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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K/A
AMENDMENT NO. 2
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
[NO FEE REQUIRED] FOR THE TRANSITION PERIOD FROM __________ TO __________ .
COMMISSION FILE NO. 000-24009
COM21, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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DELAWARE 94-3201698
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
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750 TASMAN DRIVE
MILPITAS, CALIFORNIA 95035
(408) 953-9100
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF THE
REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT:
COMMON STOCK, $0.001 PAR VALUE
Indicate by a checkmark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by a check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
At February 28, 2001, the aggregate market value of the voting stock held
by non-affiliates of the registrant was approximately $3,791,739, based on the
last trade price as reported by The Nasdaq National Market. For purposes of this
calculation, shares owned by officers, directors, and 10% stockholders known to
the registrant have been excluded. Such exclusion is not intended, nor shall it
be deemed, to be an admission that such persons are affiliates of the
registrant.
At February 28, 2001, there were 24,947,696 shares of the registrant's
common stock, $0.001 par value, issued and outstanding.
Information required by Part III (except Item 13) of this Form 10-K/A is
incorporated therein by reference from the Company's definitive Proxy Statement
with respect to its 2001 Annual Meeting of Stockholders to be filed pursuant to
Regulation 14A within 120 days after December 31, 2000.
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THIS FORM 10-K/A CONTAINS FORWARD-LOOKING STATEMENTS. THESE STATEMENTS ARE
NOT GUARANTEES OF FUTURE PERFORMANCE AND ARE SUBJECT TO CERTAIN RISKS,
UNCERTAINTIES AND OTHER FACTORS, SOME OF WHICH ARE BEYOND OUR CONTROL, ARE
DIFFICULT TO PREDICT AND COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM
THOSE EXPRESSED OR FORECASTED IN THE FORWARD-LOOKING STATEMENTS.
This Form 10-K/A contains forward-looking statements that have been made
under the provisions of the Private Securities Litigation Reform Act of 1995.
These forward-looking statements are not historical facts but rather are based
on current expectations, estimates and projections about our industry, our
beliefs, and assumptions. Words such as anticipates, expects, intends, plans,
believes, seeks, estimates and variations of these words and similar expressions
are intended to identify forward-looking statements. These statements are not
guarantees of future performance and are subject to certain risks, uncertainties
and other factors, some of which are beyond our control, are difficult to
predict and could cause actual results to differ materially from those expressed
or forecasted in the forward-looking statements. These risks and uncertainties
include those described in "Risk Factors" and elsewhere in this Form 10-K/A.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect our management's view only as of the date of this Form
10-K/A. We undertake no obligation to update these statements or publicly
release the result of any revisions to the forward-looking statements that we
may make to reflect events or circumstances after the date of this Form 10-K/A
or to reflect the occurrence of unanticipated events.
We are amending the following items in our Annual Report on Form 10-K,
originally filed with the Securities and Exchange Commission on April 2, 2001,
as amended by our Amendment No. 1 to Annual Report on Form 10-K/A filed on July
31, 2001.
COM21, INC.
INDEX
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<Caption>
PART I:
Item 1. Business.................................................... 1
PART II:
Item 7. Management's Discussion and Analysis of Financial Condition
and
Results of Operations....................................... 18
Item 8. Consolidated Financial Statements and Supplementary Data.... 26
PART IV:
Item 14. Exhibits, Consolidated Financial Statement Schedules, and
Reports on Form 8-K......................................... 53
Exhibit Index......................................................... 54
Signatures............................................................ 56
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PART I
ITEM 1. BUSINESS
Com21, Inc., is a leading global supplier of broadband access solutions.
Com21's products enable domestic and international cable operators to provide
high-speed, cost-effective Internet access; reduce operating costs; and maximize
revenue opportunities in a variety of subscriber markets -- including corporate
telecommuters, small businesses, and private homes. We develop and sell headend
equipment, subscriber cable modems, and network management software to support
the Asynchronous Transfer Mode, or ATM, Data Over Cable System Interface
Specification, or DOCSIS and Digital Video Broadcasting, or DVB standards. In
2000, we shipped approximately 565 headends and 790,000 cable modems. In the
North American market, we sell directly to cable operators such as AT&T, Charter
Communications, Comcast, Cox Communications, and systems integrators such as
HSA. Internationally, we sell primarily to systems integrators such as Siemens
and Telindus, who in turn sell to cable operators.
During 2000, we completed the acquisition of two companies. On July 3,
2000, under a Share Purchase Agreement dated April 18, 2000, GADline, Ltd., an
Israeli company, was merged into Com21. GADline develops, manufactures and
markets fully managed networking solutions that deliver high-speed data and
telephony services over a hybrid fiber coaxial infrastructure. On July 6, 2000,
under a share purchase agreement dated June 22, 2000, BitCom, Inc., a Delaware
company, with facilities in Germantown, Maryland was merged into Com21. BitCom
is an engineering consulting and development organization specializing in wired
and wireless telecommunications, satellite, and networking engineering.
Com21 was incorporated in Delaware in June 1992. Our principal executive
offices are located at 750 Tasman Drive, Milpitas, California 95035 and our
telephone number at that address is (408) 953-9100. We can also be reached at
our Web site http://www.com21.com.
INDUSTRY BACKGROUND
The Internet is a valuable communications tool for businesses and consumers
as it facilitates global, real-time interactions. Because of its global reach,
accessibility, use of open standards and ability to make real-time interaction,
the Internet has become a valuable communication medium for both businesses and
customers. The volume of data traffic across communications networks has
significantly increased in recent years, due to the proliferation of
network-based communications and electronic commerce.
In addition to the substantial increase in the sheer volume of Internet
data users, both business and consumer users are intensifying demand for
higher-caliber connections that can carry bandwidth-intensive information, such
as voice and video. With the increasing importance of communications networks,
the demand for bandwidth-sensitive information is also rising, so that the
existing transmission speeds have become less tolerable and can negatively
affect business productivity.
Typically, the limiting factor in overall data transmission performance is
the last mile of the communications infrastructure between a service provider
and a subscriber, known as the "last mile" problem. Cable provides a solution to
this "last mile" problem, as cable is widely available to consumers, and cable
infrastructure currently provides the highest available transmission speed, with
peak data transmission speeds of 40 megabits per second and "always-on"
availability providing instant access. These factors have led to the rapid
growth in the distribution of Internet access over cable.
THE COM21 STRATEGY
Com21's business strategy includes the following key elements:
Leverage the Cable Modem Platform. We offer a suite of products that
leverage off our low cost cable modem platform. These products support a variety
of service offerings, that enable cable operators to market service packages to
different customer segments. Our products include a basic cable modem for
Internet access, and modems which offer a combination of features, such as voice
support, a range of security levels, Web content filtering, and virtual private
network (VPN) support. Other products include a cable modem
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which services multi-dwelling units and residential gateways that transport
voice, data and video to wired and wireless information appliances.
Provide Broadband Infrastructure Products and an Integrated End-To-End
Solution. In time, cable operators will require an integrated software and
hardware platform, a solution that we currently provide. Additionally, we will
provide solutions that can support the growing popularity of small node sizes,
demonstrated by the increasing distribution of optical fiber in residential
areas. We also want to fulfill the demand for broadband solutions that can
manage data, voice and video. With our partner TdSoft, we have introduced a
voice gateway to the public switched telephone network ComUNITY Vox. This
addition allows cable operators to use our ComUNITY access system to offer voice
services.
Enhance Value to Cable Operators. Another core strategy is to provide
product features that enhance the value of cable operators' cable modem
expansions over the life of those investments. Cable operators assess the
success of investing in a cable modem system by considering not only the initial
cost of investing in cable modem equipment, but the service reliability, the
overall operating and maintenance expenses, and the service revenues that can be
made. Com21's ComUNITY Access(R) System is designed to enable cable operators to
increase revenues by offering up to 16 different cable operator-defined
transmission rates, at varying price points, to multiple markets. Com21's
DOXport(R) 1110 CableLabs certified DOCSIS cable modem that allows an operator
to offer basic subscriber service while the DOXport 5020 Office Cable Modem has
additional networking capabilities to offer value-added services to residential,
telecommuting, and small office subscribers.
Leverage Technology Leadership. One of the factors of Com21's success has
been our ability to supply end-to-end broadband communications system with
features that support new, revenue generating opportunities for cable operators,
and networking advantages. Technological developments in multi-service
scheduling optimization, protocol simulation, and application specific
integrated circuit (commonly referred to as an ASIC) integration, enable us to
offer a scalable system to deliver tiered service levels, VPNs, and low-latency
voice and video applications. Moreover, Com21's internal development of a
network management system, and high performance, cost-effective radio frequency
transmitters/receivers and fast radio frequency switching systems, lowers cable
operators' cost of distributing and operating Com21's equipment.
Offer Standards-Based Cable Modems and Solutions. As the North American
cable industry has embraced DOCSIS-compliant products, we have designed our
cable modems to meet these specifications. In September 2000, our DOXport 1110
received DOCSIS 1.0 certification from CableLabs. Cable operators want to
benefit from the interoperability, and lower product costs of standardized
parts. Com21 intends to continue to develop the DOCSIS products.
Our strategy is to implement these standards and maintain our product
differentiation by increasing the number of value added capabilities while
continuing to decrease costs. The DOXport 1110 was one of the first cable modems
certified by CableLabs using the latest Broadcom 3350 chip. We are also using
the standards-based platform to offer higher value features such as our DOXport
5000 Series of Office Cable Modems and our DOXport 8080 Multiple Dwelling Unit
cable modem.
In Europe, the DVB standards are evolving. In late 2000, we introduced a
DVB cable modem, the COMport II DVB cable modem. Additionally, as the EuroDOCSIS
standard evolves, we believe we are well positioned to leverage our North
American DOCSIS technology to the unique standards of the European market.
Be A Global Competitor. Our strategy is to be a worldwide supplier to the
growing global market for cable modem systems. We have agreements with system
integrators servicing markets in Europe, Japan, Latin America, South America and
the Far East. Our business was approximately 67% international in 2000, 47% in
1999, and 52% in 1998. We have sales and support personnel in Japan, Singapore,
Korea, Australia, China, Hong Kong, Latin America, Europe, Canada, and five
domestic locations.
We actively participate, and have been selected as a vendor author, in
CableLabs' PacketCable cable telephony initiative. Com21's existing products
have been designed with quality of service (QoS) capability to support
toll-quality voice transmission over a cable plant.
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Increase Cost Efficiencies. While we intend to continue to seek premium
prices for our products, the cable modem market will be characterized by
declining prices. As a result, we seek to reduce product costs, particularly for
end-user cable modems, with more efficient design, use of standardized
components, and our continuous search for cost effective solutions.
PRODUCTS
Com21's current product offerings include DOCSIS standards-based products;
ATM-based system; DVB standards-based cable modems; and Telephony products.
DOCSIS Standards-based Products
Com21 offers several DOCSIS standards-based products:
DOXport 1110. The DOXport 1110 cable modem takes advantage of the
faster, more efficient Broadcom 3350 chip, which leads to greater overall
performance of the modem. The DOXport 1110 is also CableLabs Certified,
assuring compatibility with any DOCSIS 1.0 or 1.1 cable modem termination
system (CMTS). Users can connect with USB 1.1, 10/100 Base-T Ethernet, or
both for fast, flexible installation. It is also software upgradeable to
the DOCSIS 1.1 standard, which provides for enhancements such as tiered
services, multicasting, and quality of service.
DOXport 5020. The DOXport 5020 is a multi-function cable network
access solution. It includes a cable modem, enterprise-class firewall,
router, four-port Ethernet hub, Network Address Translation, and Dynamic
Host Configuration Protocol client and server. Optional IPSec Virtual
Private Networking and content filter list subscription are also available.
Additionally, the DOXport 5020 supports up to 64 users making it an ideal
solution for any multi-computer environment.
DOXport 8080. The DOXport 8080 is a Multiple Dwelling Unit cable modem
that combines a cable modem and a multiplexer to create a powerful
broadband gateway. It provides high-speed Internet access for as many as
eight apartments, hotel rooms, offices, or classrooms over existing
telephone lines-without interrupting voice services. The DOXport 8080 makes
the delivery of scalable, high-speed communications far more efficient and
affordable.
We are currently developing the following DOCSIS standards-based products:
DOXport 1112. The DOXport 1112 is being developed to be a Euro-DOCSIS
compliant cable modem based on our current DOXport 1110 design. It takes
full advantage of our Doxport 1110 development, incorporating all of the
performance and speed of the 1110 while being built to meet all
specifications of Euro-DOCSIS.
DOXport 2040. The DOXport 2040 is being developed to be a voice and
data solution. The modem is based on our current DOXport 1110 design and
includes VoIP capability as developed by our division in Israel. The modem
will allow our customers to broaden the suite of services they currently
offer to include voice capabilities.
ATM-BASED SYSTEMS AND DVB STANDARDS-BASED CABLE MODEMS
The ATM-based ComUNITY Access System consists of the following:
ComCONTROLLER(R) Headend Switches. The ComCONTROLLER controls the flow
of data communications between the ComPORT modems at a subscriber's site
and an external network, such as the Internet or a corporate network. The
ComCONTROLLER 2100 Main Chassis is designed with 11 slots and can
accommodate interface modules, such as ATM/OC-3, multiple Ethernet, or Fast
Ethernet module. The ComCONTROLLER 2000 is designed with 6 slots.
ComPORT(TM) Cable Modems. The ComPORT cable modem family sends and
receives data from subscriber's site over coaxial cable. The ComPORT modem
uses an Ethernet interface and connects to the PC's Ethernet card or
Ethernet hub. The ComPORT 2000 cable modem is a low-profile cable
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modem that provides high-speed connectivity cost-effectively. The ComPORT
1000 cable modem is equipped with an expansion slot. It allows adding
modules to enable applications such as virtual private networks (VPN) and
cable telephony. The ComPORT 5000 Series Office Cable Modem is for the
small office/home office market. The ComPORT 5000 is a multi-functional,
broadband access solution that integrates the cable modem, a built-in
firewall, hub, proxy server and other features.
Network Management and Provisioning System (NMAPS). The Network
Management and Provisioning System is a network management software package
that facilitates subscriber provisioning, fault isolation, network
configuration, field inventory, auto-discovery and system performance for
the ComUNITY Access System. The Network Management and Provisioning System
provides for remote monitoring, remote modem software upgrade, and has a
graphical user interface.
Return Path Multiplexer (RPM). Com21's Return Path Multiplexer is a
high-speed, multiport analog switching device which allows up to eight
upstream paths to be connected to a single ComCONTROLLER radio frequency
receiver without electrically combining the accumulated noise from the
return paths.
Com21's DVB solution includes the following cable modem:
ComUNITY II DVB Cable Modem. The ComUNITY II DVB cable modem is an
EuroModem Class A-compliant cable modem certified by the DVB/DAVIC
Interoperability Consortium. The modem is able to provide three levels of
Quality of Service (QoS) and is software upgradeable for the evolving DVB
standard. The Comport II DVB sends and receives data from the subscriber's
home or office over the coaxial cable at up to 42Mbps downstream and 6Mbps
upstream.
CUSTOMERS
In 1998, revenues attributable to TCI (currently AT&T BIS/TCI), Philips
Electronics and Siemens accounted for 24%, 15% and 14% of total revenues,
respectively. In 1999, revenues attributable to AT&T BIS/ TCI, Philips and
Siemens accounted for 20%, 18% and 12% of total revenues, respectively. In 2000,
revenues attributable to Siemens, Telindus, and Comcast Communications accounted
for 12%, 11%, and 10% respectively.
MARKETS
Com21's products enable cable operators to serve three primary end-user
markets, each of which have widely varying speed, service and pricing
requirements.
Residential Consumer Internet Users. Residential consumer Internet users
generally only require a connection to their Internet service provider (ISP),
without the same level of security and reliability required by business and
Small Office/Home Office (SOHO) users. Frequent users desire medium-to-high
speed access to the Internet for Web browsing and downloading of multimedia
applications and files. Occasional users require low-to-medium speed Internet
access on a limited basis for Web browsing, e-mail and on-line services.
Frequent users are generally willing to pay a slight premium for higher speed.
Corporate Telecommuter and Remote Office Users. Corporate telecommuters and
remote office business users need highly available, high-speed access to
corporate intranets and corporate local area networks. These users also must
interconnect the local area networks among their various offices. These offices
may be collocated, in a large campus, for example, or widely dispersed, in the
case of sales offices and telecommuters. Connections to a central telephone
private branch exchange (PBX), rapid two-way transfer of large data files,
desktop video conferencing, security, and reliability exemplify the services
that business users may require. Users in this segment of subscribers are
generally willing to pay a premium for highly reliable, high-speed service with
advanced features.
Small Office/Home Office (SOHO) Users. Small offices and home office
businesses increasingly find the Internet an efficient and cost-effective means
of communicating and processing transactions with customers and suppliers. Com21
believes these businesses require medium-to-high speed Internet access that is
reliable
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and always available. SOHO users may have a local area network to connect to
cable modem services, and may require routing in order to connect multiple
terminals. These businesses may also require desktop video conferencing
capability, and connectivity with other businesses. Because these requirements
may be critical to running their business, there is population of SOHO users who
are willing to pay more for higher-quality, secure, reliable service than are
residential consumer Internet users.
MANUFACTURING
Com21 tests and assembles its ComUNITY Access headend controller equipment
in its Milpitas, California facility. We outsource printed circuit board
assemblies on a turnkey basis and perform final integration and burn-in on-site.
Com21 configures the headend equipment and the network management and
provisioning software before customer shipment.
Com21 outsources turnkey manufacturing of our cable modems to contract
manufacturers in Mexico and Malaysia. With these contract manufacturers, Com21
has developed and implemented a series of product test methodologies, quality
standards and process control parameters. These relationships have enabled us to
ensure a continuous supply of modems, reducing susceptibility to plant
disruption problems. We believe that employing turnkey manufacturers enables us
to meet anticipated manufacturing needs and reduce the cost of product
procurement.
We believe our current manufacturing capabilities can accommodate our
requirements through the end of 2001. Warranty and repair support is performed
at our Milpitas facility. Com21 received ISO 9001 certification in December
1998.
MARKETING AND SALES
Marketing. Domestically, we have targeted our marketing efforts primarily
at cable operators. There are a limited number of cable operators in the
domestic cable industry. A cable operator's internal technical experts typically
influence purchasing decisions. The objective of our direct marketing activities
is to reach these technical experts, raise product awareness and gain
credibility for Com21's systems within the cable operator community. Activities
with local cable operators are jointly managed to accelerate cable modem service
penetration. Internationally, we have focused our marketing efforts on
supporting our systems integration partners' marketing programs. We plan to
increase our international marketing efforts in new markets in Asia, South
America, and Europe, as those markets become deregulated and the Internet usage
grows in those regions.
Sales. We have a sales force of 42 people worldwide. Currently, Com21 sells
its products in North America primarily through direct sales channels to cable
operators. Overseas, we sell our products primarily to systems integrators, who
resell our products to cable operators. Com21's two largest systems integrators
are Telindus and Siemens, both of whom have a strong presence in many markets.
Com21's systems integrators have established customer bases and relationships
with cable operators. These relationships allow Com21 to market and create brand
awareness within each region by selling locally into their respective markets,
and the local presence of the systems integrators bridges cultural and
communication gaps.
RESEARCH AND DEVELOPMENT
Com21 has focused its research and development efforts on reducing the
cable operator's cost of ownership, increasing the scalability and performance
of its current products, enhancing value-added services for subscribers,
reducing product costs, integrating voice capabilities into the cable modem and
developing voice gateway and supporting emerging cable modem standards.
