of the testing phase, the Company will assess any changes to its current products that may be 14 required to achieve Year 2000 compliance. The Company has given certain of its customers warranties on Year 2000 compliance and may have to offer updates or replacement products to these customers. The Company has not incurred substantial costs to date to address the Year 2000 issue and is unable to estimate the additional cost, if any, that may arise from actions taken by the Company, if any, to address the Year 2000 issue or from the interaction of the Company's products with other companies' networking devices and systems. Any failure by the Company to make its products Year 2000 compliant could result in a decrease in revenues of the Company's products and/or possible claims against the Company by customers as a result of Year 2000 problems caused by the Company's products and could have a material adverse effect on the Company. The Company relies on a number of computer systems and applications to operate and monitor all major aspects of its business. The Company is in the process of evaluating its internal information and non-information systems through inquiries with the manufacturers of such systems and anticipates that most of these systems will be evaluated by the end of 1998. The Company believes that several manufacturers of the Company's systems have already updated their products to comply with the Year 2000 issue, or will make updates available by mid-1999, or relatively low cost alternative solutions may become available. However, there can be no assurance that any such updates will be completed on a timely basis, if at all, or at a reasonable cost, or that such updates will work as anticipated in and after the year 2000. The Company has not yet established contingency plans for the Year 2000 issue. The Company intends to continue to evaluate its Year 2000 exposure and develop any necessary contingency plans by mid-1999. Many of the Company's customers and prospective customers are expected to devote a substantial portion of their information systems budgets to the Year 2000 problem over the next several years, and, as a result, spending may be diverted from wide area networking solutions. In addition, the Company relies on a large variety of business enterprises such as customers, suppliers, creditors, financial organizations, and domestic and international governmental entities, for the accurate exchange of data. Any disruption in the computer systems of any of these third parties could materially and adversely affect the Company. Due to the Company's focus on the wide area networking market, which is vulnerable to technological issues involving the Year 2000, substantially all of the Company's revenues may be at risk. Year 2000 compliance definitions and risks continue to evolve and the Company may be impacted by future changes in Year 2000 compliance standards. Despite the Company's efforts to address the Year 2000 impact on its products, internal systems and business operations, the Year 2000 issue may result in a material disruption of its business or have a material adverse effect on the Company's business, financial condition or results of operations. RAPID TECHNOLOGICAL CHANGE AND NEW PRODUCTS The market for the Company's products is characterized by rapidly changing technology, evolving industry standards and frequent new product introductions. The Company's success will depend to a substantial degree upon its ability to develop and introduce in a timely fashion enhancements to its existing products and new products that meet changing customer requirements and emerging industry standards. The development of new, technologically advanced products is a complex and uncertain process requiring high levels of innovation, as well as the accurate anticipation of technological and market trends. There can be no assurance that the Company will be able to identify, develop, manufacture, market or support new products successfully, that such new products will gain market acceptance or that the Company will be able to respond effectively to technological changes, emerging industry standards or product announcements by competitors. In addition, the Company has on occasion experienced delays in the introduction of product enhancements and new products. There can be no assurance that in the future the Company will be able to introduce product enhancements or new products on a timely basis. Further, from time to time, the Company may announce new products, capabilities or technologies that have the potential to replace 15 or shorten the life cycle of the Company's existing product offerings. There can be no assurance that announcements of product enhancements or new product offerings will not cause customers to defer purchasing existing Company products or cause resellers to return products to the Company. Failure to introduce new products or product enhancements effectively and on a timely basis, customer delays in purchasing products in anticipation of new product introductions and any inability of the Company to respond effectively to technological changes, emerging industry standards or product announcements by competitors could have a material adverse effect on the Company's business, operating results and financial condition. PRODUCT ERRORS Products as complex as those offered by the Company may contain undetected software or hardware errors when first introduced or as new versions are released. Such errors have occurred in the past, and there can be no assurance that, despite testing by the Company and by current