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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _________ TO _________
COMMISSION FILE NUMBER: 0-26820
TERA COMPUTER COMPANY
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
WASHINGTON 93-0962605
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
411 FIRST AVENUE SOUTH,
SUITE 600, SEATTLE, WASHINGTON 98104-2860
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (206) 701-2000
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE EXCHANGE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE EXCHANGE ACT:
COMMON STOCK , $.01 PAR VALUE
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the past 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days: Yes [X[] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the Common Stock held by non-affiliates of the
Registrant as of March 24, 2000 was approximately $185,000,000, based upon the
last sale price of $6.25 reported for such date on the Nasdaq National Market
System.
As of March 24, 2000, there were 32,372,240 shares of Common Stock issued
and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement to be delivered to shareholders in connection
with the Registrant's Annual Meeting of Shareholders to be held on May 31, 2000
are incorporated by reference into Part III.
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TERA COMPUTER COMPANY
FORM 10-K
FOR FISCAL YEAR ENDED DECEMBER 31, 1999
INDEX
Page
----
PART I
Item 1. Business 3
Item 2. Properties 22
Item 3. Legal Proceedings 22
Item 4. Submission of Matters to a Vote of Security Holders 22
Item E.O. Executive Officers of the Company 23
PART II
Item 5. Market for the Company's Common Equity and Related
Stockholder Matters 25
Item 6. Selected Financial Data 26
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 28
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 33
Item 8. Financial Statements and Supplementary Data 33
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure 34
PART III
Item 10. Directors and Executive Officers of the Company 35
Item 11. Executive Compensation 35
Item 12. Security Ownership of Certain Beneficial Owners
and Management 35
Item 13. Certain Relationships and Related Transactions 35
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 36
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PART I
ITEM 1. BUSINESS
INTRODUCTION
The Company designs, develops and markets high performance general purpose
parallel computer systems. Tera's Multithreaded Architecture System ("MTA")
system addresses not only a wide range of scientific and engineering
applications such as simulation and visualization of complex mechanical and
biochemical systems, but also emerging commercial applications such as
computer-aided design and visualization, information-on-demand and database
mining. The Company believes that its MTA system architecture represents a
significant breakthrough in high performance computing that will enable the
Company to offer systems with several times the price/performance of currently
available commercial high performance computer systems. Typical MTA system
configurations are expected to sell for between $5 million and $40 million. The
Company installed a two-processor MTA system at the San Diego Supercomputer
Center ("SDSC") in April 1998 and recognized its first revenue from product
sales. In 1999, the MTA system was upgraded to four-processors and then to
eight-processors, and the Company is currently upgrading the MTA system at SDSC
to sixteen-processors.
On March 1, 2000, the Company signed a definitive agreement to acquire the
Cray Research supercomputer business unit and the Cray brand name from Silicon
Graphics, Inc. The acquisition of the Cray Research unit is subject to customary
regulatory approvals, agreement with Silicon Graphics regarding transition
issues and other closing conditions, and is expected to close before the end of
April 2000. If and when this acquisition is consummated, the Company, which
would be renamed "Cray Inc.," and its business operations would change
significantly. For further information, see "Agreement to Acquire Cray" below.
The Company was incorporated under the laws of the State of Washington in
December 1987. Its principal offices are located at 411 First Avenue South,
Suite 600, Seattle, Washington, 98104-2860, and its telephone number is (206)
701-2000.
HIGH PERFORMANCE COMPUTER INDUSTRY
Historically the need for greater computing power for scientific, engineering
and commercial applications has increased significantly. This need typically has
been met by high performance computer systems for scientific and engineering
applications and by mainframes for commercial applications, with millions of
dollars invested per system.
For scientific applications, the increased need for computing power has been
driven by an increased focus on highly challenging basic and applied scientific
problems that can be met only through numerically intensive computation. For
engineering applications, high performance computers provide a method of
decreasing the time to market through the use of computational modeling to
develop and verify engineering solutions across a broad range of industries. The
U.S. Government has recognized that the continued development and use of high
performance computer systems for these technical applications is of critical
importance to the economic competitiveness of the United States.