Our research and development expenditures were $19.9 million in 1998, $29.8
million in 1999, and $48.5 million in 2000. Research and development expenses
primarily consist of salaries and related costs of employees and consultants
engaged in ongoing research, design and development of our products and
technology. As of December 31, 2000, Com21 had a team of 216 engineers with
expertise in digital electronics design, encryption, radio frequency modulation
and demodulation, networking, embedded software, and
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network management. The engineers are located in development centers in
Milpitas, California; Germantown, Maryland; Cork, Ireland; and Jerusalem,
Israel.
CUSTOMER SERVICE AND TECHNICAL SUPPORT
Com21 believes that successful long-term relationships with its customers
require a service organization committed to customer satisfaction. As of
December 31, 2000, Com21 had 56 technical support employees. Com21 makes
available to all new customers a five-day training course before receiving and
installing a ComUNITY Access System.
In North America, Com21 provides direct support by telephone and at the
customers' locations. Com21 supplies support 24 hours a day, seven days a week.
Internationally, systems integrators provide first level support, and Com21
provides second level support. Com21 maintains a customer call tracking system
that captures and monitors service activities. Com21 is able to identify
problems with a customer's ComUNITY Access System through a dialup analog modem
connection and a Web-based management interface.
COMPETITION
The markets for Com21's products are intensely competitive, rapidly
evolving, and subject to rapid technological change. The principal competitive
factors in these markets are likely to include product performance and features,
reliability, technical support and service, relationships with cable operators
and systems integrators, compliance with industry standards, interoperability
with the products of other suppliers, sales and distribution capabilities,
strength of brand name, price, long-term cost of ownership to cable operators
and general industry and economic conditions. Com21's current and potential
competitors include 3Com Corporation, Cisco Systems, Inc., Motorola, Inc.,
Nortel Networks, Inc., RCA/Thompson, Samsung Electronics Company, Terayon
Communication Systems and Toshiba.
BACKLOG
Our backlog on February 28, 2001 was approximately $28.3 million compared
with an approximate backlog of $23.5 million at February 29, 2000. We only
include in our backlog orders that have been confirmed with a purchase order for
products to be shipped to customers with approved credit status. Because
delivery schedules are always subject to change, and orders are subject to being
cancelled, we do not believe that our backlog, as of any particular date, is
necessarily indicative of actual net sales for any future period.
INTELLECTUAL PROPERTY
Com21 relies on a combination of patent, copyright and trademark laws, and
on trade secrets, confidentiality provisions and other contractual provisions to
protect its proprietary rights. These measures afford only limited protection.
Com21 currently has eleven issued U.S. patents and several pending patent
applications.
EMPLOYEES
As of December 31, 2000, Com21 had a total of 525 full-time employees. Of
the total number of employees, 216 were in research and development, 98 in
marketing and technical support, 86 in operations, 42 in sales, and 83 in
administration. Com21's employees are not represented by any collective
bargaining agreement for their employment by Com21, and Com21 has never
experienced an organized work stoppage.
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RISK FACTORS
You should carefully consider the risks described below before making a
decision to invest in Com21. You may lose all or part of your investment. The
risks and uncertainties described below are not the only ones we face.
WE MAY BE CHARGED FOR EXCESS INVENTORY HELD OR ON ORDER WITH OUR CONTRACT
MANUFACTURERS WHICH WOULD REDUCE OUR GROSS MARGINS.
Our contract manufacturers have obtained or have on order substantial
amounts of inventory to meet our revenues forecasts. If our future shipments do
not use up inventory, these contract manufacturers have the right to charge us
for inventory carrying costs and to bill us for any excess component and
finished goods inventory. Through June 30, 2001, we have been billed for
inventory carrying charges of approximately $1.4 million. As of June 30, 2001,
our two largest contract manufacturers had approximately $46.2 million of on
hand inventory and purchase commitments for materials and components used to
manufacture our products. We must fulfill these obligations even if demand for
our products is lower than we anticipate which could reduce our working capital
and have a negative impact on our financial position. We believe that within the
next 9 months, shipments of our modem products will create sufficient orders to
relieve our commitment to our contract manufacturers.
WE MAY BE UNABLE TO OBTAIN ADDITIONAL CAPITAL NEEDED TO OPERATE AND GROW OUR
BUSINESS, WHICH COULD WEAKEN OUR FINANCIAL CONDITION AND MAKE US UNABLE TO
DEVELOP OUR TECHNOLOGIES AND PRODUCTS.
We cannot assure you that any additional financing will be available to us
on acceptable terms, or at all, when required. As previously announced, we have
engaged Dain Rauscher Wessels to help us evaluate alternative forms of
financing. These alternatives may include the sale of additional stock,
additional lines of credit, and the divestiture of certain business assets. If
additional funds are raised by issuing equity securities, significant dilution
to existing stockholders may result given the current price of our common stock.
If additional funds are not available, we may be required to delay, scale back,
or eliminate one or more of our research and development or manufacturing
programs.
As part of an agreement with our current bank lender, we have agreed to
seek additional equity funding and to replace the $7,500,000 revolving line of
credit by September 28, 2001. We are seeking replacement funding with other
financial institutions in order to meet our agreement with the bank. In light of
our current financial situation and our history of operating losses, we expect
such financing to be available but it may be at less favorable terms than our
present financing arrangement. Future alternative forms of financing may also
restrict our operations or limit our ability to respond quickly to changes in
the market place.
As of June 30, 2001 we had an accumulated deficit of approximately $219.6
million. If we do not increase revenues, improve margins and reduce operating
expenses, we may also incur net losses during future quarters. Because of a
decline in our revenues in the fourth quarter of 2000, we introduced measures to
reduce operating expenses that included reducing our workforce in December 2000
and February 2001, the closure of our Maryland development center (formerly
BitCom) and the wireless business unit both in April 2001, and the spin-off our
voice product division (formerly GADline). These measures resulted in a $67.4
million restructuring charge recorded in the second quarter of 2001. Management
continues to monitor market conditions to assess the need to take further
action, if necessary. Any subsequent actions may result in additional work force
reductions, restructuring charges, discontinuation of product lines, and
provisions for impairment of long-lived assets which could harm our results of
operations and stock price.
OUR REVENUES IN ONE OR MORE FUTURE PERIODS ARE LIKELY TO FLUCTUATE SIGNIFICANTLY
AND MAY FAIL TO MEET OR EXCEED THE EXPECTATIONS OF SECURITIES ANALYSTS OR
INVESTORS.
Our operating results are likely to fluctuate significantly in the future
on a quarterly and an annual basis due to a number of factors, many of which are
outside our control. Supply of components, delays in getting new products into
high volume manufacturing, and manufacturing or testing constraints could result
in delays in the delivery of products and impact revenues and gross margins.
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Total revenues for any future quarter are difficult to predict. Delays in
the product distribution schedule of one or more of our cable operator customers
would likely reduce our operating results for a particular period.
Factors that could cause our revenues to fluctuate include:
- pressure to reduce prices;
- variations in the timing of orders and shipments of our products;
- variations in the size of orders by our customers;
- new product introductions by us or by competitors;
- delays certifying standards-based products;
- general economic conditions and economic conditions specific to the cable
and electronic data transmission industries;
- cable operators' financial ability to purchase our products; and
- delays in obtaining CableLabs and regulatory approvals necessary to sell
our products.
FLUCTUATIONS IN OUR STOCK PRICE COULD IMPACT OUR RELATIONSHIPS WITH EXISTING
CUSTOMERS AND DISCOURAGE POTENTIAL CUSTOMERS FROM DOING BUSINESS WITH US.
Fluctuations in our stock price could lead to a loss of revenues due to our
inability to engage new customers and vendors and to renew contracts with our
current customers and vendors. Existing and potential customers and vendors may
perceive our fluctuating stock price as a sign of instability and may be
unwilling to do business with us. If this were to continue to occur, our
business, results of operations and financial condition could be harmed.
OUR GROSS MARGIN IN ONE OR MORE FUTURE PERIODS IS LIKELY TO FLUCTUATE
SIGNIFICANTLY AND MAY CAUSE OPERATING RESULTS TO FALL BELOW THE EXPECTATIONS OF
ANALYSTS AND INVESTORS.
Our operating results are impacted significantly by our ability to improve
and sustain gross margins. The factors which impact gross margins and cause them
to fluctuate from quarter to quarter include:
- pressures to reduce prices;
- changes in the cost of inventory;
- the sales mix within a product group, especially between proprietary and
DOCSIS modems;
- component prices we secure from our vendors;
- the average selling prices of our products;
- the effectiveness of our cost reduction efforts;
- the sales mix between our headend equipment and cable modems; and
- the volume of products manufactured.
Additionally, our inability to reduce inventory levels may result in
substantial inventory-related charges including marking component inventory to
current market prices because of falling component prices, and significant
excess and obsolescence inventory write-offs because of slow moving inventory.
A reduction in gross margins would harm our operating results and reduce
the amount of cash flow generated from operations. Additionally, if operating
results did not satisfy the expectations of analysts or investors, the trading
price of our common stock would likely decline.
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WE MUST REDUCE THE COST OF OUR CABLE MODEMS TO REMAIN COMPETITIVE.
Some of our competitors have assets and annual revenues that far exceed
ours and because of their financial status are able to offer cable modem
products at lower prices than we can offer cable modems. As headend equipment
becomes more widely distributed, the price of cable modems and related equipment
will continue to decrease. In particular, the adoption of industry standards,
such as the data-over-cable service interface specification, or DOCSIS, standard
in North America, has caused increased price competition for cable modems. To
remain competitive, we may have to lower the price of our modems in anticipation
of planned product cost reductions of our DOCSIS modems. We may not be able to
continually reduce the costs of manufacturing our cable modems or to secure
component parts at a low enough cost to enable us to lower our modem prices to
compete effectively. As we perform on our cost reduction program, we may not be
able to continue to certify our DOCSIS modems in a timely manner by various
standards bodies including CableLabs. If we are unable to continue to reduce the
manufacturing costs of our cable modems, our gross margin and operating results
could be harmed.
WE HAVE A SHORT OPERATING HISTORY, HAVE NOT MADE A PROFIT AND EXPECT TO INCUR
LOSSES IN THE FUTURE.
We have not made a profit, and we expect to continue to operate at a loss
through fiscal year 2001. To achieve and subsequently maintain profitable
operations, we must successfully design, develop, test, manufacture, introduce,
market and distribute products on a broad commercial basis and secure higher
revenues and gross profits and contain our operating expenses. Our future
revenue will depend on a number of factors, many of which are beyond our
control. These factors include our ability to:
- reduce prices;
- manufacture products at acceptable quality standards;
- have product available when our customers need it;
- meet industry standards;
- respond to technology change; and
- have a strong competitive advantage.
Due to these factors, we cannot forecast with a degree of accuracy what our
revenues will be or how quickly cable operators will adopt our systems and buy
our cable modems. If we do not generate sufficient revenues and gross margins,
we may not achieve, or be able to sustain, profitability.
OUR FUTURE SUCCESS WILL DEPEND IN PART UPON OUR ABILITY TO ENHANCE OUR EXISTING
PRODUCTS AND TO DEVELOP AND INTRODUCE, ON A TIMELY BASIS, NEW PRODUCTS AND
FEATURES THAT MEET CHANGING CUSTOMER REQUIREMENTS AND EMERGING INDUSTRY
STANDARDS.
The market for cable modem systems and products is characterized by rapidly
changing technologies and short product life cycles. Our future success will
depend in large part upon our ability to:
- identify and respond to emerging technological trends in the market;
- develop and maintain competitive products;
- enhance our products by adding innovative features that differentiate our
products from those of competitors;
- bring products to market on a timely basis at competitive prices; and
- respond effectively to new technological changes or new product
announcements by others.
The technological innovations required for us to remain competitive are
inherently complex, require long development cycles, are dependent in some cases
on sole source suppliers and require us, in some cases, to license technology
from others. If our product development and enhancements take longer than
planned, the availability of products would be delayed. We must continue to
invest in research and development to attempt
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to maintain and enhance our existing technologies and products, but we may not
have the funds available to do so. Even if we have sufficient funds, these
investments may not serve the needs of our customers or be compatible with
changing technological requirements or standards. Most costs must be incurred
before we can determine the technological feasibility or commercial viability.
In addition, revenues from future products or product enhancements may not be
sufficient to recover the development costs incurred by these products or
enhancements.
We may not be successful in managing the transition from our current
products to our new and enhanced products. Product transitions contain a number
of inherent risks including obsolescence of product inventory, unavailability of
product as inventory of existing product is exhausted before availability of new
product, market acceptance of new products, undetected defects in new products,
and availability of components and parts in new products. If we are unable to
successfully manage the risks of the release and transition of new and enhanced
products, our revenues would be reduced.
THE MARKET IN WHICH WE SELL OUR PRODUCTS IS CHARACTERIZED BY MANY COMPETING
TECHNOLOGIES, AND THE TECHNOLOGY ON WHICH OUR PRODUCT IS BASED MAY NOT COMPETE
EFFECTIVELY AGAINST OTHER TECHNOLOGIES.
There are many different methods of getting high speed Internet access to
the end customers. These methods include:
- Regular dial up connection -- using a telephone line and the average 28K
or 56K modem;
- Digital subscriber line/asymmetric digital subscriber line -- a digital
high-speed modem connection offered by telephone companies, this is also
known as DSL or ADSL;
- Cable modems -- high-speed modem connections offered by cable television
companies;
- Wireless -- high-speed wireless local loop connections that work similar
to cell phones (digital subscriber line/asymmetric digital subscriber
line and cable modems can operate in a wireless environment); and
- Fiber optics -- strands of very pure glass capable of carrying enormous
volumes of data and voice traffic.
Because of the widespread reach of telephone networks and the financial
resources of telephone companies, competition from telephone-based solutions is
expected to be intense. Cable modem technology may not be able to compete
effectively against wireline or wireless technologies. Significant market
acceptance of alternative solutions for high-speed data transmission could
decrease the demand for our products if these alternatives are viewed as
providing faster access, greater reliability, increased cost-effectiveness or
other advantages.
OUR MARKET IS HIGHLY COMPETITIVE AND HAS MANY ESTABLISHED COMPETITORS.
The market for our products is intensely competitive, rapidly evolving and
subject to rapid technological change. Our competitors include Motorola, Inc.,
Toshiba America, Inc., 3Com Corporation, RCA/Thomson, Scientific Atlanta, Inc.,
Ericsson, Terayon Communication Systems, Cisco Systems, Inc., and Nortel
Network, Inc.
We believe that our business is affected by the following competitive
factors:
- costs;
- ease of installation;
- technical support and service;
- breadth of product line;
- conformity to industry standards; and
- implementation of additional product features and enhancements.
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Many of our existing and potential competitors have been operating longer,
have better name recognition, more established business relationships and
significantly greater financial, technical, marketing and distribution resources
than we do. These competitors may undertake more extensive marketing campaigns,
adopt more aggressive pricing policies, undertake more vendor financing programs
or longer customer payment cycles and devote substantially more resources to
developing new or enhanced products than we do. Some competitors may sell their
modems at below cost to reduce excess inventories causing severe price
competition.
SUPPLY OF OUR PRODUCTS MAY BE LIMITED BY OUR ABILITY TO FORECAST DEMAND
ACCURATELY.
Our customers have increasingly been requiring us to ship product upon
ordering instead of submitting purchase orders far in advance of expected
shipment dates. This practice requires us to keep inventory on hand for
immediate shipment. Any significant cancellations or deferrals could adversely
affect our business by slowing our growth and decreasing our revenues.
Additionally, cancellations or deferrals could cause us to hold excess
inventory, which could reduce our profit margins and restrict our ability to
fund our operations. In particular, increases in inventory could cause a harmful
effect on operations if this inventory is not used or becomes obsolete. This
risk could be realized in inventory write-downs in any given period.
WE MAY BE SUBJECT TO PRODUCT RETURNS AND PRODUCT LIABILITY CLAIMS DUE TO DEFECTS
IN ITS PRODUCTS.
Our products are complex and may contain undetected defects, errors, design
deficiencies, or may have been manufactured incorrectly. Our products have
contained errors in the past and may contain errors in the future. As part of
our focus on customer support, we are evaluating a manufacturing error in one of
our cable modem products. We plan to test this product to determine the rate of
failure and, if necessary, we may repair a number of units. We have not yet
determined the potential costs of repairing these products. We believe this is
an issue with the manufacturing process of one of our contract manufacturers.
However, if we are not successful in negotiating with our contract manufacturer
to cover these costs, we may be subject to additional costs to repair or replace
these products in future periods. Defects, errors, or failures in our other
products could result in delayed shipments, returned products, and loss or delay
of market acceptance of our products. We could incur costs or losses in excess
of amounts that we have reserved for these events. Although we have not
experienced any product liability claims, due to the highly technical nature of
our products, such a risk exists. A successful product liability claim brought
against us could impair our business, operating results and financial condition
by forcing us to use cash and personnel resources. This would limit our ability
to grow the company and would decrease our revenues.
OUR STOCK PRICE IS HIGHLY VOLATILE AND BROAD MARKET FLUCTUATIONS MAY ADVERSELY
AFFECT THE MARKET PRICE OF OUR COMMON STOCK.
The trading price of our common stock has fluctuated significantly since
our initial public offering in May 1998. The common stock price has fluctuated
between $17.75 per share and $.76 per share in the last twelve month period. The
price of our common stock could continue to be subject to wide fluctuations in
response a variety of factors including:
- variations in quarterly earnings;
- announcements of technological innovations or new products by us or our
competitors;
- announcements by certification and standards bodies;
- the state of Com21's patents or proprietary rights; and
- changes in financial estimates by securities analysts.
Additionally, the stock market is volatile. This volatility has
particularly affected the prices of equity securities of many high technology
companies and, often, has been unrelated or disproportionate to the operating
performance of these companies. Our stock price has declined significantly and
our stock price may continue to decline because of these broad market and
industry factors, regardless of our actual operating
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performance. The broad market fluctuations may lower the market price of our
common stock. Additionally, we may choose to structure acquisitions or other
transactions by issuing additional common stock, or warrants or options to
purchase our common stock that would dilute common stock outstanding. Although
management believes these types of transactions will increase the overall
long-term value of Com21, these transactions may initially decrease the market
price of our common stock.
WE MAY NOT BE ABLE TO MAINTAIN OUR LISTING ON THE NATIONAL MARKET.
Our common stock is currently listed on the Nasdaq National Market. We must
satisfy a number of requirements to maintain its listing on the Nasdaq National
Market, including maintaining a minimum bid price for our common stock of $1.00
per share. As of August 24, 2001, the closing price of our common stock was
$.80. If the common stock loses its Nasdaq National Market status, it would
likely trade on the Over the Counter Bulletin Board maintained by Nasdaq, which
is viewed by most investors as a less desirable, less liquid marketplace.
WE MAY BE SUBJECT TO ADDITIONAL CREDIT RISK IN THE FORM OF TRADE ACCOUNTS
RECEIVABLE.
Our standard credit terms are net 30 days from the date of shipment, and we
do not require collateral or other security to support customer receivables. We
may require letters of credit from a customer before shipping an order if we
determine that the customer has not proven itself to be creditworthy. Due to the
overall market decline during the second half of 2000, we have had difficulties
in receiving payment within our net 30 day payment terms resulting in an
increase in the number of days of sales outstanding as compared to the first
half of 2000. Our days of sales outstanding increased from 57 days at June 30,
2000 to 85 days at June 30, 2001.
WE ARE DEPENDENT ON KEY PERSONNEL AND THE SUCCESSFUL PRODUCT MARKETING AND
DEVELOPMENT ACTIVITIES OF OUR PROPRIETARY PRODUCTS IN OUR CORK, IRELAND
FACILITY.