and potential customers, errors will not be found in new or enhanced products after commencement of commercial shipments. Moreover, there can be no assurance that once detected, such errors can be corrected in a timely manner, if at all. Software errors may take several months to correct, if they can be corrected at all, and hardware errors may take even longer to rectify. The occurrence of such software or hardware errors, as well as any delay in correcting them, could result in the delay or loss of market acceptance of the Company's products, additional warranty expense, diversion of engineering and other resources from the Company's product development efforts or the loss of credibility with Sync's channel partners and other resellers, any of which could have a material adverse effect on the Company's business, operating results and financial condition. INTENSE COMPETITION The market for communications products is intensely competitive and subject to rapid technological change and emerging industry standards. The Company's current competitors include internetworking companies, such as Cisco and Bay Networks; frame relay access device (FRAD) providers, such as Hypercom, Motorola ISG and Cabletron; and circuit management and digital transmission providers such as Visual Networks, Digital Link, Racal, AT&T Paradyne and Adtran, among others. Potential competitors include other internetworking and WAN access and transmission companies, network management software companies, frame relay switch providers, IBM and the Company's other channel partners. Certain of these companies have recently announced products and intentions to enter the frame relay access or circuit management market. Many of the Company's current and potential competitors have longer operating histories and greater financial, technical, sales, marketing and other resources, as well as greater name recognition and a larger customer base, than does the Company. As a result, they may be able to respond more quickly to new or emerging technologies and changes in customer requirements or may be able to devote greater resources to the development, promotion, sale and support of their products than the Company. Many also have long-standing customer relationships with large enterprises that are part of the Company's target market, and these relationships may make it more difficult to complete sales of the Company's products to these enterprises. Further, certain of the Company's channel partners have in the past developed competitive products and terminated their relationships with the Company, and such developments could occur in the future. As a consequence of all these factors, the Company expects increased competition, particularly in the frame relay market. Increased competition could result in significant price competition, reduced profit margins or loss of market share, any of which could have a material adverse effect on the Company's business, operating results and financial condition. There can be no assurance that the Company will be able to compete successfully in the future. DEPENDENCE ON THE IBM CUSTOMER BASE The Company's frame relay access products are leveraged towards the large installed base of IBM customers utilizing SNA networks. Thus, the Company faces the risks associated with a relatively 16 concentrated customer base, including the possibility that larger IBM customers may migrate to frame relay at a slower-than-expected rate, if at all, and the possibility that IBM customers may purchase IBM-sponsored frame relay products other than Sync products. There can be no assurance that IBM will continue to support frame relay, that IBM will not develop or promote SNA-over-frame relay products competitive with the Company's products, that the relationship between the Company and IBM will be successful, that IBM will not terminate the relationship or that IBM will not endorse the products of competitors or networking solutions not offered by the Company. Any of these events could have a material adverse effect on the Company's business, operating results and financial condition. DEPENDENCE ON CONTRACT MANUFACTURERS The Company's manufacturing operations consist primarily of materials planning and procurement, light assembly, system integration, testing and quality assurance. The Company has arrangements with two contract manufacturers to out source substantial portions of its procurement, assembly and system integration operations. There can be no assurance that these independent contract manufacturers will be able to meet the Company's future requirements for manufactured products or that such independent contract manufacturers will not experience quality problems in manufacturing the Company's products. The inability of the Company's contract manufacturers to provide the Company with adequate supplies of high quality products could have a material adverse effect upon the Company's business, operating results and financial condition. The loss of any of the Company's contract manufacturers could cause a delay in Sync's ability to fulfill orders while the Company attempts to identify a replacement manufacturer. Such an event could have a material adverse effect on the Company's business, operating results and financial condition. The Company's manufacturing procedures may in certain instances create a risk of excess or inadequate inventory if orders do not match forecasts. The Company previously increased manufacturing capacity through the expansion of its relationships with contract manufacturers. Any manufacturing delays, excess manufacturing capacity or