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For commercial applications, pressures resulting from global competition,
reduced cost of communication and the proliferation of data from the enormous
number of workstations and personal computers also have increased the need for
high performance computing. For competitive reasons, many large commercial users
have concluded that enterprise-wide computing applications require immediate
interactive processing of available data. In order to process data in such a
manner, users must move away from batch processing but cannot do so because of
the limited computational capacities of their existing systems.
Computer architects have taken a variety of approaches in their efforts to
achieve higher levels of performance. Traditionally, high performance computer
systems use a few of the fastest available single processors. Improvements in
performance have been achieved through faster switching times and greater
densities and, in the case of numerically intensive applications, by employing
vector processing. This approach, employed most notably by Cray Research
Corporation (prior to its acquisition by Silicon Graphics, Inc) and NEC
Corporation, repeatedly applies the same operation to each of a sequence of data
elements. Vector multiprocessing is highly effective for many scientific and
engineering applications, but not for most commercial applications.
A number of computer companies, including IBM, Silicon Graphics, Inc.,
Hitachi, Ltd., Fujitsu, Ltd., Sun Microsystems, Inc. and Hewlett-Packard
Corporation, have turned to massively parallel processing as a way to achieve
greater computational power and improved price/performance. Massively parallel
processing enables large numbers of processors to act either concurrently on
multiple tasks, or in concert on a single computationally-intensive task. In
these systems, each processor is directly connected to its own private memory
and the programmer must manage the movement of data among memory units. As a
result, computer systems relying on this architecture can be difficult to
program and have limited applicability.
While some users have developed scientific and engineering software for
certain applications on massively parallel systems, it has not been practical
for them to migrate a large number of third-party software applications to these
systems. The Company believes that the absence of an easy-to-use software
development environment has inhibited third-party application programs, which in
turn has restricted market acceptance of massively parallel processing systems.
Users of high performance computer systems therefore have limited choices.
Mainframes and vector multiprocessing systems permit a conventional programming
environment, but are subject to inherent size limitations and are limited in the
number of processors used, while massively parallel processing systems can be
difficult or impractical to program and have limited applicability.
THE TERA SOLUTION
The Company believes that its MTA system architecture represents a
significant breakthrough in high performance computing. The key to this
breakthrough is its scalable shared memory, which the Company believes will
enable the MTA system to overcome limitations of currently available commercial
high performance computer systems. The MTA system is designed to have all of the
following key attributes to serve the evolving needs of the high performance
computer market effectively: (i) sustainable high speed, (ii) broad
applicability, (iii) ease of software programmability
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and portability, (iv) scalability, (v) balanced input/output capability and (vi)
a future product migration path. See "--Technology " and "--Products."
Scalable shared memory provides every processor with equal access to every
memory location. This greatly simplifies programming because it eliminates
concerns about the layout of data in memory. It also provides a very flexible
and efficient approach to parallelism since any available processor can operate
on any data no matter where the data are located. Applications with irregular or
unpredictable internal data flow patterns are facilitated by this capability.
The historical drawback of shared memory has been its slowness due to some
processors being physically distant from some areas of memory and the likelihood
of conflicts when two or more processors attempt to access the same memory
location. Both factors increase the latency, or delay, experienced when a
processor attempts to access a memory location. The MTA system's architecture is
designed to be latency tolerant: a processor never wastes time waiting to access
memory. Tera's design accomplishes this by using a combination of multithreaded
architecture and a high bandwidth interconnection network.
The MTA system software supports and leverages the scalable shared memory
that the architecture provides. Programs are analyzed and parallelism is
extracted automatically, greatly simplifying the implementation of new
applications. In addition, most programs written for Cray Research's vector
multiprocessing systems are automatically translated by Tera's system software
to run at high speed on the MTA system with minimal changes.
STRATEGY
Tera's objective is to be the leading provider of high performance computer
systems to the scientific, engineering and emerging commercial markets. Key
elements of the Company's strategy include:
- - Establish and Leverage a Dominant Position in the Very High Performance
Scientific Computer Market.
Initially the Company intends to target the very high performance scientific
computer market. Sales targets in this market include government agencies,
supercomputer centers and research laboratories in the United States and
Western Europe. These users generally are easily identifiable and well
established, possess significant resources, develop their own application
software, and are reliant upon, and are early customers for, innovative high
performance computer systems. The Company's delivery of its MTA system to the
San Diego Supercomputer Center is in an example of its progress in
implementing this strategy.