Our future operating results depend greatly upon the continued contribution
of key technical and senior management personnel. Future operating results also
depend on the ability to attract and retain these specially qualified
management, manufacturing, quality assurance, engineering, marketing, sales, and
support personnel. Competition for these personnel is intense, and we may not be
successful in attracting or retaining these personnel. Only a limited number of
persons with the requisite skills to serve in these positions may exist and it
may be increasingly difficult for us to hire these personnel. However, there is
less competition for these skilled workers in other countries. In February 2001,
we began, and as of the end of June 2001 we have completed, the transfer of the
research and development, product management and marketing functions for the
proprietary ComUNITY(R) Access product line to our facility in Cork, Ireland. We
made this transition to take advantage of the greater availability of qualified
personnel in Cork to support this product line. However, the loss of any key
Cork employee with technical, marketing or support knowledge may affect our
ability to provide timely development and support activities for the ComUNITY(R)
Access product line.
WE MAY NOT BE ABLE TO PRODUCE SUFFICIENT QUANTITIES OF OUR PRODUCTS BECAUSE WE
DEPEND ON THIRD-PARTY MANUFACTURERS, THEIR SUPPLIERS AND ORIGINAL EQUIPMENT
MANUFACTURERS AND HAVE LIMITED MANUFACTURING EXPERIENCE.
We contract for the manufacture of cable modems and integrated circuit
boards on a turnkey basis. Our future success will depend, in significant part,
on our ability to have others manufacture our products cost-effectively, in
sufficient volumes and to meet production and delivery schedules. Dependence on
third-party manufacturers presents a number of risks, including:
- not taking sufficient credit exposure on new product builds;
- lowering available credit limits;
- not providing sufficient payment terms;
- failure to meet delivery schedules;
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- not building product which meet our quality standards;
- less than satisfactory manufacturing yields and costs;
- building product to meet our demand;
- difficulty in planning mix of units to be produced; and
- the potential misappropriation of our intellectual property if the
manufacturer were to market our products as its own.
Any manufacturing disruption could impair our ability to fulfill orders. We
have no long-term contracts or arrangements with any of our vendors that
guarantee product availability, the continuation of particular payment terms, or
the extension of credit limits. In the first half of 2000, we experienced supply
problems for components including flash memory, which limited our ability to
fulfill customer orders and had the effect of decreasing our revenues for that
period. We may also experience manufacturing or supply problems in the future.
We are dependent on our manufacturers to secure components at favorable prices,
and in sufficient volume. If our contract manufacturers fail to perform in any
of these areas, it could harm our relationships with customers. Failure to
obtain these components and supply our customers with product could decrease our
revenues.
WE MAY NOT BE SUCCESSFUL IN ATTRACTING AND RETAINING KEY PERSONNEL AND
MANAGEMENT.
Our future success depends, to a significant extent, on the ability of our
management to operate effectively, both individually and as a group. We must
retain and attract high caliber personnel. Competitors and others have in the
past and may in the future attempt to recruit our employees. We do not have
employment contracts with any of our key personnel. We have experienced higher
turnover recently than in prior years and over the past five months have had to
lay off a number of employees, which may impact employee morale. We do not
maintain key person life insurance on key personnel. The loss of the services of
any of our key management or personnel, the inability to attract or retain
qualified personnel in the future or delays in hiring required personnel,
particularly engineers, could harm our business by slowing research and
development efforts and delaying product development programs.
OUR STANDARDS-BASED PRODUCTS ARE SUBJECT TO EVOLVING INDUSTRY STANDARDS. IF OUR
PRODUCTS DO NOT COMPLY WITH ANY STANDARD THAT ACHIEVES MARKET ACCEPTANCE,
CUSTOMERS MAY REFUSE TO PURCHASE OUR PRODUCTS.
Early cable modem technology was not interoperable, meaning cable modem
products from different cable modem developers would not work together. For
different companies' products to work together, each company must meet an
established standard. For each standard, a certification body is established to
certify that a product does meet the standard. Cable operators are demanding
certified standards-based cable modem products for two primary reasons. First, a
certified product has proven to have the functionality they want. Second,
certified interoperable products give cable operators the freedom to buy
products from a variety of cable modem manufacturers, creating increased
competition and driving down prices.
Different standards are emerging in different parts of the world. In North
America, the DOCSIS standard has achieved substantial market acceptance. Cable
Television Laboratories, or CableLabs, performs certification for this DOCSIS
standard. The DOCSIS standard is an evolving standard and becomes more complex
and more difficult to comply with as it evolves. As we continue to enhance and
develop our DOCSIS products to meet the evolving DOCSIS standards, we may incur
additional costs. Additionally, we cannot assure you that enhancements or new
DOCSIS products will be CableLabs certified. Even if these products are
certified, we cannot assure you that they will be accepted by the market. In
Europe, there is movement by some cable operators towards either a digital video
broadcast or DVB standard or a European DOCSIS standard. We have developed DVB
cable modems, but we cannot assure you that these products will meet the
evolving standards or receive certification. Additionally, we cannot assure you
that if an European DOCSIS standard obtains widespread acceptance, we will be
able to produce a cable modem to meet these specifications. The emergence or
evolution of industry standards, either through adoption by official standards
committees or widespread use by cable operators or telephone companies could
require us to redesign our
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products. The development of new competing technologies and standards increases
the risk that current or new competitors could develop products that would
reduce the competitiveness of our products. If any of these new technologies or
standards achieve widespread market acceptance, any failure by us to develop new
products or enhancements, or to address these new technologies or standards,
could harm our business.
THE ADOPTION OF STANDARDS COULD RESULT IN LOWER SALES OF OUR PROPRIETARY
PRODUCTS.
The widespread adoption of DOCSIS, DVB, European DOCSIS or other standards
could cause aggressive competition in the cable modem market and result in lower
sales of our proprietary products which do not conform to these standards. As
cable operators move to standards based products, sales of our proprietary
headend products, and revenues from licensing of its network management software
could decrease if our products do not meet the appropriate standards. This could
reduce our gross margin and our operating results.
WE RELY ON INDIRECT DISTRIBUTION CHANNELS FOR OUR PRODUCTS AND NEED TO DEVELOP
ADDITIONAL DISTRIBUTION CHANNELS.
Today, cable operators and systems integrators purchase cable modems from
vendors through direct and indirect sales channels. In North America, due to the
DOCSIS standard achieving widespread market acceptance, we anticipate that the
North American cable modem market may at some point shift to a consumer purchase
model. If this occurs, we will likely sell more of our cable modems directly
through consumer sales channels. Our success will be dependent on our ability to
market effectively to end users, to establish brand awareness, to set up the
required channels of distribution and to have cable operators' reference sell
our products. We have begun to establish new distribution channels for our cable
modems. We may not have the capital required or the necessary personnel, or
expertise to develop these distribution channels, which could materially
adversely affect our business, operating results and financial condition. As
large consumer electronics companies enter the cable modem market, their
well-established retail distribution capabilities and brand would provide them
with a significant competitive advantage.
IF WE FAIL TO ADEQUATELY PROTECT OUR PROPRIETARY RIGHTS WE MAY BE UNABLE TO
SUCCESSFULLY COMPETE IN OUR INDUSTRY.
We depend on our proprietary technology. To protect our intellectual
property rights we rely on a combination of patent, copyright, trademark and
trade secret laws, and contractual restrictions on disclosure. However, any of
our intellectual proprietary rights could be challenged by third parties. Our
means of protecting our proprietary rights in the U.S. or abroad may not be
adequate. An unauthorized party may attempt to copy aspects of our products or
to obtain and use trade secrets or other proprietary information. Additionally,
the laws of some foreign countries do not protect our proprietary rights as
fully as do the laws of the U.S. issued patents may not preserve our proprietary
position. Even if they do, competitors or others may develop technologies
similar to or superior to ours. If we do not enforce and protect our
intellectual property, our business will be harmed. Also, due to the rapid pace
of technological change in the cable modem industry, many of our products rely
on key technologies developed by third parties, and we may not be able to
continue to obtain licenses from these third parties on favorable terms, if at
all.
OUR PRODUCTS MAY INFRINGE ON THE INTELLECTUAL PROPERTY RIGHTS OF THIRD PARTIES,
WHICH MAY RESULT IN LAWSUITS AND PROHIBIT US FROM SELLING OUR PRODUCTS.
Third parties may claim that we are infringing on their intellectual
property. Even if we do not believe that our products are infringing third
parties' intellectual property rights, these claims can be time-consuming,
costly to defend and divert management's attention and resources away from our
business. Claims of intellectual property infringement might also require us to
enter into costly royalty or license agreements. If we cannot or do not license
the infringed technology or substitute similar technology from another source,
our business could suffer. We may initiate claims or litigation against third
parties for infringement of our proprietary rights or to establish the validity
of our proprietary rights. Litigation to determine the validity of any claims,
whether or not the litigation is resolved in our favor, could result in
significant expense to us and
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divert the efforts of our technical and management personnel from productive
tasks. If there is an adverse ruling against us in any litigation, we may be
required to pay substantial damages, discontinued the use and sale of infringing
products, expend significant resources to develop non-infringing technology or
obtain licenses to infringing technology. Our failure to develop or license a
substitute technology could prevent us from selling our products.
OUR FAILURE TO MANAGE OUR OPERATIONS COULD SLOW OUR GROWTH RATE OR GIVE RISE TO
INEFFICIENCIES WHICH WOULD REDUCE OUR REVENUES.
To drive costs out of our business and improve our operating efficiencies,
we may be required to:
- improve existing and implement new operational, financial and management
information controls, reporting systems and procedures;
- hire, train and manage additional qualified personnel;
- expand and upgrade our core technologies and;
- effectively manage multiple relationships with our customers, suppliers
and other third parties.
Additionally, we must be able to continue to recruit and retain personnel,
and failure to do so would result in our not achieving our operational goals.
Also, our management team may not be able to achieve the rapid execution
necessary to fully exploit the market for our products and services. In the
future, we may experience difficulties meeting the demand for our products and
services. We cannot assure you that our systems, procedures or controls will be
adequate to support the anticipated growth in our operations or that we will be
able to achieve the operational efficiencies needed to be competitive. Any
failure could materially cause us not to meet our operating revenues and cost
objectives and weaken our financial position.
WE DEPEND ON STRATEGIC RELATIONSHIPS, AND IF WE ARE NOT ABLE TO FIND AND
MAINTAIN THESE RELATIONSHIPS, WE MAY NOT BE ABLE TO DEVELOP OUR TECHNOLOGIES OR
PRODUCTS WHICH COULD SLOW OUR GROWTH AND DECREASE OUR REVENUES.
Our business strategy relies to a significant extent on strategic
relationships with other companies. These relationships include:
- software license arrangements for our network management system;
- technology licensing agreements;
- development arrangements and agreements with original equipment
manufacturers for advanced products;
- marketing arrangements with system integrators and others; and
- collaboration agreements with suppliers of routers and headend equipment
to ensure the interoperability of our cable modems with these suppliers'
products.
The failure to maintain, develop or replace them if any of these
relationships are terminated and to renew or extend any license agreements with
a third party may harm our business.
OUR CUSTOMER BASE IS CONCENTRATED AND THE LOSS OF ONE OR MORE OF ITS CUSTOMERS
COULD CAUSE ITS BUSINESS TO SUFFER.
A relatively small number of customers have accounted for a large part of
our revenues, and we expect that this trend will continue. In the second quarter
of 2001, our top five customers accounted for 57% of total revenues. We expect
that our largest customers in the future could be different from our largest
customers today due to a variety of factors, including customers' distribution
schedules and budget considerations. Additionally, some of our systems
integrators could develop and manufacture products that compete with our
products and therefore could no longer distribute our products. Because a
limited number of companies account for a majority of our prospective customers,
our future success will depend upon our ability to establish and maintain
relationships with these companies. We may not be able to retain our current
accounts
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or to obtain additional accounts. Both in the U.S. and internationally, a
substantial majority of households passed by cable access are controlled by a
relatively small number of companies. The loss of one or more of our customers
or our inability to successfully develop relationships with other significant
cable operators could cause our business to suffer.
WE ARE SUBJECT TO RISKS OF OPERATING IN INTERNATIONAL MARKETS.
For the second quarter of 2001, international sales accounted for 69% of
total revenues. We intend to enter new international markets, and we expect that
a significant portion of our sales will continue to be in international markets.
Because we sell primarily through systems integrators, a successful expansion of
our international operations and sales may require us to develop relationships
with new international systems integrators and distributors. If we are unable to
identify, attract or retain suitable international systems integrators or
distributors, we may not be able to successfully expand our international
operations. To increase revenues in international markets, we will need to
continue to establish foreign operations, to hire additional personnel to run
these operations and to maintain good relations with our foreign systems
integrators and distributors. If we are unable to successfully do so, our growth
in international sales will be limited which would reduce our operating results.
Additionally, international operations involve a number of risks not typically
present in domestic operations, including:
- changes in regulatory requirements;
- costs and risks of distributing system in foreign countries;
- licenses, tariffs and other trade barriers;
- political and economic instability;
- difficulties in staffing and managing foreign operations;
- potentially adverse tax consequences;
- difficulties in obtaining governmental approvals for products;
- the burden of complying with a wide variety of complex foreign laws and
treaties;
- the imposition of legislation and regulations on the import and export of
high technology products;
- fluctuations in foreign currency; and
- the possibility of difficult accounts receivable collections.
THE INDUSTRY IN WHICH WE COMPETE IS SUBJECT TO CONSOLIDATION.
There has been a trend toward industry consolidation for several years,
which is expected to continue through 2001. We expect this trend toward industry
consolidation to continue as companies attempt to strengthen or hold their
market positions in an evolving industry. We believe that industry consolidation
may provide increasingly stronger competitors that are better able to compete.
This could lead to more variability in operating results as we compete to be a
vendor solution and could harm our business, operating results and financial
condition. We believe that industry consolidation may lead to fewer possible
customers. If we are unable to maintain our current customers or secure
additional customers, our business could decrease.
OUR BUSINESS OPERATIONS MAY BE IMPACTED BY THE CALIFORNIA ENERGY CRISIS.
Our principal executive offices are located in the Silicon Valley in
northern California. California has been experiencing an energy crisis that has
resulted in disruptions in power supply and increases in utility costs to
consumers and businesses throughout the state. Should the energy crisis
continue, we together with many other Silicon Valley companies, may experience
power interruptions and shortages and be subject to significantly higher costs
of energy. Although we have not experienced any material disruption to our
business to date, if the energy crisis continues and power interruptions or
shortages occur in the future, they may cause a decline in our business.
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THE LOCATION OF OUR FACILITIES IS SUBJECT TO THE RISK OF EARTHQUAKES AND OTHER
NATURAL DISASTERS.
Our corporate headquarters, including some of our research and development
operations and our in-house manufacturing facilities, are located in the Silicon
Valley area of northern California, a region known for seismic activity. A
significant natural disaster in the Silicon Valley, such as an earthquake or
power loss, could halt our business, weaken its financial condition and create
disappointing operating results.
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PART II
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
You should read the following discussion in conjunction with Com21's
consolidated financial statements and notes to consolidated financial
statements. The results described below are not necessarily indicative of the
results to be expected in any future period. Some of the statements in this
discussion and analysis, including statements about our strategy, financial
performance and revenue sources, are forward-looking statements based on current
expectations and entail various risks and uncertainties that could cause actual
results to differ materially from those expressed in the forward-looking
statements, including those described in "Risk Factors" and elsewhere in this
annual report on Form 10-K/A.
OVERVIEW
We are a leading global supplier of system solutions for the broadband
access market. Our products enable domestic and international cable operators to
provide high-speed, cost-effective Internet access, reduce operating costs, and
maximize revenue opportunities in a variety of subscriber markets -- including
residential, corporate telecommuters, and small businesses. We develop,
manufacture and sell headend equipment, subscriber cable modems, and network
management software, all designed to support Asynchronous Transfer Mode (ATM),
Data Over Cable System Interface Specification (DOCSIS), Euro-DOCSIS and Digital
Video Broadcasting (DVB) industry standards. In the North American market, we
primarily sell directly to cable operators and systems integrators.
Internationally, we sell primarily to systems integrators, who in turn sell to
cable operators.
During the first half of 2000, cable modem manufacturers experienced
shortages and long lead times for components such as flash memory and
capacitors. Due to these shortages, the production of cable modems was
constrained. Com21 placed substantial orders for component material to ensure we
would meet our anticipated build plan, especially for our Doxport 1110 modem
that we commenced shipping late in the third quarter of 2000. During the fourth
quarter of 2000, the order rates and corresponding revenues dropped sharply
resulting from lower demand from cable operators. This slow down in sales in the
fourth quarter of 2000 caused our inventory levels to increase substantially.
Additionally, cable operators began to lengthen their accounts payable payments
cycles as they more tightly managed their working capital. Although we believe
that distribution of cable modems will continue to increase as subscriber growth
for high speed access is forecasted to increase in 2001, some cable operators
have delayed ordering new equipment in early 2001 in order to utilize the
existing levels of inventory. Due to this oversupply of inventory by
manufacturers, price competition has become more intense which has resulted in
lower average selling prices and gross margin pressures. On a forward looking
basis we believe these factors are likely to depress revenues, and are likely to
cause inventory levels to remain higher than historical levels due to lower
shipment rates. We anticipate that accounts receivable balance will remain at a
relatively high level compared to historical levels as cable operators manage
working capital tightly. With the slow down in shipments our contract
manufactures have begun charging us for the carrying cost of inventory.
RECENT DEVELOPMENTS
In January 2001, we announced a number of programs to reduce our operating
expenses. These included the termination of a project to develop a DVB headend,
the focusing of our engineering efforts on fewer projects and the elimination of
some marketing programs. This resulted in a reduction in personnel in these
areas along with some administrative and support functions. We also transferred
certain engineering and marketing efforts to lower cost development centers in
Ireland and Maryland. Additionally, we announced that we had engaged a placement
agent to help us spin out our wireless group into a separate minority owned
subsidiary that would be separately funded. Furthermore, we were engaged in
working with a European company on a joint venture development contract.
Additionally, we announced that we have engaged Dain Rauscher Wessels to assist
us to evaluate working capital alternatives.
18
21
A restructuring charge of $67.4 million was taken in the second quarter of
2001 resulting from the spin-off of Com21's Voice Systems Division, the closure
of the Wireless Division and Maryland Development Center, the consolidation of
facilities at the Milpitas, California headquarters, and the costs related to
the recent workforce reduction. Approximately $2.3 million of the restructuring
charge was disbursed in cash. An additional $4.8 million related to vacated
facilities is expected to be disbursed over the next 18 quarters.
In the future, we may continue to reduce operating expenses to accommodate
decreased revenues or gross margins, or discontinue some development programs
and product lines. This could result in the reductions in work force,
restructuring charges, write-offs of inventory or provisions for the impairment
of long-lived assets. Any of these factors could affect our financial results of
operations or stock price.
On March 7, 2001, we entered into a definitive agreement to complete a $7.7
million private equity financing. In a subscription agreement, dated February
28, 2001, we sold 2,450,000 shares of unregistered common stock at a price of
$3.12 per share and a warrant to acquire up to an additional 2,450,000 shares of
Com21's common stock at $9.10 per share. The offer and sale of these shares were
not registered under the Securities Act of 1933, as amended, under the exemption
provided by Regulation D and these securities may not be offered or sold in the
United States absent registration or an applicable exemption from registration
requirements. The warrant is immediately exercisable and remains exercisable for
a period of seven years from the date of issuance.
ACQUISITIONS
GADline
On July 3, 2000, under a share purchase agreement (the "GADline Agreement")
dated April 18, 2000 by Com21 and GADline, Ltd. (GADline), an Israeli company,
GADline was merged with and into Com21. GADline develops, manufactures and
markets fully managed networking solutions that deliver high-speed data and
telephony services over a hybrid fiber coaxial infrastructure.
Under the GADline Agreement, the shareholders of GADline received an
aggregate of 2,281,750 shares of Com21 common stock and all outstanding GADline
options converted into options to purchase 168,193 shares of Com21 common stock.
On January 9, 2001, GADline met certain predefined development milestones
defined in the GADline Agreement which resulted in the issuance of an additional
175,124 shares of Com21 common stock valued on the measurement date at $963,000.