inventories or inability to increase manufacturing capacity, if required, could have a material adverse effect on the Company's business, operating results and financial condition. DEPENDENCE ON SUPPLIERS Certain key components used in the manufacture of the Company's products are currently purchased only from single or limited sources. At present, single-sourced components include programmable integrated circuits, gate-arrays, selected other integrated circuits and cables, custom-molded plastics and custom-tooled sheet metal, and limited-sourced components include flash memories, DRAMs, printed circuit boards and selected integrated circuits. The Company generally relies upon contract manufacturers to buy component parts that are incorporated into board assemblies. The Company buys directly final assembly parts, such as plastics and metal covers, cables and other parts used in final configurations. The Company generally does not have long-term agreements with any of these single or limited sources of supply. Any loss in a supplier, increase in required lead times, increase in price of component parts, interruption in the supply of any of these components, or the inability of the Company to procure these components from alternate sources at acceptable prices and within a reasonable time, could have a material adverse effect upon the Company's business, operating results and financial condition. If orders do not match forecasts, the Company may have excess or inadequate inventory of certain materials and components, and suppliers may demand longer lead times, higher prices or termination of contracts. From time to time the Company has experienced shortages of certain components and has paid above-market prices to acquire such components on an accelerated basis or has experienced delays in fulfilling orders while waiting to obtain the necessary components. Such shortages may occur in the future and could have a material adverse effect on the Company's business, operating results and financial condition. 17 DEPENDENCE ON AND RISKS ASSOCIATED WITH INTERNATIONAL SALES Sales to customers outside of the United States accounted for approximately 6.6%, 19.1%, 12.7% and 10.7% of the Company's net revenues in the nine months ended September 30, 1998 and in fiscal years 1997, 1996 and 1995, respectively. However, these percentages may understate sales of the Company's products to international end users because certain of the Company's U.S.-based channel partners market the Company's products abroad. The Company currently anticipates that international sales may continue to account for a significant percentage of the Company's net revenues in future periods. However, as a result of the recent Asian economic crisis, the Company experienced project delays and order cancellations during the fourth quarter of 1997 and has continued to experience sluggishness in it sales to the Pacific Rim during the first nine months of 1998. Sales to the Pacific Rim during the third quarter of 1998 represented 6.6% of the Company's net revenue for such period. The Company markets its products in foreign countries primarily through its channel partners and independent distributors. Failure of these resellers to market the Company's products internationally or the loss of any of these resellers could have a material adverse effect on the Company's business, operating results and financial condition. In addition, the Company's ability to increase sales of its products to international end users may be limited if the carrier services, such as frame relay, or protocols supported by the Company's products are not widely adopted internationally. A number of additional risks are inherent in international transactions. The Company's international sales currently are U.S. dollar-denominated. As a result, an increase in the value of the U.S. dollar relative to foreign currencies, as has occurred recently in several Asian markets, could make the Company's products less competitive in international markets. International sales may also be limited or disrupted by the imposition of governmental controls, export license requirements, restrictions on the export of critical technology, currency exchange fluctuations, political instability, trade restrictions and changes in tariffs. In addition, sales in Europe and certain other parts of the world typically are adversely affected in the third quarter of each year as many customers and end users reduce their business activities during the summer months. These international factors could have a material adverse effect on future sales of the Company's products to international end users and, consequently, the Company's business, operating results and financial condition. DEPENDENCE ON PROPRIETARY TECHNOLOGY The Company's future success depends, in part, upon its proprietary technology. The Company does not hold any patents and currently relies on a combination of contractual rights, trade secrets and copyright laws to establish and protect its proprietary rights in its products. There can be no assurance that the steps taken by the Company to protect its intellectual property will be adequate to prevent misappropriation of its technology or that the Company's competitors will not independently develop technologies that are substantially equivalent or superior to the Company's technology. In the event that protective measures are not successful, the Company's business, operating results and financial condition could be materially and adversely affected. In addition, the laws of some foreign countries do not protect the Company's