The Company believes that establishing a dominant position in the very high
performance scientific market should provide it with the necessary foundation
and credibility, financial and otherwise, to attract independent software
vendors (ISV's) to port their application software to the MTA system. The
Company believes that the availability of third-party software should enable
it to address effectively the worldwide high performance engineering computer
market for applications such as computational fluid dynamics and molecular
modeling. For example, the
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Company is porting LS-DYNA, a car-crash simulation code owned by Livermore
Software Technology Corporation; Gaussian, a leading molecular modeling code
owned by Gaussian, Inc., and, MSC/NASTRAN, a leading structural analysis code
used in a wide variety of engineering applications, which is owned by MSC
Software Corporation.
In addition, the Company intends to develop and support, both internally and
in cooperation with ISV's, application software to enable the Company to
address certain segments of the emerging commercial computer market. See
"--Risk Factors--The Absence of Third-Party Application Software Translated
to Run on the MTA System Could Adversely Affect Our Ability to Make
Commercial Sales."
- - Establish and Leverage Strategic Relationships.
The Company is establishing strategic relationships with leading participants
in various segments of the high performance computer market. The Company
believes these relationships should enable it to take advantage of the
superior resources, technological capabilities and proprietary positions of
these entities in advancing Tera's position in the high performance computer
market. Over its history, the Company has received approximately $19.4
million from the Department of Defense Advanced Research Projects Agency
("DARPA") to assist in funding the development of the MTA system. Pursuant to
its agreements with DARPA, the Company has exclusive commercial rights to the
technical data and computer software developed with this funding. The
Company's obligation under this funding has been to use its best efforts to
develop the technology, and it is not subject to any penalty or repayment
provision if it were unsuccessful.
The Company intends to emphasize the development of relationships with large
scale high performance computer users, such as Fortune 200 companies and
major financial institutions, in tandem with the ISV's supplying software to
these organizations to port that software to the MTA system.
TECHNOLOGY
The MTA system is designed to incorporate the following technological
characteristics:
Sustained High Speed. The MTA system's high speed is due to a combination of a
high clock rate and multithreaded scalar pipelines. Presently, each processor
has an execution rate of about 800 million operations per second with peak
64-bit floating point performance also about 800 million floating point
operations per second. Each input/output processor has a peak transfer rate of
up to four hundred million bytes per second. Sustained performance is expected
to be up to 50% of these figures.
Scalability. The MTA system is designed to use a large number of processors in a
single system effectively. The current design is being modified to support
systems of up to 256 processors. The next generation MTA system is expected to
accommodate several thousand processors.
Multithreaded Architecture. The MTA system architecture supports up to 128
separate threads of execution per processor (over 8,000 threads in a
64-processor system). When a processor
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dispatches an instruction for the current thread, it instantly switches to the
next thread that is ready to continue. The hardware handles this switching
automatically, with no intervening machine cycles, resulting in zero switching
overhead.
Threads may come from totally separate programs or from a single program. Tera's
compilers automatically extract parallelism from software programs and create
multiple threads to maximize performance. The MTA operating system is designed
to execute multiple user programs simultaneously, even within a single
processor. The input/output processors are latency tolerant and address data
anywhere in the system.
High Bandwidth Interconnection Network. All hardware resources in the MTA
system, namely computational processors, input/output processors and memory
units, are interconnected via a three-dimensional pipelined network. This
network is a key factor in the ability of MTA systems to scale up to thousands
of processors without compromising system performance or programmability.
Compilers and Runtime System. The MTA system software exploits the speed
potential of the hardware without burdening the programmer with the details of
how this is accomplished. The MTA system's parallelizing compilers analyze
programs written in conventional languages, such as FORTRAN, C or C++, and
determine the parts of a program's computations that can be executed
simultaneously. The compiler then generates the machine instructions to create
separate execution threads for these parallel parts. Tera's runtime system, in
conjunction with the system's compilers, automatically distributes and balances
the threads in a parallel program to the available processors, and adapts to
changing parallelism as the application runs by acquiring and releasing
processors. The Tera debugger allows programmers to find mistakes in their
applications by displaying and monitoring the instructions and variables in an
application program. The debugger is tightly integrated with the compiler and
runtime system to allow users to debug parallel programs.