This amount will be added to goodwill in the first quarter of 2001 and be
amortized over the remaining useful life of the intangible asset. An additional
174,876 shares of Com21 common stock may be issued to GADline shareholders upon
completion of predefined development milestones. The fair value of the
contingent shares will be measured upon achievement of the predefined
development milestones and will also be accounted for as additional purchase
price. We also assumed certain operating assets and liabilities of GADline. The
acquisition was treated as a purchase for accounting purposes. The total
purchase price as of July 3, 2000 was allocated to the assets acquired and
liabilities assumed based on their respective fair values as follows (in
thousands):
<Table>
Total purchase price:
Common stock issued...................................... $67,342
Stock options assumed.................................... 3,205
Acquisition expenses..................................... 3,060
-------
$73,607
=======
Purchase price allocation:
Fair market value of net tangible assets acquired at July
3, 2000............................................... $ 3,672
</Table>
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<Table>
<Caption>
ECONOMIC LIFE
-------------
Intangible assets acquired:
Customer base........................................ 239 3
Workforce-in-place................................... 1,564 5
Tradename............................................ 1,111 5
Core technology...................................... 9,114 5
Current technology................................... 6,038 5
In-process research & development.................... 8,823
Goodwill............................................. 43,046 5
-------
$73,607
=======
</Table>
We recorded a one-time charge of $8.8 million in the consolidated statement
of operations and comprehensive loss for 2000 for purchased in-process
technology related to a development project that had not reached technological
feasibility, had no alternative future use, and for which successful development
was uncertain. The in-process development project is an integrated network
solution for data and voice over Internet protocol. At the time of acquisition,
estimated costs to complete the development were $9.0 million. Management
expects that product being developed will become available for sale in fiscal
2001; however, we can not assure that these products will become available by
that time. To date, we have incurred expenses on the project of $10.6 million.
Failure to reach successful completion of this project could result in
impairment of the associated capitalized intangible assets and could require
Com21 to accelerate the time period over which the intangibles are being
amortized, which could impair our business, financial condition or results of
operations.
We utilized assumptions to determine the value of in-process technology
included several factors, including the following. First, an income approach
that focuses on the income producing capability of the acquired technology, and
best represents the present value of the future economic benefits which we
expected to derive from them. Second, we forecast net cash flows that we
expected might result from the development effort, using projections prepared by
Com21's management. Third, a discount rate of 25% was computed after analysis of
the risk of an investment in GADline which considered the implied rate of the
transaction and the weighted average cost of capital.
BitCom, Inc.
On July 6, 2000, pursuant to a share purchase agreement (the "BitCom
Agreement") dated June 22, 2000 by Com21 and BitCom, Inc. (BitCom), a Delaware
company with facilities in Maryland, BitCom was merged with and into Com21.
BitCom is an engineering consulting and development company specializing in the
fields of wired and wireless telecommunications, satellite, and networking
engineering.
Pursuant to the BitCom Agreement, we acquired all of the outstanding shares
of BitCom for an aggregate purchase price of $4.0 million in cash. Additionally,
we assumed 100,000 options to purchase BitCom stock. On January 3, 2001, certain
product development milestones defined in the BitCom Agreement were met
resulting in the issuance of an additional 50,000 shares of Com21 common stock
valued on the measurement date at $263,000. This amount will be recorded as
stock compensation in the first quarter of 2001. Com21 also assumed certain
operating assets and liabilities of BitCom. The acquisition was treated as a
purchase for
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accounting purposes. The total purchase price as of July 6, 2000 was allocated
to the assets acquired and liabilities assumed based on their respective fair
values as follows (in thousands):
<Table>
Total purchase price:
Cash.................................................. $4,000
Stock options assumed................................. 1,478
Acquisition expenses.................................. 200
------
$5,678
======
Purchase price allocation:
Fair market value of net tangible assets acquired of
BitCom at July 6, 2000............................. $ 256
ECONOMIC LIFE
Intangible assets acquired:
Workforce-in-place.................................... 536 5
Goodwill.............................................. 5,100 5
Deferred tax liabilities.............................. (214)
------
$5,678
======
</Table>
In connection with the BitCom acquisition, we granted 245,000 shares of
restricted common stock to former BitCom employees who have executed Employment
Agreements with Com21. The shares are released from restriction, in
proportionate amounts, at each of the three anniversary dates of the
acquisition. If an employee terminates prior to vesting, that employee's
restricted shares are subject to forfeiture. As of December 31, 2000, all shares
remained restricted. Com21 recorded a deferred compensation charge of
$6,049,000, as a separate component of stockholders' equity, for the fair value
of the common shares on the issuance date and will amortize the amount, net of
forfeitures, over the three-year vesting period. For the year ended December 31,
2000, $1,008,000 of compensation expense related to these awards was recorded in
the accompanying consolidated statement of operations and comprehensive loss.
RESULTS OF OPERATIONS -- YEARS ENDED DECEMBER 31, 1998, 1999, AND 2000
Total Revenues. Total revenues in 2000 increased by 103% to $194.0 million
as compared to $95.7 million in 1999. Our revenue growth was principally due to
growth in cable modem and headend revenues over the prior year. Unit sales of
all our cable modem products increased 181% from 1999, as we experienced strong
demand for our ATM and DOCSIS cable modems. Revenues for our headend products
increased 38% as we experienced continued strong demand for these products
especially in Europe. Cable modem sales accounted for 85% of total revenue in
2000 as compared to 78% of total revenues in 1999. Although we experienced
growth in revenues, Com21 did experience a sharp decrease in sales during the
fourth quarter of 2000 as compared to prior quarters due to an industry-wide
downturn in broadband equipment purchases as cable operators balanced
inventories. The average sales price of all cable modems declined during 2000.
Our prices decreased due to planned price reductions to meet pricing pressures
from competitors and due to the increased acceptance of our lower priced DOCSIS
products. We anticipate that the average sales price of modems will continue to
decline during 2001 due to competitive price pressures and the number of
suppliers competing for market share.
Total revenues increased by 99% to $95.7 million in 1999 as compared to
$48.1 million in 1998. Our revenue growth was principally due to the growth in
cable modem revenue over the prior year. Cable modem sales accounted for 78% of
total revenue in 1999 as compared to 56% of total revenue in 1998. The average
sales price of our cable modems declined during 1999, as expected. Our prices
decreased primarily due to increased price competition. The average sales price
of our headend equipment increased moderately during 1999 primarily due to the
mix of product sold.
Gross Margins. Gross margins decreased to 22% in 2000 from 36% in 1999. The
decrease in margins is due primarily to the rapid acceptance of the DOCSIS cable
modems especially in North America. DOCSIS cable modem shipments increased from
29,000 units or 10% of total Com21 modem shipments in 1999 to
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393,000 units or 50% of total Com21 modems shipped in 2000. The adoption of the
DOCSIS-based standard has caused considerable price pressure due to the number
of competitors in the marketplace.
During 2001 we anticipate continued pressure on margins due to the
following:
* Increased sales of our DOCSIS cable modems. As these lower margin modems
continue to become a higher percentage of our total revenues, we
anticipate our total margin percentage will decline.
* Competitive pricing offered by an increasing number of cable modem
suppliers entering the market. As the industry continues to move toward
standardization of technology we anticipate increased pricing pressure.
Gross margins decreased to 36% in 1999 from 39% in 1998. The decrease in
gross margin in 1999 was primarily attributable to an increase in sales of cable
modems as a percentage of total product sales and a shift away from our higher
margin software products.
Research and Development. Research and development expenses increased 63%
to $48.6 million in 2000 from $29.8 million in 1999. This increase in 2000 is
primarily due to higher consulting expenses, increases in personnel related
expenses in our Cork, Ireland development center, and a $2.5 million impairment
charge related to a development project, and the addition of engineering
headcount from our acquisitions of GADline and BitCom. Additionally, $1.3
million was incurred in 2000 due to the amortization of intangibles associated
with these acquisitions. In 2001, we anticipate that research and development
expenses will be less than the 2000 level by $14.0 million to $16.0 million.
This decline will be due to a reduced number of personnel and the elimination of
certain development programs as we refocus our development efforts on key
technology initiatives.
Com21 recorded a one-time charge of $8.8 million in the third quarter of
2000 for purchased in-process technology related to a development project that
had not reached technological feasibility, had no alternative future use, and
for which successful development was uncertain in connection with the
acquisition of GADline. There were no acquisition related charges in 1999.
Research and development expenses increased 50% to $29.8 million in 1999
from $19.9 million in 1998. The increase in 1999 is primarily due to increased
consulting and personnel related expenses related to product development.
Sales and Marketing. Sales and marketing expenses increased 79% to $29.1
million in 2000 from $16.3 million in 1999. The increase in 2000 is primarily
due to higher costs of increased personnel in the sales, marketing, and service
organizations. We increased sales personnel internationally strengthening our
sales presence in Asia and Latin America. We also increased our customer service
personnel to support the growth of our installed base of equipment and help
manage our growing number of customers. Marketing headcount and expenses
increased due to the acquisition of GADline in Israel, additional marketing and
advertising investments related to the introduction of new products, and general
corporate branding projects. In 2001, we anticipate that marketing expenses will
be less than the 2000 level by about $5.0 million to $7.0 million. This decline
will be due to personnel reductions and a decrease in expenditures on marketing
programs in connection with our effort to reduce operating expenses.
Sales and marketing expenses increased 58% to $16.3 million in 1999 from
$10.3 million in 1998. The increase in 1999 is primarily due to higher costs of
increased personnel in sales and marketing organizations. We increased sales
personnel internationally strengthening our sales presence in Europe, Asia and
Latin America, and domestically. We also increased our customer service
personnel to support the growth of our installed base of equipment and help
manage our growing number of customers. We added personnel to our marketing
department as we expanded our marketing programs both domestically and
internationally.
General and Administrative. General and administrative expenses increased
292% to $16.2 million in 2000 from $4.1 million in 1999. The increase in general
and administrative expenses was primarily related to the addition of new
personnel in Milpitas, the addition of administration headcount from our
acquisition of GADline, and investments in infrastructure. General and
administrative expenses included acquisition related charges of $5.0 million
related to the amortization of goodwill, intangibles and deferred stock
compensation.
22
25
In 2001, we anticipate that general and administrative expense will decline from
the fourth quarter 2000 level by about $600,000 to $1.0 million. This decline
will be due to personnel reductions and general decrease in expenses in
connection with our effort to reduce operating expenses.
General and administrative expenses increased 6% to $4.1 million in 1999
from $3.9 million in 1998. This increase is primarily attributable to increased
personnel in our finance and administrative organization. This was offset by a
decline in our legal fees for patent litigation, which was settled in January
1999.
Total Other Income, Net. Total other income, net decreased to $4.0 million
in 2000 from $5.1 million in 1999. This decrease was attributable to lower
interest income on a declining cash and investments balance during 2000 coupled
with $628,000 in foreign exchange losses.
Total other income, net increased to $5.1 million in 1999 from $2.2 million
in 1998. The increase was attributable to earnings on higher average cash and
investment balances during 1999 resulting from the net cash received of $62.8
million from the initial public offering of common stock in May 1998 and the net
cash received of $54.3 million from the secondary offering of common stock in
February 1999.
Income Taxes. Income tax expense for all years consisted solely of state
franchise taxes. We have not recorded any other income tax expense or benefit as
we have not had generated taxable income and as we have provided a full
valuation allowance against our deferred tax assets based on our evaluation of
the likelihood of realization of future tax benefits.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 2000, we had cash, cash equivalents and short-term
investments of $45.9 million of which $11.3 million is restricted for use under
two stand-by letters of credit. Of the restricted $11.3 million, $10.1 million
was issued to our primary contract manufacturer, Celestica, in response to
increased inventory levels and a reduction to our manufacturing build plan. The
remaining $1.2 million was issued to a sole source component vendor.
Net cash used in operating activities was $55.3 million in 2000. Cash used
in operating activities primarily resulted from outflows due to: a net loss of
$56.1 million; an increase in accounts receivable of $30.0 million due to the
decline in market conditions in the second half of 2000 which caused several
major customers to delay payments; and an increase in inventory of $25.0 million
which is a direct result of lower shipments in the fourth quarter of 2000 due to
the slower procurement of equipment by customers. The cash outflows were offset
by an increase in accounts payable of $33.8 million; and noncash activities
including stock compensation of $2.9 million, in-process research and
development of $8.8 million and a $2.5 million asset impairment charge.
Net cash provided by investing activities was $65.4 million in 2000. Cash
provided by investing activities was primarily attributable to net proceeds from
the sales and maturities of investments of $78.1 million offset by purchases
property and equipment of $11.9 million.
Net cash used in financing activities was $1.4 million. Cash provided by
financing activities consisted primarily of net proceeds from the issuance of
debt obligations of $6.3 million and net proceeds from the issuance of common
stock of $4.2 million. We used $11.3 million to support stand-by letters of
credit.
On March 7, 2001, we entered into a definitive agreement to complete a $7.7
million private equity financing. Under a subscription agreement, dated February
28, 2001, we sold 2,450,000 shares of unregistered common stock at a price of
$3.12 per share and a warrant to acquire up to an additional 2,952,250 shares of
Com21's common stock at $9.10 per share. The warrant is immediately exercisable
and remains exercisable for a period of seven years from the date of issuance.
During 1999 we had a net loss of approximately $10.3 million, and during
2000 we had a net loss of approximately $56.1 million. We may also incur net
losses during future periods. Due to a decline in our sales in the fourth
quarter 2000, we introduced measures to reduce operating expenses that included
reductions in our workforce in December, 2000 and February, 2001. Management
continues to monitor market conditions to assess the need to take further action
if necessary. Any subsequent actions may result in additional work
23
26
force reductions, restructuring charges, write-offs of inventory,
discontinuation of product lines, and provisions for impairment of long-lived
assets which could harm our results of operations and stock price. We are
currently evaluating several alternatives to improve liquidity and working
capital as required. These alternatives include the sale of additional stock,
additional lines of credit, and the divestiture of certain business assets.
There can be no assurance, however, that any additional financing will be
available to us on acceptable terms, or at all, when required.
At December 31, 2000, we had working capital of approximately $63.5
million. While we have not changed our credit, collections and delinquencies
policy, the market decline during the second half to 2000 caused us to have
difficulties in receiving payment with our normal terms of net 30 days. We
expect inventory levels to remain higher over the next three quarters as we
convert raw material to finished goods and then ship it to customers. We expect
that our investments in accounts receivable and inventories will continue to
represent a significant portion of working capital.
At December 31, 2000, we had $10,000,000 of principal outstanding under the
line of credit agreement which expires on November 30, 2001. Borrowings under
the line are secured by substantially all the assets of Com21 and bear annual
interest at the prime rate (9.25% at December 31, 2000) plus 0.25%, which is
payable monthly. The line expires on November 30, 2001 at which time all
outstanding borrowings and unpaid interest are due. The agreement requires us to
comply with certain financial covenants which include maintaining a minimum
tangible effective net worth of $85,000,000; a maximum debt-to-worth ratio of
0.75:1.00; minimum net profit of $1 measured quarterly with the exception of
first quarter 2001 of a maximum net loss of $7,500,000; and minimum net
liquidity of $30,000,000. At December 31, 2000 Com21 did not meet the minimum
tangible effective net worth, the maximum debt-to-worth ratio, the maximum
quarterly net loss and minimum liquidity covenants. A waiver for these
violations was obtained on February 28, 2001. On March 26, 2001, we entered into
an agreement that amends the financial covenants of the $20,000,000 revolving
line of credit. The amended financial covenants are as follows: maintaining a
minimum tangible effective net worth of $70,000,000; a maximum debt-to-worth
ratio of 1.00:1.00; a minimum quick ratio of 1.00:1.00; minimum net loss of
$11,000,000 excluding noncash charges and one time costs and expenses; and
minimum unrestricted cash of $5,000,000. At March 31, 2001, we did not meet the
maximum net loss covenant, as amended March 26, 2001. A waiver for this
violation was received on April 19, 2001. At June 30, 2001, we did not meet the
minimum tangible effective net worth, the maximum debt-to-worth and the maximum
net loss ($2,500,000 for the quarter ended June 30, 2001) covenants, as amended
March 26, 2001. A waiver for these violations was received on July 20, 2001.
In replacement of the waiver received on July 20, 2001, the bank amended
the revolving line of credit arrangement in August 2001. The amendment reduced
the maximum borrowing to the lesser of $7,500,000 or 65% of our eligible
domestic and foreign receivables until October 1, 2001, at which time the
percentage decreases to 55%. The bank increased the rate at which the borrowings
bear interest to the bank's prime rate plus 1.25%. The agreement amends the
financial covenants to a minimum tangible effective net worth of $35,000,000; a
maximum debt-to-worth ratio of 1.60:1.00; a minimum quick ratio of 0.85:1.00; a
maximum net loss of $12,500,000 for the second quarter of 2001 excluding
non-cash charges up to $75,000,000 and $6,500,000 for the quarter ending
September 30, 2001; and minimum unrestricted cash of $5,000,000. As of August
10, 2001, we have no availability for additional borrowings or draws under the
arrangement.
Additionally, the bank converted $1,500,000 of our outstanding borrowings
under the line into a term loan. The term loan will expire on December 1, 2001,
bears interest rate at the bank's prime rate, and is payable monthly.
We have also agreed to refinance the $7,500,000 revolving line of credit
with another lender by September 28, 2001. We will be required to pay the bank a
monthly fee of $1,000 for extensions beyond the stipulated dates for the
replacement funding with another financial institution. As part of the
arrangement, we have also agreed to seek additional equity funding.
To the extent that our financial resources are insufficient to fund our
activities and repay our debts, additional funds will be required. These
alternatives may include the sale of additional stock, additional lines of
credit, and the divestiture of certain business assets. We cannot assure you
that any additional financing will
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27
be available to us on acceptable terms, or at all, when required. If additional
funds are raised by issuing equity securities, significant dilution to existing
stockholders will result given the current price of our stock. If additional
funds are not available, we may be required to delay, scale back, or eliminate
one or more of our research and development or manufacturing programs.
Accordingly, the inability to obtain this financing could impair our business,
financial condition, and results of operations.
Given the size and working capital needs of our business and our recent
history of losses, and the steps we are taking to reduce these losses and manage
our working capital, we judge our current liquidity situation to be adequate for
the next twelve months. At present, we have no material commitment for capital
equipment purchases. However, our contract manufacturers have obtained or have
on order substantial amounts of inventory to meet our revenue forecasts. If
future shipments do not use the committed inventory, the contract manufacturers
have the right to charge us for the fixed amount of excess inventories and any
variable amount for inventory costs. These inventory commitments have a term of
less than one year since the revenues forecasts provided to the contract
manufacturers are for less than one year. At December 31, 2000, inventory
commitment totaled approximately $87.0 million under the obligations. We believe
that within the next 12 months, shipments of our modern products will create
sufficient orders to relieve our commitment to our contract manufacturers. We
believe that our cash, cash equivalents, short-term investments and available
borrowings under our credit facilities at December 31, 2000 coupled with the
March 2001 equity financing and the cost reduction programs described under
"Management's Discussion and Analysis of Financial Condition and Result of
Operations -- Recent Developments" will be sufficient to meet our working
capital requirements through December 31, 2001.
NEW ACCOUNTING STANDARD
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities," is effective for all fiscal years beginning after June 15, 2000.
SFAS No. 133, as amended, establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, and for hedging activities. Under SFAS No. 133, certain
contracts that were not formerly considered derivatives may now meet the
definition of a derivative. Com21 will adopt SFAS No. 133 effective January 1,
2001. Management has concluded its analysis of the effects of adopting SFAS No.
133 and the adoption will not have an impact on the financial position, results
of operations, or cash flows of Com21.