proprietary rights to the same extent as do the laws of the United States. The Company is also subject to the risk of adverse claims and litigation alleging infringement of intellectual property rights of others. There can be no assurance that third parties will not assert infringement claims in the future with respect to the Company's current or future products or that any such claims will not require the Company to enter into license arrangements or result in litigation, regardless of the merits of such claims. No assurance can be given that any necessary licenses will be available or that, if available, such licenses can be obtained on commercially reasonable terms. Should litigation with respect to any such claims commence, such litigation could be extremely expensive and time-consuming and could have a material adverse effect on the Company's business, operating results and financial condition regardless of the outcome of such litigation. 18 TARIFF AND REGULATORY MATTERS Rates for public telecommunications services, including features and capacity of such services, are governed by tariffs determined by carriers and subject to regulatory approval. Future changes in these tariffs could have a material effect on the Company's business. For example, should tariffs for frame relay services increase in the future relative to tariffs for dedicated leased lines, the cost-effectiveness of the Company's products could be reduced, which could have a material adverse effect on the Company's business, operating results and financial condition. In addition, the Company's products must meet industry standards and receive certification for connection to certain public telecommunications networks prior to their sale. In the United States, the Company's products must comply with various regulations defined by the Federal Communications Commission and Underwriters Laboratories. Internationally, the Company's products must comply with standards established by telecommunications authorities in various countries as well as with recommendations of the Consultative Committee on International Telegraph and Telephony. In addition, carriers require that equipment connected to their networks comply with their own standards, which in part reflect their currently installed equipment. Some public carriers have installed equipment that does not fully comply with current industry standards, and this noncompliance must be addressed in the design of the Company's products. Any future inability to obtain on a timely basis or retain domestic or foreign regulatory approvals or certifications or to comply with existing or evolving industry standards could have a material adverse effect on the Company's business, operating results and financial condition. DEPENDENCE ON KEY PERSONNEL The Company's success depends, to a significant degree, upon the continued contributions of its key management, sales, marketing, research and development and manufacturing personnel. The Company believes its future success will also depend in large part upon its ability to attract and retain highly skilled engineering, managerial, sales and marketing personnel, and development engineers. Competition for such personnel is intense, and there can be no assurance that the Company will be successful in attracting and retaining such personnel. During 1997 and 1998, the Company implemented significant expense reductions, including reductions in force, with the goal of enabling the Company to achieve profitability at lower revenues. The loss of the services of these or any of the Company's other key personnel or the failure to attract or retain qualified personnel in the future could have a material adverse effect on the Company's business, operating results or financial condition. GENERAL ECONOMIC CONDITIONS Demand for the Company's products depends in large part on the overall demand for communications and networking products, which has in the past and may in the future fluctuate significantly based on numerous factors, including capital spending levels and general economic conditions. There can be no assurance that the Company will not experience a decline in demand for its products due to general economic conditions. Any such decline could have a material adverse effect on the Company's business, operating results and financial condition. VOLATILITY OF STOCK PRICE Any negative announcements by the Company regarding its products, markets or financial performance, or announcements of technological innovations or the introduction of new products by its competitors, as well as market conditions in the technology sector, may have a significant effect on the market price of the Company's common stock. Further, the stock market has experienced volatility which has particularly affected the market prices of equity securities of many high technology companies and which often has been unrelated to the operating performance of such companies. These market fluctuations may have an adverse effect on the price of the Company's common stock. 