Software Portability. Tera's compilers are designed to compile most programs
written for Cray Research's vector multiprocessing systems into parallel
programs automatically. Typical scientific applications contain between 10,000
and 1,000,000 lines of source code. It can take years to rewrite a program to
run on new hardware, and additional years of testing and use before the code is
considered trustworthy enough for actual production work. This portability
problem is a major deterrent to the acceptance of any new computer system. To
alleviate this problem, Tera has designed its language compilers and libraries
to be compatible with those from Cray Research, with the goal that most Cray
Research applications can be made to run and produce correct answers very
quickly. Performance tuning may take considerably longer.
Operating System. The dominant operating system in high performance computing is
UNIX. Tera's operating system, MTX, a fully distributed and symmetric
implementation of UNIX, provides high performance network connections and a
highly concurrent file system. Both batch processing and interactive processing
are supported. Tera has delivered MTX to the San Diego Supercomputer Center, and
is integrating more standard UNIX utilities and high performance input/output
peripherals and increasing system stability. The Company anticipates that MTX
will become commercially stable with sufficient features for the commercial
market prior to the end of 2000.
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PRODUCTS
The Company has designed a number of configurations of the MTA system. Each
system will be constructed from resource modules with the model number
indicating the number of these resource modules, e.g., the MTA-16 model has 16
resource modules. Each resource module contains the following resources:
- a computational processor
- an input/output processor; and
- two memory units.
Each resource is individually connected to a separate routing node in the MTA
system's interconnection network. Each resource connection is designed to be
capable of supporting data transfers to and from memory at full processor rate
in both directions, as are all of the connections between the network routing
nodes themselves.
The Company built a prototype from production components in late 1996, which
was used to verify and debug mechanical components and assembly procedures. In
1997, the Company began construction of its initial production MTA system. In
December 1997, the Company installed a single processor MTA system at SDSC. In
April 1998, the Company installed a two-processor system at SDSC, which it
upgraded in stages to eight-processors in 1999. The Company is upgrading this
system to sixteen processors.
The Company is working on successive product implementations and generations.
The Company is currently engaged in a project to move from gallium arsenide
integrated circuits to CMOS (complementary metal-oxide silicon) integrated
circuits, which will enable the Company to improve system performance and
price/performance and lower the cost of entry level systems. The Company is also
working on network configurations for very large system sizes. These future
products will be designed to enhance the Company's technological position while
potentially broadening its market acceptance. The Company believes that denser
integrated circuit technology should enable the scaling up of systems to
thousands of processors while preserving its uniform shared memory programming
model. Finally, the Company may take advantage of the ability of the MTA system
to scale down to compete with workstation and other microprocessor-based
products either directly or through a relationship with a current participant in
that market. See "--Risk Factors -- Our Inability to Overcome the Technical
Challenges of Completing the Development of the MTA System Could Cause Our
Business to Fail." and "--Our Inability To Complete The Replacement Of Our
Current Integrated Circuits With CMOS Integrated Circuits Could Delay Commercial
Sales And Resulting Revenues."
MARKETS AND APPLICATIONS
The MTA system has been designed for prospective customers with demanding
science, engineering and commercial applications. Because of its general purpose
characteristics, the Company believes that the MTA system may be employed across
a broad range of mainstream and emerging high performance computer applications,
and should find early acceptance in industries with key "time-to-market" issues.
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While funding for certain defense programs has decreased in recent years,
total U.S. government expenditures for high performance computer systems have
been augmented by funding under various high performance computing programs. In
addition, important areas of civilian research, such as energy and environmental
studies, climate modeling and toxic mitigation, are receiving federal funding,
and the formerly defense-oriented national research laboratories are in many
cases reorganizing for non-military projects. See "--Risk Factors-- Lack of
Government Funding for Supercomputer Systems Would Adversely Affect Our Business
and Increase Our Capital Requirements."
Government agencies, supercomputer centers and research laboratories are
particularly attractive prospective customers for Tera because they generally
have a higher tolerance for risks inherent in a complex, innovative product.
This market has a limited number of customers that are well known to each other
and to their existing and potential suppliers, including Tera. The Company
maintains relationships with many of the management and staff of these potential
customers. Addressing this market initially will help the Company avoid the
costs of assembling a large sales organization and developing a broad range of
application software. With a sales cycle for its intended products of two years
or longer, the Company will add sales, service, training and support personnel
as needs arise.