In December 1999, the Securities and Exchange Commission (SEC) released
Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial
Statements." This bulletin summarizes certain interpretations and practices
followed by the Division of Corporation Finance and the Office of the Chief
Accountant of the SEC in administering the disclosure requirements of the
Federal securities laws in applying accounting principles generally accepted in
the United States of America to revenue recognition in financial statements. The
adoption of SAB No. 101 in 2000 had no impact on Com21's financial position,
results of operations or cash flows.
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ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<Table>
<Caption>
PAGE
----
Independent Auditors' Report................................ 27
Consolidated Balance Sheets as of December 31, 1999 and
2000...................................................... 28
Consolidated Statements of Operations and Comprehensive Loss
for the Years Ended December 31, 1998, 1999 and 2000...... 29
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 1998, 1999 and 2000.............. 30
Consolidated Statements of Cash Flows for the Years Ended
December 31, 1998, 1999 and 2000.......................... 31
Notes to Consolidated Financial Statements.................. 32
</Table>
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INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Com21, Inc.:
We have audited the accompanying consolidated balance sheets of Com21, Inc.
and its subsidiaries (the Company) as of December 31, 1999 and 2000, and the
related consolidated statements of operations and comprehensive loss,
stockholders' equity and cash flows for each of the three years in the period
ended December 31, 2000. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Com21, Inc. and its
subsidiaries as of December 31, 1999 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2000 in conformity with accounting principles generally accepted in
the United States of America.
DELOITTE & TOUCHE LLP
San Jose, California
March 26, 2001
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COM21, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PAR VALUE AMOUNTS)
ASSETS
<Table>
<Caption>
DECEMBER 31,
---------------------
1999 2000
-------- ---------
Current Assets:
Cash and cash equivalents................................. $ 16,499 $ 25,237
Restricted cash........................................... -- 11,250
Short-term investments.................................... 89,524 9,427
Accounts receivable:
Trade (net of allowances of $1,161 and $1,100 in 1999
and 2000, respectively)............................... 14,423 39,997
Related parties........................................ 4,784 612
Other.................................................. 888 10,159
Inventories............................................... 4,518 33,960
Prepaid expenses and other................................ 2,036 4,188
-------- ---------
Total current assets.............................. 132,672 134,830
Long-term investments....................................... -- 2,000
Property and equipment -- net............................... 8,198 16,690
Intangibles assets -- net................................... -- 60,057
Other assets................................................ 296 788
-------- ---------
Total assets...................................... $141,166 $ 214,365
======== =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable.......................................... $ 12,870 $ 48,543
Accrued compensation and related benefits................. 3,732 4,447
Other current liabilities................................. 3,299 7,045
Current capital lease and debt obligations................ 538 11,312
-------- ---------
Total current liabilities......................... 20,439 71,347
Deferred rent............................................... 304 371
Capital lease and debt obligations.......................... 345 9
-------- ---------
Total liabilities................................. 21,088 71,727
======== =========
Commitments and contingencies (Note 7)
Stockholders' Equity:
Preferred stock, $0.001 par value; 5,000,000 shares
authorized and undesignated; none issued and
outstanding............................................ -- --
Common stock, $0.001 par value; 40,000,000 shares
authorized; shares issued and outstanding: 1999,
21,619,172; 2000, 24,679,217........................... 22 25
Additional paid-in capital................................ 179,138 263,803
Deferred stock compensation............................... (230) (5,839)
Accumulated deficit....................................... (59,016) (115,072)
Accumulated other comprehensive income (loss)............. 164 (279)
-------- ---------
Total stockholders' equity........................ 120,078 142,638
-------- ---------
Total liabilities and stockholders' equity........ $141,166 $ 214,365
======== =========
</Table>
See Notes to Consolidated Financial Statements.
28
31
COM21, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
--------------------------------
1998 1999 2000
-------- -------- --------
Revenues:
Products ($6,637, $19,402 and $2,122, in 1998, 1999 and
2000, respectively from related parties).............. $ 47,121 $ 95,743 $193,983
License fees -- related party (Note 12).................. 993 -- --
-------- -------- --------
Total revenues................................... 48,114 95,743 193,983
Cost of product revenues ($4,113, $11,767 and $1,588 in
1998, 1999 and 2000, respectively, for related
parties)................................................. 29,573 60,918 151,319
-------- -------- --------
Gross profit............................................... 18,541 34,825 42,664
-------- -------- --------
Operating expenses:
Research and development................................. 19,936 29,821 48,556
Sales and marketing...................................... 10,273 16,250 29,145
General and administrative............................... 3,871 4,120 16,167
In-process research and development...................... -- -- 8,823
-------- -------- --------
Total operating expenses......................... 34,080 50,191 102,691
-------- -------- --------
Loss from operations....................................... (15,539) (15,366) (60,027)
-------- -------- --------
Other income (expense):
Interest income.......................................... 2,535 5,261 4,825
Interest expense......................................... (318) (164) (74)
Other income (expense) -- net............................ (27) 7 (758)
-------- -------- --------
Total other income, net.......................... 2,190 5,104 3,993
-------- -------- --------
Loss before income taxes................................... (13,349) (10,262) (56,034)
Incomes taxes.............................................. 14 55 22
-------- -------- --------
Net loss................................................... (13,363) (10,317) (56,056)
Other comprehensive income (loss), net of tax:
Unrealized gain (loss) on available-for-sale
investments........................................... (3) 167 (443)
-------- -------- --------
Comprehensive loss......................................... $(13,366) $(10,150) $(56,499)
======== ======== ========
Net loss per share, basic and diluted...................... $ (1.10) $ (0.49) $ (2.42)
======== ======== ========
Shares used in computation, basic and diluted.............. 12,150 20,932 23,123
======== ======== ========
</Table>
See Notes to Consolidated Financial Statements.
29
32
COM21, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<Table>
<Caption>
DEFERRED
PREFERRED STOCK COMMON STOCK ADDITIONAL STOCK
------------------- ------------------- PAID-IN COMPEN- ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL SATION DEFICIT
---------- ------ ---------- ------ ---------- -------- -----------
Balances, January 1, 1998................ 9,957,604 $ 10 2,772,139 $ 3 $ 58,722 $ (116) $ (35,336)
Exercise of stock options................ -- -- 222,187 -- 236 -- --
Issuance of common stock (net of issuance
costs of $6,209)....................... -- -- 5,750,000 6 62,785 -- --
Sale of stock under employee stock
purchase plan.......................... -- -- 40,403 -- 412 -- --
Conversion of preferred stock............ (9,957,604) (10) 9,957,604 10 -- -- --
Repurchase of shares..................... -- -- (56,773) -- (24) -- --
Amortization of deferred stock
compensation........................... -- -- -- -- -- 34 --
Unrealized loss on available-for-sale
investments............................ -- -- -- -- -- -- --
Net loss................................. -- -- -- -- -- -- (13,363)
---------- ---- ---------- --- -------- ------- ---------
Balances, December 31, 1998.............. -- -- 18,685,560 19 122,131 (82) (48,699)
Exercise of stock options................ -- -- 356,793 -- 1,365 -- --
Exercise of common stock warrants........ -- -- 32,844 -- 54 -- --
Issuance of common stock (net of issuance
costs of $3,950)....................... -- -- 2,480,000 3 54,327 -- --
Sale of stock under employee stock
purchase plan.......................... -- -- 97,908 -- 1,025 -- --
Repurchase of shares..................... -- -- (33,933) -- (31) -- --
Deferred stock compensation.............. -- -- -- -- 193 (193) --
Issuance of nonemployee stock options for
services............................... -- -- -- -- 74 -- --
Amortization of deferred stock
compensation........................... -- -- -- -- -- 45 --
Unrealized gain on available-for-sale
investments............................ -- -- -- -- -- -- --
Net loss................................. -- -- -- -- -- -- (10,317)
---------- ---- ---------- --- -------- ------- ---------
Balances, December 31, 1999.............. -- -- 21,619,172 22 179,138 (230) (59,016)
Exercise of stock options................ -- -- 637,472 1 3,489 -- --
Sale of stock under employee stock
purchase plan.......................... -- -- 92,556 -- 946 -- --
Repurchase of shares..................... -- -- (196,733) -- (272) -- --
Value of stock options issued in
acquisitions........................... -- -- -- -- 4,683 -- --
Issuance of common stock in
acquisitions........................... -- -- 2,281,750 2 67,340 -- --
Issuance of restricted stock............. -- -- 245,000 -- 6,049 (6,049) --
Deferred stock compensation.............. -- -- -- -- 1,372 (1,372) --
Issuance of stock options and warrants to
nonemployees for services.............. -- -- -- -- 1,058 -- --
Amortization of deferred stock
compensation........................... -- -- -- -- -- 1,812 --
Unrealized loss on available-for-sale
investments............................ -- -- -- -- -- -- --
Net loss................................. -- -- -- -- -- -- (56,056)
---------- ---- ---------- --- -------- ------- ---------
Balances, December 31, 2000.............. -- $ -- 24,679,217 $25 $263,803 $(5,839) $(115,072)
========== ==== ========== === ======== ======= =========
<Caption>
ACCUMULATED
OTHER
COMPREHENSIVE TOTAL
INCOME STOCKHOLDERS'
(LOSS) EQUITY
------------- -------------
Balances, January 1, 1998................ $ -- $ 23,283
Exercise of stock options................ -- 236
Issuance of common stock (net of issuance
costs of $6,209)....................... -- 62,791
Sale of stock under employee stock
purchase plan.......................... -- 412
Conversion of preferred stock............ -- --
Repurchase of shares..................... -- (24)
Amortization of deferred stock
compensation........................... -- 34
Unrealized loss on available-for-sale
investments............................ (3) (3)
Net loss................................. -- (13,363)
----- --------
Balances, December 31, 1998.............. (3) 73,366
Exercise of stock options................ -- 1,365
Exercise of common stock warrants........ -- 54
Issuance of common stock (net of issuance
costs of $3,950)....................... -- 54,330
Sale of stock under employee stock
purchase plan.......................... -- 1,025
Repurchase of shares..................... -- (31)
Deferred stock compensation.............. -- --
Issuance of nonemployee stock options for
services............................... -- 74
Amortization of deferred stock
compensation........................... -- 45
Unrealized gain on available-for-sale
investments............................ 167 167
Net loss................................. -- (10,317)
----- --------
Balances, December 31, 1999.............. 164 120,078
Exercise of stock options................ -- 3,490
Sale of stock under employee stock
purchase plan.......................... -- 946
Repurchase of shares..................... -- (272)
Value of stock options issued in
acquisitions........................... -- 4,683
Issuance of common stock in
acquisitions........................... -- 67,342
Issuance of restricted stock............. -- --
Deferred stock compensation.............. -- --
Issuance of stock options and warrants to
nonemployees for services.............. -- 1,058
Amortization of deferred stock
compensation........................... -- 1,812
Unrealized loss on available-for-sale
investments............................ (443) (443)
Net loss................................. -- (56,056)
----- --------
Balances, December 31, 2000.............. $(279) $142,638
===== ========
</Table>
See Notes to the Consolidated Financial Statements.
30
33
COM21, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
---------------------------------
1998 1999 2000
-------- --------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $(13,363) $ (10,317) $(56,056)
Adjustments to reconcile net loss to net cash used in
operating activities:
Nonemployee stock options and warrants issued for
services.............................................. -- 74 1,058
Amortization of deferred stock compensation............. 34 45 1,812
Depreciation and amortization........................... 3,483 3,784 11,904
In-process research and development..................... -- -- 8,823
Deferred rent........................................... 38 20 67
Gain on sales and maturities of investments............. (755) (1,408) (536)
Write-off of impaired asset............................. -- -- 2,518
Changes in operating assets and liabilities, net of
effect of companies acquired:
Accounts receivable -- trade.......................... 794 (11,233) (24,902)
Accounts receivable -- related parties................ (592) (3,140) 4,172
Accounts receivable -- other.......................... -- (888) (9,271)
Inventories........................................... (2,639) 764 (24,599)
Prepaid expenses and other............................ 59 (1,450) (1,519)
Other assets.......................................... (52) (41) (2,165)
Accounts payable...................................... 1,201 8,837 33,812
Accrued compensation and related benefits............. 730 1,993 715
Other current liabilities............................. (15) 1,720 (1,129)
-------- --------- --------
Net cash used in operating activities............... (11,077) (11,240) (55,296)
-------- --------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment....................... (3,744) (5,735) (11,911)
Purchases of investments.................................. (101,886) (160,996) (55,794)
Proceeds from sales and maturities of investments......... 44,029 131,765 133,875
Purchase of companies, net of cash acquired............... -- -- (783)
-------- --------- --------
Net cash provided by (used in) investing
activities........................................ (61,601) (34,966) 65,387
-------- --------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock.................... 63,439 56,774 4,436
Repurchases of common stock............................... (24) (31) (272)
Proceeds from issuance of debt obligations................ -- -- 10,000
Repayments under capital lease obligations................ (1,033) (937) (592)
Repayments on debt obligations............................ (519) (236) (3,675)
Restricted cash........................................... -- -- (11,250)
-------- --------- --------
Net cash provided by (used in) financing
activities........................................ 61,863 55,570 (1,353)
-------- --------- --------
Net change in cash and cash equivalents..................... (10,815) 9,364 8,738
Cash and cash equivalents, beginning of year................ 17,950 7,135 16,499
-------- --------- --------
Cash and cash equivalents, end of year...................... $ 7,135 $ 16,499 $ 25,237
======== ========= ========
NONCASH INVESTING AND FINANCING ACTIVITIES:
Property and equipment acquired under capital leases...... $ 675 $ -- $ --
======== ========= ========
Deferred stock compensation............................... $ -- $ 193 $ 7,421
======== ========= ========
Conversion of preferred stock into common stock........... $ 10 $ -- $ --
======== ========= ========
Unrealized gain (loss) on available-for-sale
investments............................................. $ (3) $ 276 $ (552)
======== ========= ========
Issuance of debt obligation for other current assets...... $ 215 $ -- $ --
======== ========= ========
Common stock issued to acquire companies.................. $ -- $ -- $ 67,342
======== ========= ========
Value of stock options issued in acquisitions............. $ -- $ -- $ 4,683
======== ========= ========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid for income taxes................................ $ 14 $ 55 $ 22
======== ========= ========
Cash paid for interest.................................... $ 335 $ 155 $ 190
======== ========= ========
</Table>
See Notes to Consolidated Financial Statements.
31
34
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Business -- Com21, Inc. (the Company or Com21) was incorporated in Delaware
in June 1992. The Company is a global supplier of broadband access solutions.
The Company develops and sells headend equipment, subscriber cable modems and
network management software to support the Asynchronous Transfer Mode (ATM),
Data Over Cable System Interface Specification (DOCSIS) and Digital Video
Broadcasting (DVB) standards. Such products enable domestic and international
cable operators the ability to provide high-speed, cost-effective Internet
access to a variety of subscriber markets including corporate telecommuters,
small businesses and private homes.
Basis of Presentation -- The consolidated financial statements include the
Company and its wholly-owned subsidiaries. All significant intercompany accounts
and transactions have been eliminated in consolidation.
Financial Statement Estimates -- The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates.
Reclassifications -- Certain prior year amounts in the accompanying
consolidated financial statements have been reclassified to conform to current
year presentation. These reclassifications had no effect on the consolidated
financial position, results of operations or cash flows for any of the periods
presented.
Cash Equivalents -- The Company considers all highly liquid debt
instruments with maturities at the date of purchase of three months or less to
be cash equivalents.
Restricted Cash -- As of December 31, 2000, $11,250,000 in cash held in a
certificate of deposit is restricted for use as security on purchases from a
third-party outsource manufacturer and a sole source component vendor.
Investments -- Investments are stated at fair value based on quoted market
prices obtained from an independent broker. Investments are classified as
available-for-sale based on the Company's intended use. The difference between
amortized cost and fair value representing unrealized holding gains or losses,
net of deferred taxes, are recorded as a component of stockholders' equity as
accumulated other comprehensive income (loss). Gains and losses on sales of
investments are determined on a specific identification basis.
Other Accounts Receivable -- Other accounts receivable consists of
receivables due from third-party outsource manufacturers for the sale of
component inventories used by the manufacturers in the production of the
Company's product.
Inventories -- Inventories consist of networking equipment, modems and
sub-assemblies stated at the lower of cost (first-in, first-out method) or
market.
Property and Equipment -- Property and equipment are stated at cost.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets, generally three to sixteen years. Amortization of
leasehold improvements and assets recorded under capital lease agreements are
computed using the straight-line method over the shorter of the lease term or
the estimated useful lives of the related assets.
Intangible Assets -- Intangibles assets, including goodwill, are amortized
on a straight-line basis over useful lives of three to five years. The Company
evaluates goodwill for impairment using a discounted cash flows method whenever
events or changes in circumstances indicate that the carrying amount of goodwill
may not be recoverable. In situations where goodwill is considered to be
associated with the entire enterprise,
32
35
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
impairment is assessed based on discounted enterprise cash flows, without
interest charges, consistent with SFAS No. 121, "Accounting for the Impairment
of Long-Lived Assets and for Long-Lived Assets To Be Disposed Of."
Long-Lived Assets -- The Company evaluates long-lived assets for impairment
using a discounted cash flows method whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable.
In June 2000, the Company entered into a 43 month development agreement
with a third party for a cash payment of $2,250,000 which was recorded as an
asset at the time the payment was made. In December 2000, in accordance with
Statement of Financial Accounting Standards (SFAS) No. 121, "Accounting for the
Impairment of Long-Lived Assets To Be Disposed Of," the Company recorded an
impairment charge of $2,518,000 as research and development expense in the
accompanying consolidated statement of operations and comprehensive loss for
2000. The amount consisted of the remaining net book value of the initial
payment as well as noncancelable commitments to purchase materials for the
development project. Such assets were determined to be impaired based on a
comparison of the carrying amount of such assets to future discounted cash flows
expected to be generated by the asset. As the development project was canceled
with undeveloped product, there were no future discounted cash flows.
Income Taxes -- The Company accounts for income taxes under an asset and
liability approach. Deferred income taxes reflect the net tax effects of
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes, and
operating loss and tax credit carryforwards measured by applying currently
enacted tax laws. Valuation allowances are provided when necessary to reduce net
deferred tax assets to an amount that is more likely than not to be realized.
Certain Significant Risks and Uncertainties -- The Company participates in
a dynamic high technology industry and believes that changes in any of the
following areas could have a material adverse effect on the Company"s future
financial position, results of operations or cash flows: advances and trends in
new technologies and industry standards; competitive pressures in the form of
new products or price reductions on current products; changes in product mix;
changes in the overall demand for products offered by the Company; changes in
third-party manufacturers; changes in key suppliers; changes in certain
strategic relationships or customer relationships; litigation or claims against
the Company based on intellectual property, patent, product, regulatory or other
factors; risks associated with changes in domestic and international economic
and/or political conditions or regulations; availability of necessary
components; the Company's ability to obtain additional capital to support
operations; the Company's ability to integrate acquired businesses; and the
Company's ability to attract and retain employees necessary to support its
growth.
Since inception, the Company has incurred net losses and has an accumulated
deficit of $115,072,000 at December 31, 2000. If profitability is not achieved
in the near term, it could have a material adverse effect on the Company's
financial position, results of operations or cash flows. Subsequent to December
31, 2000, the Company continued efforts to reduce operating expenses including
reductions in its workforce; termination of a project to develop a DVB headend;
refocusing of its engineering efforts on fewer projects; and the elimination of
certain marketing programs. In addition, the Company had engaged Dain Rauscher
Wessels to assist in the evaluation of working capital alternatives and raised
$7,650,000 in an equity placement. If efforts to achieve profitable operations
are not successful, additional funding will be required. If additional funds are
not available, the Company may be required to continue to delay, scale back or
eliminate one or more of its research and development, marketing or
manufacturing programs.