19 ANTI-TAKEOVER PROVISIONS The Company is subject to the provisions of Section 203 of the Delaware General Corporation Law, an anti-takeover law. In addition, certain provisions of the Company's charter documents, including provisions eliminating cumulative voting, eliminating the ability of stockholders to call meetings or to take actions by written consent and limiting the ability of stockholders to raise matters at a meeting of stockholders without giving advance notice, may have the effect of delaying or preventing a change in control or management of the Company, which could have an adverse effect on the market price of the Company's common stock. Certain of the Company's stock option and purchase plans and agreements provide for assumption of such plans, or, alternatively, immediate vesting upon a change of control or similar event. In addition, the Company has entered into severance agreements with its officers, pursuant to which they are entitled to specified severance payments if they are actually or constructively terminated within specified time periods following a change of control of the Company. The Board of Directors has authority to issue up to 2,000,000 shares of preferred stock and to fix the rights, preferences, privileges and restrictions, including voting rights, of these shares without any further vote or action by the stockholders. The rights of the holders of the common stock will be subject to, and may be adversely affected by, the rights of the holders of any preferred stock that may be issued in the future. The issuance of preferred stock, while providing desirable flexibility in connection with possible acquisitions and other corporate purposes, could have the effect of making it more difficult for a third party to acquire a majority of the outstanding voting stock of the Company, thereby delaying, deferring or preventing a change in control of the Company. Furthermore, such preferred stock may have other rights, including economic rights senior to the common stock, and as a result, the issuance of such preferred stock could have a material adverse effect on the market value of the common stock. The Company has no present plan to issue shares of preferred stock. 20 SYNC RESEARCH, INC. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS On November 5, 1997, an action entitled Dalarne Partners, Ltd. v. Sync Research, Inc., et al., No. SACV97-877 AHS(EEx) was filed against the Company and certain of its directors and officers. The action was filed in the U.S. District Court for the Central District of California, Southern Division. The action purports to be a class action lawsuit brought on behalf of purchasers of the Company's common stock during the period from November 18, 1996 through March 20, 1997. The complaint asserts claims for violation of the Securities Exchange Act of 1934. The complaint seeks to recover damages in an unspecified amount. No trial date or other deadline has been established. The Company intends to defend this lawsuit vigorously. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS (d) USE OF PROCEEDS In connection with its initial public offering in 1995, the Company filed a Registration Statement on Form S-1, SEC File No. 33-96910 (the "REGISTRATION STATEMENT"), which was declared effective by the Commission on November 8, 1995. Pursuant to the Registration Statement, the Company registered and sold 2,585,000 shares of its Common Stock, $0.001 par value per share, for its own account. The offering was completed on November 9, 1995. The aggregate offering price of the registered shares was $51,700,000. The managing underwriters of the offering were BancAmerica Robertson, Stephens (formerly Robertson, Stephens & Company), BT Alex. Brown (formerly Alex. Brown & Sons Incorporated) and Dain Rauscher Wessels (formerly Wessels, Arnold & Henderson). From November 9, 1995 to September 30, 1998, the Company incurred the following expenses in connection with the offering: Underwriting discounts and commissions.......................... $3,619,000 Other expenses.................................................. 912,471 --------- Total Expenses.............................................. $4,531,471 --------- --------- All of such expenses were direct or indirect payments to others. The net offering proceeds to the Company after deducting the total expenses above were $47,168,529. From November 9, 1995 to September 30, 1998, the Company used such net offering proceeds, in direct or indirect payments to others, as follows: Construction of plant, building and facilities................ $ 850,638 Purchase and installment of machinery and equipment........... 4,003,331 Acquisition of other business(es)............................. 5,338,000 Working capital............................................... 1,495,283 Operating losses.............................................. 31,509,790 ------------ Total..................................................... $ 43,197,042(1) ------------ ------------ - ------------------------ (1) Excludes operating losses, capital expenditures and working capital changes of Tylink Corporation ("Tylink") prior to the Company's acquisition of Tylink in August 1996. In addition, the Company used aggregate proceeds of $611,125 to make departing payments to departing officers. This use of proceeds does not represent a material change in the use of proceeds described in the prospectus of the Registration Statement. 21 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 10.27 Amended and Restated 1996 Non-Executive Stock Option Plan (amended as of August 21, 1998) 10.34 Settlement Agreement and Mutual Release with John Rademaker dated September 28, 1998. 27.1 Financial Data Schedule. (B) REPORTS ON FORM 8-K No Reports on Form 8-K were filed during the quarter ended September 30, 1998. 22 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. SYNC RESEARCH, INC. By: /s/ WILLIAM K. GUERRY ----------------------------------------- William K. Guerry VICE PRESIDENT OF FINANCE AND ADMINISTRATION AND CHIEF FINANCIAL OFFICER (DULY AUTHORIZED SIGNATORY AND PRINCIPAL Date: November 16, 1998 FINANCIAL AND ACCOUNTING OFFICER) 23