As third-party application software becomes available on the MTA system, the
Company has begun to increase its marketing efforts to the high performance
engineering and commercial computer market, where it believes major growth
opportunities may exist. This market is more risk-averse than the Company's
initial market and the Company does not expect significant sales in this market
until the MTA system is well established.
Scientific and Engineering Applications. The Company expects that its
prospective customers running scientific and engineering applications will
purchase MTA systems largely for numerically intensive computations and will
increasingly make use of the MTA system's input/output capabilities to handle
the large amounts of data associated with such computations. The Company's
prospective customers include government agencies, supercomputer centers and
research laboratories that are expected to use the MTA system for a variety of
applications, including basic research in the fields of biology, chemistry,
environmental science, materials science and physics.
Prospective customers within the United States government include such
organizations as the National Science Foundation, the Department of Defense, the
National Security Agency, the Department of Energy, the National Aeronautics and
Space Administration and the National Institutes of Health. These prospective
customers have a number of computationally-intensive applications, including the
following:
- National security
- Severe storm modeling
- Earth observation
- Climate modeling
- Computational fluid dynamics
- Human genome sequencing
- Military battlefield simulation
- Groundwater pollutant transport
- Computational biology
- Computational chemistry
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The Company intends to market its MTA systems to a wide range of prospective
industrial customers with major computationally-intensive, technical computing
requirements, including the following:
- Automobile crash simulation
- Structural analysis
- Nuclear reactor design
- Drug and chemical design
- Petroleum reservoir modeling
- Electromagnetic simulation
- Multidisciplinary optimization
- Animations, computer graphics
Emerging Commercial Applications. The Company expects that prospective
commercial customers may purchase MTA systems either to implement strategic new
applications or to improve their processing capabilities for traditional
commercial applications. These applications include:
- Interactive Simulation and Visualization -- allowing users the ability to
design and develop products such as automobiles, aircraft and buildings.
- Information-on-Demand -- the management, storage and distribution of
multimedia data for instantaneous access by thousands of interactive,
simultaneous users.
- Database Mining -- access and examination of databases to identify
significant data patterns relevant to consumer preferences, insurance
claims and fraud.
RESEARCH AND DEVELOPMENT
The Company's primary research and development activities have included the
design of the hardware components and software required for its MTA system. The
Company's research and development expenses were approximately $13.2 million in
1997, $13.7 million in 1998, and $15.2 million in 1999. The Company believes
that its future performance will depend in large part on its ability to design,
develop, contract for the manufacture of, and market for, its MTA system.
Additionally, the Company must develop ongoing enhancements to its MTA system
and its MTX operating system and develop new product generations. Consequently,
the Company will be required to continue to devote a substantial portion of its
resources to research and development activities.
MANUFACTURING
While the Company has designed all of the MTA system hardware components, it
subcontracts the manufacture of these components, including integrated circuits,
printed circuit boards, flex circuits and power supplies, on a sole or limited
source basis to third-party suppliers. The Company's strategy is to avoid the
large capital commitment and overhead associated with establishing manufacturing
facilities and to maintain the flexibility to adopt new technologies if and when
they become available without the risk of equipment obsolescence. The Company
performs final system integration and testing, and designs and maintains its MTA
system software internally.
Hardware. The Company's general strategy is to capitalize on state-of-the-art
commercial technology available from third-party suppliers. The Company
contracts with Vitesse
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Semiconductor Corporation and TriQuint Semiconductor, Inc., for the supply of
gallium arsenide wafers and with a limited number of vendors for various printed
circuit boards, flex circuits, power supplies, and test and packaging services
and purchases other components and services on an as-needed basis. The Company
has contracted with Taiwan Semiconductor Manufacturing Company Ltd. as its CMOS
foundry. In general, the Company has designed hardware components using such
suppliers' tools and procedures. The Company has designed at-speed testers to be
used for diagnosis and repair both in assembly and in the field. Component
failures are analyzed in cooperation with the supplier of the component to
determine the cause and to take corrective action. See "--Risk Factors-- Our
Inability to Obtain Acceptable Hardware Components Will Delay Our Development
Efforts and Strain Our Financial Resources." and "--Our Reliance on Third Party
Suppliers Poses Significant Risks to Our Business and Prospects."