Financial instruments which potentially subject the Company to
concentrations of credit risk consist primarily of cash and cash equivalents,
investments and accounts receivable. Cash and cash equivalents are
33
36
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
held primarily with five financial institutions and consist primarily of
commercial paper, short-term corporate and government obligations and cash in
bank accounts. The Company's investment policy is to invest in instruments with
minimum credit ratings of A-1/P-1 (Short-Term) or AA (Long-Term) and in
strategic equity investments requiring Board of Directors approval. The Company
sells its products primarily to cable operators in North America and primarily
to systems integrators in Europe, Asia and South/Central America, and generally
does not require its customers to provide collateral or other security to
support accounts receivable. To reduce credit risk, management performs ongoing
credit evaluations of its customers' financial condition. The Company maintains
allowances for estimated potential bad debt losses. The recorded carrying amount
of cash and cash equivalents, investments, accounts receivable, accounts payable
and debt obligations approximate fair value.
The Company's customer base is highly concentrated. A relatively small
number of customers have accounted for a significant portion of the Company's
revenues and the Company expects that this trend will continue for the
foreseeable future. For the years ended December 31, 1998, 1999 and 2000, the
top five customers comprised 66%, 64% and 47%, respectively, of the Company's
total revenues.
Revenue Recognition -- The Company recognizes revenue when persuasive
evidence of an arrangement exists, delivery has occurred or services have been
rendered, the price is fixed and determinable and collectibility is reasonably
assured. For product revenue, this generally occurs at the time of shipment to
both resellers and end-users. Estimated sales returns and warranty costs, based
on historical experience by product, are recorded at the time the product
revenue is recognized.
The Company accounts for revenue on software transactions under the
principles of Statement of Position (SOP) 97-2, "Software Revenue Recognition,"
as amended, which requires, among other things, revenue earned on software
arrangements involving multiple elements to be allocated to each element based
on the relative fair values of the elements. Revenue for software licenses is
recognized when SOP 97-2 criteria are met which is generally upon delivery
provided that collection is probable. Software support and maintenance revenue
are deferred and amortized over the maintenance period on a straight-line basis.
In an arrangement that includes both license fees and maintenance, amounts
related to maintenance are allocated based on vendor-specific objective
evidence. Vendor-specific objective evidence is based on the price when
maintenance is sold separately, or, when not sold separately, the price is
established by management having the relevant authority. Where discounts are
offered, a proportionate amount of that discount is applied to each element
included in the arrangement based on each element's fair value.
Software Development Costs -- Development costs incurred in the research
and development of new software products and enhancements to existing software
products are expensed as incurred until technological feasibility has been
established, at which time certain development costs required to attain general
production release would be capitalized. To date, the Company's software
development has essentially been completed concurrent with the establishment of
technological feasibility, and accordingly, no costs have been capitalized.
Stock-Based Compensation -- The Company accounts for stock-based awards to
employees using the intrinsic value method in accordance with Accounting
Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued to
Employees." The Company accounts for stock-based awards to non-employees in
accordance with SFAS No. 123, "Accounting for Stock-Based Compensation."
Foreign Currency -- The functional currency of the Company's foreign
subsidiaries is the U.S. dollar. Accordingly, all monetary assets and
liabilities are translated at the current exchange rate as of the balance sheet
date, nonmonetary assets and liabilities are translated at historical rates and
revenues and expenses are translated at average exchange rates in effect during
the period. Transaction gains and losses, which are included in other income
(expense) -- net in the accompanying consolidated statements of operations and
comprehensive loss, were not significant in 1998 and 1999 and was a loss of
$628,000 in 2000.
34
37
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
Comprehensive Loss -- In accordance with SFAS No. 130, "Reporting
Comprehensive Income," the Company reports by major components and as a single
total, the change in net assets during the period from nonowner sources in a
consolidated statement of comprehensive loss which has been included with the
consolidated statements of operations. Accumulated other comprehensive income
(loss) in the accompanying consolidated balance sheets consists entirely of
unrealized gains and losses on available-for-sale investments for all periods
presented.
Net Loss Per Share -- Basic earnings per share (EPS) excludes dilution and
is computed by dividing net income attributable to common stockholders by the
weighted average of common shares outstanding for the period. Diluted EPS
reflects the potential dilution that could occur if securities or other
contracts to issue common stock (convertible preferred stock, restricted stock,
warrants to purchase convertible preferred stock and common stock options and
warrants using the treasury stock method) were exercised or converted into
common stock. Potential common shares in the diluted EPS computation are
excluded in net loss periods as their effect would be antidilutive.
New Accounting Standards -- SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," is effective for all fiscal years beginning
after June 15, 2000. SFAS No. 133, as amended, establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. Under SFAS
No. 133, certain contracts that were not formerly considered derivatives may now
meet the definition of a derivative. The Company will adopt SFAS No. 133
effective January 1, 2001. Management has concluded its analysis of the effects
of adopting SFAS No. 133 and the adoption will not have an impact on the
financial position, results of operations or cash flows of the Company.
In December 1999, the Securities and Exchange Commission (SEC) released
Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial
Statements." This bulletin summarizes certain interpretations and practices
followed by the Division of Corporation Finance and the Office of the Chief
Accountant of the SEC in administering the disclosure requirements of the
Federal securities laws in applying accounting principles generally accepted in
the United States of America to revenue recognition in financial statements. The
adoption of SAB No. 101 in 2000 had no impact on the Company's financial
position, results of operations or cash flows.
2. INVESTMENTS
The amortized cost and the fair value of available-for-sale securities are
presented in the tables below:
<Table>
<Caption>
DECEMBER 31, 1999
----------------------------------
UNREALIZED
HOLDING
AMORTIZED GAINS FAIR
COST (LOSSES) VALUE
--------- ---------- -------
(IN THOUSANDS)
Corporate obligations................................ $30,466 $(51) $30,415
U.S. Government obligations.......................... 52,955 (37) 52,918
Municipal obligations................................ 5,024 (5) 5,019
Corporate equity securities.......................... 803 369 1,172
------- ---- -------
Total short-term investments............... $89,248 $276 $89,524
======= ==== =======
</Table>
35
38
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
<Table>
<Caption>
DECEMBER 31, 2000
----------------------------------
UNREALIZED
HOLDING
AMORTIZED GAINS FAIR
COST (LOSSES) VALUE
--------- ---------- -------
(IN THOUSANDS)
U.S. Government obligations.......................... $ 6,000 $ -- $ 6,000
Corporate equity securities.......................... 5,706 (279) 5,427
------- ----- -------
Total...................................... $11,706 $(279) $11,427
======= ===== =======
Reported as:
Short-term investments............................. $ 9,427
Long-term investments.............................. 2,000
-------
Total...................................... $11,427
=======
</Table>
The contractual maturities of the Company's investments in debt securities
at December 31, 2000 were all within one year.
3. INVENTORIES
Inventories consist of:
<Table>
<Caption>
DECEMBER 31,
-----------------
1999 2000
------ -------
(IN THOUSANDS)
Raw materials and sub-assemblies.......................... $ 917 $10,363
Work-in-process........................................... 326 5,477
Finished goods............................................ 3,275 18,120
------ -------
Total........................................... $4,518 $33,960
====== =======
</Table>
4. PROPERTY AND EQUIPMENT
Property and equipment consists of:
<Table>
<Caption>
DECEMBER 31,
--------------------
1999 2000
-------- --------
(IN THOUSANDS)
Equipment under capital lease.......................... $ 3,711 $ 3,650
Computer equipment and software........................ 6,855 13,808
Production equipment................................... 6,515 11,713
Leasehold improvements................................. 671 2,219
Furniture and fixtures................................. 815 1,584
-------- --------
18,567 32,974
Accumulated depreciation and amortization.............. (10,369) (16,284)
-------- --------
Total........................................ $ 8,198 $ 16,690
======== ========
</Table>
Accumulated amortization on capital leases as of December 31, 1999 and 2000
was $3,031,000 and $3,495,000, respectively.
36
39
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
5. INTANGIBLE ASSETS
Intangible assets consist of the following at December 31, 2000 (in
thousands):
<Table>
Core and current technology................................ $15,152
Goodwill................................................... 48,146
Other intangibles.......................................... 3,450
-------
66,748
Accumulated amortization................................... (6,691)
-------
Total............................................ $60,057
=======
</Table>
6. DEBT OBLIGATIONS
Lines of Credit
In December 2000, the Company entered into a revolving line of credit
agreement, for working capital purposes, which allows the Company to borrow up
to the lesser of $20,000,000 or 65% of the Company's eligible domestic and
foreign accounts receivable. At December 31, 2000, the Company had $10,000,000
outstanding under the agreement. Borrowings under the line are secured by
substantially all the assets of the Company and bears annual interest at the
prime rate (9.25% at December 31, 2000) plus 0.25%, which is payable monthly.
The line expires on November 30, 2001 at which time all outstanding borrowings
and unpaid interest are due. The agreement requires the Company to comply with
certain financial covenants which include maintaining a minimum tangible
effective net worth of $85,000,000; a maximum debt-to-worth ratio of 0.75:1.00;
minimum net profit of $1 measured quarterly with the exception of first quarter
2001 of a maximum net loss of $15,000,000; and minimum net liquidity of
$30,000,000. At December 31, 2000, the Company did not meet the minimum tangible
effective net worth, the maximum debt-to-worth ratio, the maximum quarterly loss
and minimum net liquidity covenants. A waiver for these violations was received
on February 28, 2001.
The Company's Israeli subsidiary also has lines of credit with various
financial institutions. As of December 31, 2000, the Company had outstanding
borrowings of $1,030,000 which are denominated in Israeli New Shekels (ILS
4,165,000 at December 31, 2000). The Company has $39,000 available under the
lines at December 31, 2000. The borrowings are secured by substantially all the
assets of the Company's Israeli subsidiary and bear interest at rates ranging
from 10% to 11% per annum. The lines expire in March 2001 at which time all
outstanding borrowings and unpaid interest are due.
7. COMMITMENTS AND CONTINGENCIES
The Company leases its facilities and certain equipment under noncancelable
capital and operating leases. The Company leases its primary facilities under a
noncancelable operating lease which expires in August 2004.
In 2000, the Company's Irish subsidiary entered into two operating lease
agreements for research and development facilities with terms of 20 years and 25
years. Under both leases, rental payments are subject to review and
renegotiation every five years. The subsidiary can also terminate the leases,
subject to penalty provisions, at the end of the tenth year on the 20-year lease
and at the end of the fifth or tenth years on the 25-year lease.
37
40
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
Future minimum lease payments under capital and operating leases and the
present value of minimum lease payments under capital leases as of December 31,
2000 are as follows:
<Table>
<Caption>
CAPITAL OPERATING
YEAR ENDING DECEMBER 31, LEASES LEASES
------------------------ ------- ---------
(IN THOUSANDS)
2001...................................................... $295 $ 4,595
2002...................................................... 9 4,862
2003...................................................... -- 4,681
2004...................................................... -- 4,488
2005...................................................... -- 2,256
Thereafter................................................ -- 924
---- -------
Future minimum lease payments............................. 304 $21,806
=======
Amounts representing interest (9%)........................ (13)
----
Present value of future minimum lease payments............ $291
====
</Table>
Rent expense incurred under the operating leases was $867,000, $1,438,000
and $2,924,000 for the years ended December 31, 1998, 1999 and 2000,
respectively. Rent expense under the facilities leases is recognized on a
straight-line basis over the term of the leases. The difference between the
amounts paid and the amounts expensed is classified as deferred rent in the
accompanying consolidated balance sheets.
The Company's contract manufacturers have obtained or have on order
substantial amounts of inventory to meet Com21's revenue forecasts. If future
shipments do not consume the committed inventory, the contract manufacturers
have the right to charge for the fixed amount of excess inventories as well as a
variable amount for inventory carrying costs. These inventory commitments have a
term of less than one year as the revenue forecasts provided to the contract
manufacturers are for less than one year. At December 31, 2000, the commitment
totaled approximately $87.0 million.
The Company is subject to various legal proceedings and claims which arise
in the normal course of business. The Company does not believe that any current
litigation or claims have any merit and intends to defend them vigorously; thus,
Com21 does not believe that an unfavorable resolution will have a negative
impact on the Company's business, operating results or financial condition.
8. STOCKHOLDERS' EQUITY
Public Offerings
In May 1998, the Company completed its initial public offering of 5,750,000
shares (which includes the full exercise of the underwriters' over-allotment of
750,000 shares) which generated net proceeds to the Company of $62,791,000.
In February 1999, the Company completed a follow on offering of 2,480,000
shares which generated net proceeds to the Company of $54,330,000.
Convertible Preferred Stock
On April 22, 1998, holders of more than 50% of the Series D, E, F and G
convertible preferred stock, voting as a single class, consented to the
automatic conversion of all outstanding shares of Series D, E, F and G
convertible preferred stock into common stock upon the completion of the initial
public offering regardless of the offering price per share. Upon completion of
the Company's initial public offering in May 1998, all shares of Series A, B,
and C convertible preferred stock were converted to common stock in accordance
with
38
41
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
their existing terms and all shares of Series D, E, F and G convertible
preferred stock were converted to common stock in accordance with the
stockholders' consent. All shares were converted on a one-to-one basis.
Common Stock Warrants
Prior to the Company's initial public offering in May 1998, the Company
issued warrants to purchase shares of various series of convertible preferred
stock. Upon completion of the Company's initial public offering, the outstanding
warrants to purchase 46,286 shares of convertible preferred stock were
automatically converted into warrants to purchase 46,286 shares of common stock
at the same exercise prices. All such warrants were outstanding at December 31,
1998 and were exercised in full during 1999.
During 2000, as consideration for services provided under two product
development agreements, the Company issued warrants to purchase a total of
75,000 shares of common stock at a weighted average exercise price of $20.40 per
share. The warrants are immediately exercisable until expiration (25,000
warrants in May 2001 and 50,000 warrants in January 2002). The value of these
warrants in the amount of $832,000 was recognized as research and development
expense for the year ended December 31, 2000. The Company determined the value
of the awards using the Black-Scholes option pricing model over the contractual
term of the options with the following weighted average assumptions: stock
volatility, 75%; risk free interest rate, 6.5%; and no dividends during the
expected term. All such warrants were outstanding at December 31, 2000.
Common Stock
At December 31, 1999 and 2000, the Company had the right to repurchase
22,055 and 978 shares of common stock outstanding, respectively. The number of
shares subject to repurchase is reduced over a two to four year vesting period.
The Company has the right to repurchase these shares at the original issuance
price.
The Company also has 245,000 shares of restricted common stock outstanding
at December 31, 2000 which is subject to forfeiture by the holders if the
holders' employment terminates prior to a three year cliff vesting term.
Net Loss Per Share
The following is a reconciliation of the numerators and denominators of the
basic and diluted net loss per share computations:
<Table>
<Caption>
YEARS ENDED DECEMBER 31
-----------------------------------------
1998 1999 2000
----------- ----------- -----------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Net Loss (Numerator):
Net loss, basic and diluted...................... $(13,363) $(10,317) $(56,056)
-------- -------- --------
Shares (Denominator):
Weighted average common shares outstanding....... 12,377 21,001 23,256
Weighted average common shares outstanding
subject to repurchase or forfeiture........... (227) (69) (133)
-------- -------- --------
Shares used in computation, basic and diluted.... 12,150 20,932 23,123
-------- -------- --------
Net loss per share, basic and diluted.............. $ (1.10) $ (0.49) $ (2.42)
======== ======== ========
</Table>
During 1998, 1999 and 2000, the Company had securities outstanding which
could potentially dilute basic EPS in the future, but were excluded in the
computation of diluted EPS in such periods, as their effect would have been
antidilutive due to the net loss reported in such periods. Such outstanding
securities consist of the following at December 31, 2000: 245,978 outstanding
shares of common stock subject to repurchase or
39
42
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
forfeiture; warrants to purchase 75,000 shares of common stock; and options to
purchase 5,702,388 shares of common stock.
Equity Plans
Under the Company's 1995 Stock Option Plan (the 1995 Plan), as restated and
amended in January 1998, the Company may grant options to purchase up to
3,000,000 shares of common stock to employees, directors and consultants at
prices not less than the fair market value at the date of grant for incentive
stock options and not less than 85% of fair market value at the date of grant
for nonstatutory stock options. These options generally expire ten years from
the date of grant and are immediately exercisable. The Company has a right of
repurchase (at the option exercise price) of common stock issued from option
exercises for unvested shares. The right of repurchase generally expires 25%
after the first 12 months from the date of grant and then ratably over a
36-month period.
In 1998, the Company adopted the 1998 Stock Incentive Plan (the 1998 Stock
Plan) and the 1998 Employee Stock Purchase Plan (the 1998 Purchase Plan). The
1998 Stock Plan serves as the successor equity incentive program to the
Company's 1995 Plan. Options outstanding under the 1995 Plan on April 1, 1998
(2,023,510 shares) were incorporated into the 1998 Stock Plan. Such incorporated
options continue to be governed by their existing terms. In addition, the share
reserve was increased by 500,000 shares and could be increased up to an
additional 271,570 shares for repurchases of unvested common shares issued under
the 1995 Plan. Under the 1998 Stock Plan, the Company is authorized to issue
shares of common stock to employees, directors and consultants under five
separate programs: Discretionary Option, Stock Issuance, Salary Investment
Option Grant, Automatic Option Grant and Director Fee Option Grant. The number
of shares reserved for issuance under the 1998 Stock Plan automatically
increases at the beginning of each calendar year, beginning in 1999, by an
amount equal to 5% of the total number of shares of common stock outstanding at
the end of the preceding year (1,233,961 shares on January 2, 2001). The
Discretionary Option Program of the 1998 Stock Plan provides for the grant of
options under terms comparable to those provided on options granted under the
1995 Plan except that all options are to be granted at a price not less than
fair market value on the date of grant.
Under the 2000 Stock Option Plan (the 2000 Stock Plan), the Company is
authorized to issue up to 1,500,000 shares of common stock to employees,
directors and consultants as discretionary option awards. The 2000 Stock Plan
only provides for common stock issuance under a Discretionary Option Program
which provides for awards under terms that are substantially comparable to stock
option awards under the 1998 Stock Plan.
40
43
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
Stock option activity under the Plans was as follows:
<Table>
<Caption>
OUTSTANDING OPTIONS
SHARES ------------------------------
AVAILABLE FOR NUMBER OF WEIGHTED AVERAGE
GRANT SHARES EXERCISE PRICE
------------- ---------- ----------------
Balances January 1, 1998 (286,130 shares
vested at a weighted average price of
$0.57 per share)......................... 19,409 1,328,911 $ 1.80
Reserved................................. 1,266,732 -- --
Granted (weighted average fair value of
$5.45 per share)...................... (1,368,615) 1,368,615 11.59
Canceled................................. 105,998 (105,998) 4.05
Exercised................................ -- (222,187) 1.06
---------- ----------
Balances, December 31, 1998 (464,507 shares
vested at a weighted average price of
$1.42 per share)......................... 23,524 2,369,341 7.42
Reserved................................. 1,934,278 -- --
Granted (weighted average fair value of
$11.24 per share)..................... (2,544,450) 2,544,450 18.36
Canceled................................. 653,869 (653,869) 13.59
Repurchased.............................. 33,933 -- --
Exercised................................ -- (356,793) 3.83
---------- ----------
Balances, December 31, 1999 (1,124,453
shares vested at a weighted average price
of $5.03 per share)...................... 101,154 3,903,129 13.85
Reserved................................. 2,580,959 -- --
Granted (weighted average fair value of
$12.54 per share)..................... (4,556,623) 4,556,623 19.75
Canceled................................. 2,119,892 (2,119,892) 19.10
Repurchased.............................. 196,733 -- --
Exercised................................ -- (637,472) 5.47
---------- ----------
Balances, December 31, 2000................ 442,115 5,702,388 17.55
---------- ----------
</Table>
Additional information regarding options outstanding at December 31, 2000
is as follows:
<Table>
<Caption>
OPTIONS OUTSTANDING
------------------------------------- VESTED OPTIONS
WEIGHTED --------------------
AVERAGE WEIGHTED WEIGHTED
REMAINING AVERAGE AVERAGE
NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
RANGE OF EXERCISE PRICES OUTSTANDING LIFE (YEARS) PRICE VESTED PRICE
- ------------------------ ----------- ------------ -------- ------ --------
$ 0.40 - $ 0.88 365,443 5.3 $ 0.48 361,969 $ 0.48
$ 3.30 - $ 6.75 119,340 8.9 5.53 37,117 5.48
$ 6.90 - $13.75 1,374,512 9.0 10.58 340,472 10.30
$13.88 - $27.94 3,262,693 9.2 19.09 366,771 19.83
$28.00 - $56.63 511,900 9.1 34.43 40,940 32.82
$66.50 - $73.50 68,500 9.2 69.76 -- --
--------- ---------
$ 0.40 - $73.50 5,702,388 8.9 $17.55 1,147,269 $10.90
--------- ---------
</Table>
Under the 1998 Purchase Plan, eligible employees are allowed to have salary
withholdings of up to 10% of their base compensation to purchase shares of
common stock at a price equal to 85% of the lower of the market value of the
stock at the beginning or end of defined purchase periods. Shares issued under
the Plan
41
44
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
were 40,403, 97,908 and 92,556 in 1998, 1999 and 2000 at weighted average prices
of $10.20, $10.47 and $10.22 per share, respectively. At December 31, 2000, the
Company had 469,133 shares of its common stock reserved for future issuance
under this plan.
Deferred Stock Compensation
As discussed in Note 1, the Company accounts for its stock-based awards to
employees using the intrinsic value method in accordance with APB No. 25.
Accordingly, in 1997 the Company recorded deferred compensation expense equal to
the difference between the grant price and deemed fair value of the Company's
common stock for options granted prior to December 31, 1997. Such deferred
compensation expense aggregated $136,000 and is being amortized to expense over
the four-year vesting period of the options.
During 1999 and 2000, the Company issued nonstatutory options to
nonemployees for the purchase of 21,000 and 72,500 shares of common stock at
weighted average exercise prices of $23.79 and $36.41 per share, respectively.
Such options originally vested over a period of one to five years, and in
accordance with SFAS No. 123, and its related interpretations, the Company
accounted for these awards under the fair value method and as variable awards.
Accordingly, the Company recorded deferred compensation expense at the grant
date equal to the fair value of the options (using the Black-Scholes option
pricing model) on the grant date and adjusted the deferred compensation expense
at the end of each period. The related amortization of deferred compensation
expense, which was recognized over the vesting period, was also adjusted
accordingly. At December 31, 1999, such deferred compensation expense aggregated
$193,000.
In December 2000, the Company accelerated all remaining unvested awards to
nonemployees, thereby creating a measurement date. On the measurement date, the
Company recorded the fair value associated with the remaining deferred stock
compensation as compensation expense in the accompanying consolidated statement
of operations and comprehensive loss for 2000. The aggregate compensation
expense related to these awards in 2000 was $645,000. The Company determined the
value of the awards using the Black-Scholes option pricing model over the
contractual term of the options with the following weighted average assumptions:
stock volatility, 75%; risk free interest rate, 65%; and no dividends during the
expected term.
During 1999 and 2000, the Company issued nonstatutory options to
nonemployees for the purchase of 47,500 and 28,000 shares of common stock at
weighted average exercise prices of $24.82 and $25.69 per share, respectively.
Such options were issued for services provided and were immediately vested and
exercisable. Accordingly, the Company recorded the $74,000 and $226,000 fair
value of such awards (using the Black-Scholes option pricing model) as an
expense in the accompanying consolidated statements of operations and
comprehensive loss for 1999 and 2000, respectively.
Additional Stock Plan Information
Since the Company continues to account for its stock-based awards to
employees using the intrinsic value method in accordance with APB No. 25, SFAS
No. 123 requires the disclosure of pro forma net income (loss) and EPS had the
Company adopted the fair value method. Under SFAS No. 123, the fair value of
stock-based awards to employees is calculated through the use of option pricing
models, even though such models were developed to estimate the fair value of
freely tradable, fully transferable options without vesting restrictions, which
significantly differ from the Company's stock option awards. These models also
require subjective assumptions, including future stock price volatility and
expected time to exercise, which greatly affect the calculated values. The
Company's fair value calculations on stock-based awards to employees under the
1995, 1998 and 2000 Stock Plans were made using the Black-Scholes option pricing
model with the following weighted average assumptions: expected life, 4.5 years
from the date of grant in 1998, 1999 and 2000; stock volatility, 50% in 1998,
75% in 1999 and 2000; risk-free interest rate, 5.0% in 1998, 6.0% in 1999 and
2000; and no dividends during the expected term. The Company's calculations are
based on a single
42
45
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
option award valuation approach, and forfeitures are recognized as they occur.
The Company's fair value calculations on stock-based awards under the 1998
Purchase Plan were also made using the Black-Scholes option pricing model with
the following weighted average assumptions: expected life, six months in 1998,
1999 and 2000; stock volatility, 50% in 1998, 75% in 1999 and 2000; risk free
interest rate, 5.0% in 1998, 5.5% in 1999 and 5.4% in 2000; and no dividends
during the expected term. If the computed fair values of the employee awards had
been amortized to expense over the vesting period of the awards, pro forma net
loss would have been $(14,454,000) ($(1.19) per share, basic and diluted) in
1998, $(16,158,000) ($(0.77) per share, basic and diluted) in 1999 and
$(73,045,000) ($(3.16) per share, basic and diluted) in 2000.
9. ACQUISITIONS
GADline Ltd.
On July 3, 2000, pursuant to a Share Purchase Agreement (GADline Agreement)
dated April 18, 2000 by Com21 and GADline, Ltd. (GADline), an Israeli company,
GADline was merged with and into Com21. GADline develops, manufactures and
markets fully managed networking solutions that deliver high-speed data and
telephony services over a hybrid fiber coaxial infrastructure.
Pursuant to the GADline Agreement, the shareholders of GADline received an
aggregate of 2,281,750 shares of Com21 common stock and all outstanding GADline
options converted into options to purchase 168,193 shares of Com21 common stock.
On January 9, 2001, certain predefined development milestones defined in the
GADline Agreement were met resulting in the issuance of an additional 175,124
shares of Com21 common stock valued on the measurement date at $963,000. This
amount will be added to goodwill in the first quarter of 2001 and be amortized
over the remaining useful life of the intangible asset. An additional 174,876
shares of Com21 common stock may be issued to GADline shareholders upon
completion of other predefined development milestones. The fair value of the
contingent shares will be measured upon achievement of the predefined
development milestones and will also be accounted for as additional purchase
price. The Company also assumed certain operating assets and liabilities of
GADline. The acquisition was treated as a purchase for accounting purposes. The
total purchase price as of July 3, 2000 was allocated to the assets acquired and
liabilities assumed based on their respective fair values as follows (in
thousands):
<Table>
Total purchase price:
Common stock issued................................ $67,342
Stock options assumed.............................. 3,205
Acquisition expenses............................... 3,060
-------
$73,607
=======
Purchase price allocation:
Fair market value of net tangible assets acquired
at July 3, 2000................................. $ 3,672
</Table>
43
46
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
<Table>
<Caption>
ECONOMIC LIFE
-------------
Intangible assets acquired:
Customer base...................................... 239 3
Workforce-in-place................................. 1,564 5
Tradename.......................................... 1,111 5
Core technology.................................... 9,114 5
Current technology................................. 6,038 5
In-process research & development.................. 8,823
Goodwill........................................... 43,046 5
-------
$73,607
=======
</Table>
The Company recorded a one-time charge of $8,823,000 in the accompanying
consolidated statement of operations and comprehensive loss for 2000 for
purchased in-process technology related to a development project that had not
reached technological feasibility, had no alternative future use, and for which
successful development was uncertain.
The in-process development project is an integrated network solution for
data and voice over Internet protocol. At the time of acquisition, estimated
costs to complete the development were approximately $9,000,000. Management
expects that product being developed will become available for sale in fiscal
2001; however, no assurances can be given. Cost incurred on the project to date
is $10,600,000. Failure to reach successful completion of this project could
result in impairment of the associated capitalized intangible assets and could
require the Company to accelerate the time period over which the intangibles are
being amortized, which could have a material adverse effect on the Company's
business, financial condition or results of operations.
Significant assumptions used to determine the value of in-process
technology included several factors, including the following. First, an income
approach that focuses on the income producing capability of the acquired
technology, and best represents the present value of the future economic
benefits expected to derive from them. Second, a forecast of net cash flows that
were expected to result from the development effort, using projections prepared
by Com21's management. Third, a discount rate of 25% was computed after analysis
of the risk of an investment in GADline and considered the implied rate of the
transaction and the weighted average cost of capital.
In accordance with Financial Accounting Standards Board interpretation No.
44, "Accounting for Certain Transactions involving Stock Compensation," the
Company recorded the intrinsic value, measured as the difference between the
grant price and fair market value on the acquisition consummation date, of
unvested options assumed in the GADline acquisition as deferred stock
compensation. Such deferred stock compensation, which aggregated $727,000, is
recorded as a separate component of stockholders' equity and will be amortized
over the vesting term of the related options. For the year ended December 31,
2000, $159,000 of compensation expense related to these awards was recorded in
the accompanying consolidated statement of operations and comprehensive loss.
BitCom, Inc.
On July 6, 2000, pursuant to a Share Purchase Agreement (BitCom Agreement)
dated June 22, 2000 by Com21 and BitCom, Inc. (BitCom), a Delaware company with
facilities in Maryland, BitCom was merged with and into Com21. BitCom is an
engineering consulting and development company specializing in the fields of
wired and wireless telecommunications, satellite and networking engineering.
44
47
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
Pursuant to the BitCom Agreement, the Company acquired all of the
outstanding shares of BitCom for an aggregate purchase price of $4,000,000 in
cash. Additionally, the Company assumed 100,000 options to purchase BitCom
stock. On January 3, 2001, certain product development milestones defined in the
BitCom Agreement were met resulting in the issuance of an additional 50,000
shares of Com21 common stock valued on the measurement date at $263,000. This
amount will be recorded as stock compensation in the first quarter of 2001. The
Company also assumed certain operating assets and liabilities of BitCom. The
acquisition was treated as a purchase for accounting purposes. The total
purchase price as of July 6, 2000 was allocated to the assets acquired and
liabilities assumed based on their respective fair values as follows (in
thousands):
<Table>
Total purchase price:
Cash................................................ $4,000
Stock options assumed............................... 1,478
Acquisition expenses................................ 200
------
$5,678
======
Purchase price allocation:
Fair market value of net tangible assets acquired of
BitCom at July 6, 2000........................... $ 256
</Table>
<Table>
<Caption>
ECONOMIC LIFE
-------------
Intangible assets acquired:
Workforce-in-place.................................. 536 5
Goodwill............................................ 5,100 5
Deferred tax liabilities............................ (214)
------
$5,678
======
</Table>
In connection with the BitCom acquisition, the Company granted 245,000
shares of restricted common stock to former BitCom employees who have executed
Employment Agreements with Com21. The shares are released from restriction, in
proportionate amounts, at each of the three anniversary dates of the
acquisition. If an employee terminates prior to vesting, that employee's
restricted shares are subject to forfeiture. As of December 31, 2000, all shares
remained restricted. The Company recorded a deferred compensation charge of
$6,049,000, as a separate component of stockholders' equity, for the fair value
of the common shares on the issuance date and will amortize the amount, net of
forfeitures, over the three-year vesting period. For the year ended December 31,
2000, $1,008,000 of compensation expense related to these awards was recorded in
the accompanying consolidated statement of operations and comprehensive loss.
Pro Forma Financial Results
The operating results of GADline and BitCom have been included in the
accompanying consolidated statement of operations and comprehensive loss since
their acquisition date. The following unaudited pro forma consolidated results
of operations have been prepared assuming that the acquisitions occurred at the
beginning of 1999. The following pro forma financial information is not
necessarily indicative of the actual
45
48
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
results that would have occurred had the acquisitions been completed at the
beginning of 1999 nor is it indicative of future operating results:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
--------------------------
1999 2000
----------- -----------
(IN THOUSANDS, EXCEPT PER
SHARE DATA)
Total revenues......................................... $100,141 $196,824
Net loss............................................... $(30,664) $(59,384)
Net loss per share, basic and diluted.................. $ (1.32) $ (2.44)
Shares used in computation, basic and diluted.......... 23,214 24,346
</Table>
The pro forma results of operations give effect to certain adjustments,
including amortization of purchased intangibles, goodwill and deferred stock
compensation associated with the acquisition. The $8,823,000 charge for
purchased in-process research and development has been excluded from the pro
forma results, as it is a material non-recurring charge.
10. INCOME TAXES
Income tax expense for the years ended December 31, 1998, 1999 and 2000
consisted solely of state franchise taxes.
Differences between income taxes computed by applying the statutory federal
income tax rate to the loss before income taxes and the provision for income
taxes consist of the following:
<Table>
<Caption>
YEARS ENDED DECEMBER 31,
------------------------------
1998 1999 2000
------- ------- --------
(IN THOUSANDS)
Income taxes computed at 35% U.S. statutory rate............ $(4,672) $(3,592) $(19,612)
State income taxes.......................................... 14 55 22
Tax credits................................................. (1,822) (2,052) (5,059)
Foreign losses for which no benefit may be realized......... -- -- 6,110
Non-deductible acquisition charges.......................... -- -- 1,178
Non-deductible stock compensation........................... 14 48 1,700
Change in valuation allowance............................... 6,920 5,548 16,196
Other....................................................... (440) 48 (513)
------- ------- --------
Provision for income taxes.................................. $ 14 $ 55 $ 22
======= ======= ========
</Table>
46
49
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
The components of deferred income tax assets are as follows:
<Table>
<Caption>
DECEMBER 31,
--------------------
1999 2000
-------- --------
(IN THOUSANDS)
Deferred tax assets:
Accruals and reserves not currently deductible....... $ 2,508 $ 4,068
Capitalized start-up costs........................... 143 --
Capitalized research and development costs........... 1,884 3,651
Net operating loss carryforwards..................... 15,783 24,970
Tax credit carryforwards............................. 7,549 12,700
Depreciation......................................... 1,853 527
-------- --------
Total gross deferred tax assets.............. 29,720 45,916
Valuation allowance.................................... (29,720) (45,916)
-------- --------
Total deferred tax assets.................... $ -- $ --
======== ========
</Table>
The increase of $16,196,000 in the valuation allowance during the year
ended December 31, 2000 was primarily a result of increased net operating loss
and tax credit carryforwards generated in 2000. The Company provided a full
valuation allowance against the deferred tax assets based on the Company's
evaluation of the likelihood of realization of future tax benefits resulting
from the deferred tax assets.
As of December 31, 1999, the Company had $109,000 of deferred tax
liabilities resulting from unrealized gains on available-for-sale investments.
As of December 31, 2000 the Company had $214,000 of deferred tax liabilities
relating to certain intangible assets acquired in the BitCom acquisition. The
deferred tax liabilities have been included in other current liabilities in the
accompanying consolidated balance sheets.
As of December 31, 2000, the Company had available for carryforward net
operating losses for federal, state, and foreign income tax purposes of
$63,264,000, $27,762,000 and $7,670,000, respectively. Net operating losses of
$4,548,000 for federal and state tax purposes attributable to the tax benefit
relating to the exercise of nonqualified stock options and disqualifying
dispositions of incentive stock options are excluded from the components of
deferred income tax assets. The tax benefit associated with this net operating
loss will be recorded as an adjustment to stockholders' equity when the Company
generates taxable income. Federal net operating loss carryforwards will expire
if not utilized beginning in the years 2009 through 2020. State net operating
loss carryforwards will expire if not utilized beginning in the years 2001
through 2005.
As of December 31, 2000, the Company had available for carryforward
research and experimental tax credits for federal and state income tax purposes
of $7,575,000 and $4,482,000, respectively. Federal research and experimentation
tax credit carryforwards expire from 2009 through 2020. The Company also had
$643,000 in California manufacturers investment credits which expire from 2005
through 2010.
Current Federal and California tax laws include substantial restrictions on
the utilization of net operating losses and tax credits in the event of an
"ownership change" of a corporation. Accordingly, the Company's ability to
utilize net operating loss and tax credit carryforwards may be limited as a
result of such "ownership change." Such a limitation could result in the
expiration of carryforwards before they are utilized.
47
50
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
11. MAJOR CUSTOMERS
The following table summarizes total revenues and net trade accounts
receivable for unaffiliated customers which accounted for 10% or more of net
revenues or net trade accounts receivable:
<Table>
<Caption>
ACCOUNTS REVENUES
RECEIVABLE --------------------
------------ YEARS ENDED
DECEMBER 31, DECEMBER 31,
------------ --------------------
CUSTOMER 1999 2000 1998 1999 2000
-------- ---- ---- ---- ---- ----
A................................................. 25% -- 24% 20% --
B................................................. 39% -- 15% 18% --
C................................................. -- 26% -- -- 10%
D................................................. -- 19% -- -- 11%
E................................................. -- -- -- -- 12%
</Table>
12. RELATED PARTY TRANSACTIONS
In 1997, the Company received prepaid royalties pursuant to a licensing
agreement with a preferred stockholder of $1,000,000. Upon shipment of product
incorporating the Company's technology, $7,000 was recognized as license fee
revenue in 1997; and the remaining $993,000 was recognized in 1998 as license
fee revenue at the expiration of the royalty period on December 31, 1998. In
April 1998, this preferred stockholder sold its entire interest in the Company
to three other existing preferred stockholders.
For the year ended December 31, 1998, total revenues also included sales to
two stockholders of $6,600,000 and $1,030,000 (with related cost of revenues of
$4,098,000 and $15,000 respectively). As of December 31, 1998, accounts
receivable included amounts due from one stockholder of $1,644,000.
For the year ended December 31, 1999, total revenues included sales to a
customer of $8,289,000 (with related cost of revenues of $4,825,000) that the
Company has an investment in during 1999, and sales to a stockholder of
$11,113,000 (with related cost of revenues of $6,942,000). As of December 31,
1999, accounts receivable included amounts from the customer that the Company is
an investor in of $1,845,000 and amounts from the stockholder of $2,939,000.
For the year ended December 31, 2000, total revenues included sales to a
customer of $1,567,000 (with related cost of revenues of $1,225,000) that a
member of the Company's Board of Directors is an executive officer of, and sales
to a customer of $555,000 (with related cost of revenues of $363,000) that the
Company has an equity investment in during 2000. As of December 31, 2000,
accounts receivable included amounts from these customers of $278,000 and
$334,000, respectively.
13. EMPLOYEE BENEFIT PLAN
The Company has a defined contribution retirement plan (the Retirement
Plan), which has been determined by the Internal Revenue Service to be qualified
under Section 401(k) of the Internal Revenue Code of 1986. The Retirement Plan
covers essentially all full-time employees. Eligible employees may make
voluntary contributions to the Retirement Plan up to 15% of their annual
compensation. The Company has not made any employer contributions to the
Retirement Plan.