Quality Assurance. The MTA system uses the test and simulation programs
developed during product design for both manufacturing testing and field
maintenance. A large amount of built-in test support has been incorporated in
the design of the MTA system to minimize both the time and effort required to
integrate a complete system and the time needed to diagnose and repair it
on-site. Quality assurance is performed at the component, board, modular
subsystem and complete system level. The Company has designed the MTA system to
incorporate a high degree of manufacturability and serviceability, including
completely scannable logic and lithographic interconnection techniques.
Software. Most of the MTX system software has been designed, and all of it
will be maintained, by the Company. Although the Company's MTX operating system
is based on UNIX, the kernel and the file system were implemented by the Company
to allow much greater parallelism. UNIX utilities are being ported to the MTX
system. The Company has licensed certain mathematical library routines from IBM.
COMPETITION
The high performance computer market is intensely competitive. The barriers
to entry and the cost of remaining competitive are high. The Company's
competitors can be divided into two general categories: established companies
that are well-known in the high performance computer market and new entrants
capitalizing on developments in massively parallel processing and increased
computer performance through clusters or networks of workstations.
The high performance computer market has been dominated by Cray Research.
(The Company has signed a definitive agreement to purchase Cray Research. See "
- -Agreement to Acquire Cray" below.) Other participants in the market include IBM
and Japanese companies such as Fujitsu, Ltd., Hitachi, Ltd., and NEC
Corporation. To date, the Japanese suppliers, as a group, have been largely
unsuccessful in the U.S. high performance computer market but have been enjoying
increasing success in foreign markets. The Company competes with these companies
by offering MTA systems with superior performance, together with software
compatibility with the installed Cray computer base. See "--Technology--Software
Portability." To the extent that all of these companies continue to use vector
multiprocessing systems, they remain subject to inherent limitations of vector
multiprocessing system performance and on system scalability. See "--High
Performance Computer Industry." Each of these competitors, however, has broader
product lines
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and substantially greater engineering, manufacturing, marketing
and financial resources than the Company.
A number of companies, including IBM, Silicon Graphics, Inc., Hitachi,
Ltd., Fujitsu, Ltd., Sun Microsystems, Inc., Hewlett-Packard Corporation
and Compaq Computer Corporation, have developed or plan to develop
massively parallel systems for the high performance market. Massively
parallel systems have been limited in applicability and can be difficult
to program, although a breakthrough in architecture or software technology
could change this situation. See "--High Performance Computer Industry"
and "--Risk Factors-- We May Be Unable to Compete Successfully in the High
Performance Computer Market."
INTELLECTUAL PROPERTY
The Company attempts to protect its trade secrets and other proprietary
rights through formal agreements with its employees, customers, suppliers and
consultants, and through patent protection. Although the Company intends to
protect its rights vigorously, there can be no assurance that its contractual
and other security arrangements will be successful. There can be no assurance
that such arrangements will not be terminated or that the Company will be able
to enter into similar arrangements on favorable terms if required in the future.
Although the Company has not been a party to any material intellectual property
litigation, third parties may assert proprietary rights claims covering certain
of the Company's products and technologies. See "--Risk Factors--We May Not Be
Able To Protect Our Proprietary Information and Rights Adequately."
Due to the abundance of prior art in the computer sciences, Tera does not
expect to acquire broad-based patent protection of its MTA system architecture,
although the Company will attempt to obtain patent protection for significant
aspects of its MTA system architecture. The Company has one software patent
covering certain aspects of compiler optimization, and in 1998 the Company filed
another 16 patent applications covering a variety of hardware and software
inventions.
EMPLOYEES
As of December 31, 1999, the Company employed 123 employees (up from 109 at
the end of 1998) on a full-time basis, of whom 72 were in engineering, 23 were
in manufacturing, 14 were in sales and marketing, and 14 were in administration.
The Company also employed four individuals on a part-time or temporary basis or
as interns. The Company has no collective bargaining agreement with its
employees. The Company has never experienced a work stoppage and management
believes that its employee relations are excellent.