14. SEGMENT INFORMATION
For the years ended December 31, 1998, 1999 and 2000, the Company recorded
revenue from customers throughout the United States; Canada; The Netherlands;
Switzerland, Germany, the U.K., France, Spain, Denmark, Norway, Sweden, Finland,
Belgium, Czech Republic, Hungary, Iceland, Israel, Austria (collec-
48
51
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
tively referred to as Other Europe); Japan; China, Korea, Taiwan, Singapore,
Indonesia (collectively referred to as Asia); Mexico, Argentina, Chile, Panama,
Brazil (collectively referred to as South/Central America); and Australia/New
Zealand. The following presents total revenues for the years ended December 31,
1998, 1999 and 2000 and long-lived assets as of December 31, 1999 and 2000
attributed to significant countries (in thousands):
<Table>
<Caption>
1998 1999 2000
--------- ----------------------- -----------------------
TOTAL TOTAL LONG-LIVED TOTAL LONG-LIVED
REVENUES* REVENUES* ASSETS REVENUES* ASSETS**
--------- --------- ---------- --------- ----------
United States......................... $23,032 $50,385 $8,342 $ 64,365 $14,708
Canada................................ 1,332 3,273 138 12,580 15
The Netherlands....................... 3,925 15,900 -- 44,848 323
Other Europe.......................... 8,596 14,039 -- 26,015 4,423
Japan................................. 1,379 6,719 -- 30,761 --
Asia.................................. 500 322 14 10,626 9
South/Central America................. 2,027 1,688 -- 4,222 --
Australia/New Zealand................. 7,323 3,417 -- 566 --
------- ------- ------ -------- -------
Total....................... $48,114 $95,743 $8,494 $193,983 $19,478
======= ======= ====== ======== =======
</Table>
- ---------------
* Net revenues are attributed to countries based on invoicing location of
customer.
** Long-lived assets exclude net intangible assets resulting from acquisitions
of $60,057,000.
For purposes of segment reporting, the Company aggregates operating
segments that have similar economic characteristics and meet the aggregation
criteria of SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information." Based on such criteria, there are three operating and
reportable segments: ATM Products, DOCSIS Products and Voice Products. The ATM
Products segment develops, manufactures, and markets the proprietary cable
modems, ATM headend equipment and network management software. The DOCSIS
Products segment develops, manufactures, and markets DOCSIS cable modems for
both home and office. The Voice Products segment, based primarily in Israel,
develops, manufactures, and markets voice over Internet cable modems.
49
52
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
The following tables are the financial results the chief operating decision
maker, as defined by SFAS No. 131, utilizes in evaluating the performance of the
Company's reportable segments (in thousands):
<Table>
<Caption>
1998 1999 2000
------- ------- --------
Revenues:
ATM Products....................................... $48,114 $89,552 $125,037
DOCSIS Products.................................... -- 6,191 67,170
Voice Products..................................... -- -- 1,776
------- ------- --------
Total...................................... $48,114 $95,743 $193,983
======= ======= ========
Cost of Product Revenues:
ATM Products....................................... $29,573 $55,009 $ 87,073
DOCSIS Products.................................... -- 5,909 62,315
Voice Products..................................... -- -- 1,931
------- ------- --------
Total...................................... $29,573 $60,918 $151,319
======= ======= ========
Gross Profit
ATM Products....................................... $18,541 $34,543 $ 37,964
DOCSIS Products.................................... -- 282 4,855
Voice Products..................................... -- -- (155)
------- ------- --------
Total...................................... $18,541 $34,825 $ 42,664
======= ======= ========
</Table>
The Company's product lines differ primarily based on product functions.
Headend equipment controls the flow of data communications between cable modems
and an external network, such as the Internet or a corporate network. Cable
modems send and receive data over coaxial cable. Network management software
facilitates provisioning, fault isolation, network configuration, field
inventory, auto-discovery and performance for the headend equipment. For the
years ended December 31, 1998, 1999 and 2000, the Company recorded product
revenue from sales of headend equipment, cable modems and network management
software as follows:
<Table>
<Caption>
1998 1999 2000
------- ------- --------
Headend Equipment.................................... $19,578 $19,970 $ 27,583
Cable Modems......................................... 26,935 74,738 165,641
Network Management Software.......................... 608 1,035 759
License Fees......................................... 993 -- --
------- ------- --------
Product Revenues..................................... $48,114 $95,743 $193,983
======= ======= ========
</Table>
15. SUBSEQUENT EVENTS
On March 7, 2001, the Company entered into a definitive agreement to
complete an approximate $7,650,000 private equity financing. Pursuant to a
subscription agreement, dated February 28, 2001, the Company sold 2,450,000
shares of unregistered common stock at a price of $3.12 per share and a warrant
to acquire up to an additional 2,450,000 shares of the Company's common stock at
$9.10 per share. The warrant is immediately exercisable and remains exercisable
for a period of seven years from the date of issuance.
On March 26, 2001, the Company entered into an agreement that amends the
financial covenants of the $20,000,000 revolving line of credit. The amended
financial covenants are as follows: maintaining a minimum tangible effective net
worth of $70,000,000; a maximum debt-to-worth ratio of 1.00:1.00; a minimum
quick
50
53
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
ratio of 1:00:1:00; minimum net loss of $11,000,000 excluding non-cash charges
and one-time costs and expenses; and minimum unrestricted cash of $5,000,000.
16. SELECTED QUARTERLY FINANCIAL RESULTS (UNAUDITED)
The following tables set forth selected quarterly results of operations for
the years ended December 31, 1999 and 2000:
<Table>
<Caption>
QUARTERS ENDED
--------------------------------------------
MAR. 31, JUN. 30, SEP. 30, DEC. 31,
1999 1999 1999 1999
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Total revenues.............................. $19,214 $21,542 $25,269 $29,718
Gross profit................................ 8,468 8,427 8,953 8,977
Loss from operations........................ (2,502) (3,521) (3,961) (5,382)
Net loss.................................... (1,621) (2,153) (2,541) (4,002)
Net loss per share, basic and diluted....... $ (0.08) $ (0.10) $ (0.12) $ (0.19)
Shares used in computation, basic and
diluted................................... 19,472 21,299 21,426 21,532
</Table>
<Table>
<Caption>
QUARTERS ENDED
--------------------------------------------
MAR. 31, JUN. 30, SEP. 30, DEC. 31,
2000 2000 2000 2000
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Total revenues............................ $41,556 $51,358 $ 60,636 $ 40,433
Gross profit.............................. 12,564 14,036 9,696 6,368
Loss from operations...................... (3,840) (5,097) (25,643) (25,447)
Net loss.................................. (2,423) (3,741) (24,812) (25,080)
Net loss per share, basic and diluted..... $ (0.11) $ (0.17) $ (1.02) $ (1.02)
Shares used in computation, basic and
diluted................................. 21,763 21,931 24,242 24,555
</Table>
17. EVENTS SUBSEQUENT TO THE DATE OF INDEPENDENT AUDITORS' REPORT (UNAUDITED)
At March 31, 2001 we did not meet the maximum net loss covenant, as amended
March 26, 2001, on our $20,000,000 revolving line of credit. A waiver for this
violation was received on April 19, 2001.
During the quarter ended June 30, 2001, we recorded a restructuring charge
of approximately $67.4 million resulting from the spin-off of the Voice Systems
Divisions, the closure of the Wireless Division and Maryland Development Center,
the consolidation of facilities at the Milpitas, California headquarters, and
the costs related to a workforce reduction. Approximately $2.3 million of the
restructuring charge was disbursed in cash. An additional $4.8 million related
to vacated facilities is expected to be disbursed over the next four to five
years.
At June 30, 2001, we did not meet the minimum tangible effective net worth,
the maximum debt-to-worth and the maximum net loss ($2,500,000 for the quarter
ended June 30, 2001) covenants, as amended March 26, 2001, on our $20,000,000
revolving line of credit. A waiver for these violations was received on July 20,
2001.
In replacement of the waiver received on July 20, 2001, the bank amended
the revolving line of credit arrangement in August 2001. The amendment reduced
the maximum borrowing to the lesser of $7,500,000 or 65% of our eligible
domestic and foreign receivables until October 1, 2001, at which time the
percentage decreases to 55%. The bank increased the rate at which the borrowings
bear interest to the bank's prime rate plus 1.25%. The agreement amends the
financial covenants to a minimum tangible effective net worth of
51
54
COM21, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1998, 1999 AND 2000
$35,000,000; a maximum debt-to-worth ratio of 1.60:1.00; a minimum quick ratio
of 0.85:1.00; a maximum net loss of $12,500,000 for the second quarter of 2001
excluding non-cash charges up to $75,000,000 and $6,500,000 for the quarter
ending September 30, 2001; and minimum unrestricted cash of $5,000,000. As of
August 10, 2001, we had no availability for additional borrowings or draws under
the arrangement.
Additionally, the bank converted $1,500,000 of our outstanding borrowings
under the line into a term loan. The term loan will expire on December 1, 2001,
bears interest rate at the bank's prime rate, and is payable monthly.
Com21 has also agreed to refinance the $7,500,000 revolving line of credit
with another lender by September 28, 2001. We will be required to pay the bank a
monthly fee of $1,000 for extensions beyond the stipulated dates for the
replacement funding with another financial institution. As part of the
arrangement, Com21 has also agreed to seek additional equity funding.
52
55
PART IV
ITEM 14. EXHIBITS, CONSOLIDATED FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K
(a) THE FOLLOWING DOCUMENTS ARE FILED AS PART OF THIS ANNUAL REPORT:
1. Consolidated Financial Statements. The following Consolidated Financial
Statements of Com21, Inc. and related Independent Auditors' Report are filed as
part of this annual report:
Independent Auditor's Report
Consolidated Balance Sheets, as of December 31, 1999 and 2000
For the years ended December 31, 1998, 1999, and 2000:
Consolidated Statements of Operations and Comprehensive Loss
Consolidated Statements of Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
2. Consolidated Financial Statement Schedules. The following consolidated
financial statement schedules of Com21, Inc. are filed as part of this annual
report and should be read in conjunction with the Consolidated Financial
Statements of Com21, Inc.:
Financial Statement Schedules for the years ended December 31, 1998,
1999, 2000:
<Table>
<Caption>
SCHEDULE PAGE
-------- ----
II -- Valuation & Qualifying Accounts......... 58
</Table>
Schedules not filed herein are omitted because of the absence of conditions
under which they are required or because the information called for is shown in
the consolidated financial statements or notes thereto.
3. Exhibits.
The Exhibits listed on the accompanying Index to Exhibits are filed or
incorporated by reference as part of this annual report.
(b) REPORTS ON FORM 8-K
On April 24, 2000, Com21 filed a report on Form 8-K which announced that it
has entered into a definitive agreement to acquire privately held GADline, Ltd.
For approximately 2.8 million shares.
On July 18, 2000, Com21 filed a report on Form 8-K which announced the
completion of the GADline, Ltd. Acquisition on July 3, 2000.
On September 18, 2000, Com21 filed an amendment to the Form 8-K filed on
July 18, 2000 to provide detail on the acquisition of GADline, Ltd.
On December 6, 2000, Com21 filed an amendment to Form 8-K filed on July 18,
2000 and September 18, 2000.
On February 14, 2001 Com21 filed a report on Form 8-K which announced its
earnings for the fourth quarter and twelve months ended December 31, 2000.
On March 7, 2001, Com21 filed a report on Form 8-K which announced that it
had entered into an agreement with Fletcher International, Ltd. to sell Fletcher
2,450,000 shares of common stock and a warrant to purchase 2,952,250 shares of
common stock.
53
56
(c) EXHIBITS
The following exhibit list states, in the case of certain exhibits, a prior
SEC filing which contains the exhibit and from which it is incorporated by
reference.
Index to Exhibits
<Table>
<Caption>
NUMBER EXHIBIT TITLE
--------- -------------
3.1(1) Registrant's Amended and Restated Certificate of
Incorporation.
3.2(1) Registrant's Amended and Restated Bylaws.
4.1(1) Form of Registrant's Specimen Common Stock Certificate.
4.2(1) Amended and Restated Information and Registration Rights
Agreement, among the Registrant and the investors and
founders named therein, dated July 22, 1997.
10.1(1) Lease Agreement between the Company, John Arrillaga and
Richard T. Peery, dated May 10, 1996.
10.2+(1) Technology License and Reseller Agreement between the
Company and 3Com Corporation, dated March 22, 1996.
10.3+(1) Reseller Agreement between the Company and 3Com Corporation,
dated July 30, 1997.
10.4+(1) Hardware and Software Technology License Agreement between
the Company, Advanced Telecommunications Modules, Limited
and Advanced Telecommunications Modules, Inc., dated
February 1, 1996.
10.5(1) Registrant's 1995 Stock Option Plan.
10.6(1) Registrant's 1998 Stock Incentive Plan.
10.7(1) Registrant's 1998 Employee Stock Purchase Plan.
10.8(1) Form of Indemnity Agreement entered into by Registrant with
each of its executive officers and directors.
10.9(1) Loan and Security Agreement between Registrant and Greyrock
Business Credit, dated May 30, 1997.
10.10+(1) International OEM Agreement between the Company, Advanced
Telecommunications Modules, Inc. and Advanced
Telecommunications Modules, Limited, dated March 7, 1996.
10.11+(1) Agreement for Manufacturing Services between the Company and
Celestica, Inc., dated October 25, 1996.
10.12+(1) Wind River Systems, Inc. VxWorks License Agreement.
10.13+(1) Purchase and License Agreement by and between the Company
and Siemens AG, dated December 2, 1997.
10.14+(1) Distribution Agreement by and between the Company and
Philips Public Telecommunication Systems, dated November 26,
1997.
10.15+(4) Share Purchase Agreement by and between Com21 and GADline,
Ltd. dated July 3, 2000
10.16+(5) Share Purchase Agreement by and between Com21 and BitCom,
Inc. dated July 6, 2000
10.17(6) Revolving Credit and Security Agreement between Registrant
and Comerica Bank -- California, dated December 1, 2000 and
amended as of March 14, 2001.
10.18+(3) Registrant's 2000 Stock Option Plan.
</Table>
54
57
<Table>
<Caption>
NUMBER EXHIBIT TITLE
--------- -------------
10.19(6) Lease Agreement between the Company, John Arrillaga and
Richard T. Peery, dated April 28, 2000.
10.20 [Intentionally left blank]
10.21(7) Agreement, dated February 28, 2001, by and between the
Registrant and Fletcher International, Ltd.
10.22(7) Warrant Certificate, dated March 6, 2001, by and between the
Registrant and Fletcher International, Ltd.
21.1(6) Subsidiaries.
23.1 Independent Auditors' Consent.
23.2(6) Independent Auditors' Report on Schedule.
</Table>
- ---------------
+ Confidential treatment has been granted as to a portion of this Agreement.
(1) Previously filed as an Exhibit to the Registrant's Registration Statement on
Form S-1 (File No. 333-48107).
(2) Previously filed as an exhibit to the Registrant's Registration Statement on
Form S-1 (File No. 333-70945).
(3) Previously filed as an exhibit to the Registrant's Registration Statement on
Form S-8 (File No. 333-39898).
(4) Previously filed as an exhibit to the Registrant's Registration Statement on
Form S-8 (File No. 333-46144).
(5) Previously filed as an exhibit to the Registrant's Current Report on Form
8-K (File No. 000-24009).
(6) Previously filed as an exhibit to the Registrant's Annual Report on Form
10-K filed April 5, 2001.
(7) Previously filed as an exhibit to the Registrant's current report on Form
8-K (File No. 000-24009).
55
58
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this amendment to Annual Report on Form 10-K to be
signed on its behalf by the undersigned, thereunto duly authorized.
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Date: August 28, 2001
COM21, INC.
By: *
------------------------------------
Craig Soderquist
President and Chief Executive
Officer
In pursuant to the requirements of the Securities Exchange Act of 1934,
this Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<Table>
<Caption>
SIGNATURE TITLE DATE
--------- ----- ----
* President, Chief Executive August 28, 2001
- ----------------------------------------------------- Officer and Director (Principal
Craig Soderquist Executive Officer)
/s/ RALPH MARIMON Vice President, Finance August 28, 2001
- ----------------------------------------------------- (Principal Financial and
Ralph Marimon Accounting Officer)
* Director August 28, 2001
- -----------------------------------------------------
Paul Baran
* Director August 28, 2001
- -----------------------------------------------------
George Merrick
* Director August 28, 2001
- -----------------------------------------------------
James Gagnard
* Director August 28, 2001
- -----------------------------------------------------
James Spilker
* Director August 28, 2001
- -----------------------------------------------------
Daniel J. Pike
* Director August 28, 2001
- -----------------------------------------------------
Susan Nycum
*By: /s/ RALPH MARIMON
-------------------------------------------------
Ralph Marimon
Attorney-in-Fact
</Table>
56
59
EXHIBIT INDEX
<Table>
<Caption>
NUMBER EXHIBIT TITLE
--------- -------------
3.1(1) Registrant's Amended and Restated Certificate of
Incorporation.
3.2(1) Registrant's Amended and Restated Bylaws.
4.1(1) Form of Registrant's Specimen Common Stock Certificate.
4.2(1) Amended and Restated Information and Registration Rights
Agreement, among the Registrant and the investors and
founders named therein, dated July 22, 1997.
10.1(1) Lease Agreement between the Company, John Arrillaga and
Richard T. Peery, dated May 10, 1996.
10.2+(1) Technology License and Reseller Agreement between the
Company and 3Com Corporation, dated March 22, 1996.
10.3+(1) Reseller Agreement between the Company and 3Com Corporation,
dated July 30, 1997.
10.4+(1) Hardware and Software Technology License Agreement between
the Company, Advanced Telecommunications Modules, Limited
and Advanced Telecommunications Modules, Inc., dated
February 1, 1996.
10.5(1) Registrant's 1995 Stock Option Plan.
10.6(1) Registrant's 1998 Stock Incentive Plan.
10.7(1) Registrant's 1998 Employee Stock Purchase Plan.
10.8(1) Form of Indemnity Agreement entered into by Registrant with
each of its executive officers and directors.
10.9(1) Loan and Security Agreement between Registrant and Greyrock
Business Credit, dated May 30, 1997.
10.10+(1) International OEM Agreement between the Company, Advanced
Telecommunications Modules, Inc. and Advanced
Telecommunications Modules, Limited, dated March 7, 1996.
10.11+(1) Agreement for Manufacturing Services between the Company and
Celestica, Inc., dated October 25, 1996.
10.12+(1) Wind River Systems, Inc. VxWorks License Agreement.
10.13+(1) Purchase and License Agreement by and between the Company
and Siemens AG, dated December 2, 1997.
10.14+(1) Distribution Agreement by and between the Company and
Philips Public Telecommunication Systems, dated November 26,
1997.
10.15+(4) Share Purchase Agreement by and between Com21 and GADline,
Ltd. dated July 3, 2000
10.16+(5) Share Purchase Agreement by and between Com21 and BitCom,
Inc. dated July 6, 2000
10.17(6) Revolving Credit and Security Agreement between Registrant
and Comerica Bank -- California, dated December 1, 2000 and
amended as of March 14, 2001.
10.18+(3) Registrant's 2000 Stock Option Plan.
10.19(6) Lease Agreement between the Company, John Arrillaga and
Richard T. Peery, dated April 28, 2000.
10.20 [Intentionally left blank]
10.21(7) Agreement, dated February 28, 2001, by and between the
Registrant and Fletcher International, Ltd.
10.22(7) Warrant Certificate, dated March 6, 2001, by and between the
Registrant and Fletcher International, Ltd.
</Table>
60
<Table>
<Caption>
NUMBER EXHIBIT TITLE
--------- -------------
21.1(6) Subsidiaries.
23.1 Independent Auditors' Consent.
23.2(6) Independent Auditors' Report on Schedule.
</Table>
- ---------------
+ Confidential treatment has been granted as to a portion of this Agreement.
(1) Previously filed as an Exhibit to the Registrant's Registration Statement on
Form S-1 (File No. 333-48107).
(2) Previously filed as an exhibit to the Registrant's Registration Statement on
Form S-1 (File No. 333-70945).
(3) Previously filed as an exhibit to the Registrant's Registration Statement on
Form S-8 (File No. 333-39898).
(4) Previously filed as an exhibit to the Registrant's Registration Statement on
Form S-8 (File No. 333-46144).
(5) Previously filed as an exhibit to the Registrant's Current Report on Form
8-K (File No. 000-24009).
(6) Previously filed as an exhibit to the Registrant's Annual Report on Form
10-K filed April 5, 2001.
(7) Previously filed as an exhibit to the Registrant's current report on Form
8-K (File No. 000-24009).