RISK FACTORS
The following factors should be considered in evaluating our business,
operations and prospects:
A FAILURE TO INTEGRATE THE PLANNED ACQUISITION OF THE CRAY RESEARCH BUSINESS
UNIT COULD COMPROMISE OUR GROWTH STRATEGY AND ADVERSELY AFFECT OUR BUSINESS. If
we complete the acquisition of the Cray Research business unit from Silicon
Graphics, Inc., the size and geographic dispersion of our workforce and
operations will increase significantly. These increases will place a
significant strain on our management, financial and other resources. We will
need to add new financial and information systems, increase our sales force,
renovate existing and find new facilities and successfully separate the Cray
operations from those of Silicon Graphics and merge them with our existing
operations. We may experience difficulties in integrating Cray's personnel,
operations and technologies, and such integration could divert our management's
time and resources. Failure to complete this integration successfully could
cause us to increase expenditures and adversely affect our revenues.
FAILURE TO COMPLETE DEVELOPMENT OF A COMMERCIALLY ACCEPTABLE MTA SYSTEM WOULD
JEOPARDIZE OUR VIABILITY. Our inability to overcome the technical challenges
involved in integrating and completing MTA systems that satisfy internal
performance specifications and that
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are commercially acceptable would jeopardize our viability as an ongoing
business. The development of a new very high performance computer system is a
lengthy and technically challenging process and requires a significant
investment of capital and other resources. Several companies in this market
experienced extreme financial difficulty in the 1990s, including Thinking
Machines Corporation, Cray Computer Corporation, Kendall Square Research
Corporation and Supercomputer Systems, Inc. We first integrated multiple MTA
resource modules into commercially configured computer systems in 1998. We have
not yet achieved the level of stability required to meet stringent commercial
reliability standards and cannot be certain when, if ever, we will do so.
OUR INABILITY TO OVERCOME THE TECHNICAL CHALLENGES OF COMPLETING THE DEVELOPMENT
OF THE MTA SYSTEM COULD CAUSE OUR BUSINESS TO FAIL. Continued delays in
completing the hardware components or software of our MTA system, or in
integrating the full system, could materially and adversely affect our business
and results of operations. From time to time during the development process of
the MTA system, we have been required to redesign certain components of the MTA
system because of previously unforeseen design flaws. For example, various
processor and network chip technologies we thought were functional across
multiple configurations have subsequently been discovered to require additional
design features to function as intended and to achieve a fully operational
system scalable to multiple processors. We also continue to find certain flaws
or "bugs" in our MTX system software, which require correction. This redesign
work, particularly on integrated circuits and printed circuit boards, has been
costly and caused delays in the development of our prototype systems, in the
delivery of our initial MTA system and in upgrades to that system. We expect
that additional modifications to the hardware components, system software and
the integrated system will be necessary as we build larger MTA systems for the
commercial market.
OUR INABILITY TO OBTAIN ACCEPTABLE HARDWARE COMPONENTS WILL DELAY OUR
DEVELOPMENT EFFORTS AND STRAIN OUR FINANCIAL RESOURCES. The manufacture of
components for the MTA system is a difficult and complex process, and few
companies can meet our design requirements. Manufacturing difficulties or
limitations of the suppliers could result in:
- a limitation on the number of MTA systems that can be assembled using such
components;
- unacceptably high prices for those components, with a resulting loss of
profitability and loss of competitiveness for our products; and
- increased demands on our financial resources, requiring additional equity
and/or debt financings to continue business operations
Our suppliers have previously experienced problems in manufacturing MTA
system components to our design and quality specifications. In prior years we
have been forced to redesign certain components for manufacture by alternative
suppliers because our original suppliers were unable to consistently manufacture
components of satisfactory quality. In 1999 and previous years, we experienced
varying (and sometimes "zero") yields of gallium arsenide integrated circuits,
limited and delayed deliveries of such integrated circuits, poor yields on
packaged integrated circuits and deliveries of a very limited number of reliable
printed circuit boards. Together, these supply constraints caused substantial
delays in our ability to deliver the initial MTA system to the San
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Diego Supercomputer Center and upgrading that system to larger configurations.
Although we are working with our suppliers to solve these problems, there can be
no assurance that they will be able to manufacture the components to our design
and quality specifications.
OUR UNCERTAIN PROSPECTS FOR REVENUES AND EARNINGS COULD ADVERSELY AFFECT AN
INVESTMENT IN US. We cannot be certain that we will be successful in delivering
and receiving payments for any additional MTA systems, or whether we will be
able to generate additional sales or achieve a profitable level of operations in
the future. We have experienced net losses in each year of our operations. We
incurred net losses of approximately $15.8 million in 1997, $19.8 million in
1998 and $34.5 million in 1999. We expect to incur substantial further losses
until we make sales on a regular basis. Whether we will achieve additional
revenue, or any earnings, will depend upon a number of factors, including:
- our ability to assemble production quality MTA systems in commercial
quantities;
- our ability to achieve broad market acceptance of the MTA system;
- the level of revenue in any given period;
- the terms and conditions of sale or lease for an MTA system;
- the MTA system model or models sold; and
- our expense levels and manufacturing costs.
OUR INABILITY TO COMPLETE THE REPLACEMENT OF OUR CURRENT INTEGRATED CIRCUITS
WITH CMOS INTEGRATED CIRCUITS COULD DELAY COMMERCIAL SALES AND RESULTING
REVENUES. Over the next year we plan to replace in stages most of our gallium
arsenide integrated circuits with integrated circuits made of complementary
metal-oxide silicon, or CMOS. We believe that CMOS integrated circuits will
enable us to offer larger, more cost effective systems. For example, the 24
gallium arsenide integrated circuits on each processor board have been replaced
by one CMOS microprocessor. This process requires the redesign of most of our
integrated circuits, integrated circuit packages and printed circuit boards,
which in turn involves significant effort by our engineers and requires us to
devote significant capital for non-recurring engineering expenses, including
payments to potential suppliers for design assistance. If we encounter
significant problems with this redesign, we may be delayed substantially in
delivering larger MTA systems, which would materially and adversely affect the
receipt of revenues, working capital and results of operations.
OUR RELIANCE ON THIRD PARTY SUPPLIERS POSES SIGNIFICANT RISKS TO OUR BUSINESS
AND PROSPECTS. We subcontract the manufacture of substantially all of our
hardware components, including integrated circuits, printed circuit boards, flex
circuits and power supplies, on a sole or limited source basis to third party
suppliers. We obtain our CMOS integrated circuits from Taiwan Semiconductor
Manufacturing Company and our gallium arsenide integrated circuits from Vitesse
Semiconductor Corporation and Tri-Quint Corporation; printed circuit boards from
Multilayer Technology, Inc. and Johnson Matthey Advanced Circuits, Inc.; flex
circuits from Compunetics, Inc.; power supplies from Ascom Power Supplies, Inc.;
uninterruptible power supplies from Piller,
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Inc.; and cooling distribution units from C.H. Bull Company. We rely on Cadence
Design Systems, Inc., for significant design assistance on the implementation of
our CMOS integrated circuits. We are exposed to substantial risks because of our
reliance on these and other limited or sole source suppliers. For example:
- if a reduction or interruption of supply of our components occurred, it
could take us a considerable period of time to identify and qualify
alternative suppliers to redesign our products as necessary and to
recommence manufacture of the redesigned components;
- if we were ever unable to locate a supplier for a component, we would be
unable to assemble and deliver our products;
- one or more suppliers may make strategic changes in their product lines,
which may result in the delay or suspension of manufacture of our
components or systems; and
- some of our key suppliers are small companies with limited financial and
other resources, and consequently may be more likely to experience
financial difficulties than larger, well established companies.
A SUBSTANTIAL NUMBER OF OUR SHARES ARE ELIGIBLE FOR FUTURE SALE AND COULD
DEPRESS MARKET PRICES OF OUR STOCK AND COULD HINDER OUR ABILITY TO OBTAIN
ADDITIONAL FINANCING. Sale of a substantial number of our shares of common stock
in the public market or the prospect of such sales could materially and
adversely affect the market price of the common stock. As of December 31, 1999,
we had outstanding:
- 25,242,527 shares of common stock,
- warrants to purchase 13,161,019 shares of common stock,
- 8% Convertible Promissory Notes in the principal amount of $494,291,
convertible at $5.00 per share into 98,858 shares of common stock, and
- stock options to purchase an aggregate of 3,695,346 shares of common
stock.
As part of the financing completed on June 21, 1999, we issued a warrant to
Terren S. Peizer, who paid us $200,000 for the warrant, exercisable for a
minimum of 1,591,723 shares of common stock, and such number is included in the
13,161,019 shares described above as issuable upon exercise of outstanding
warrants. On June 21, 2000, and in certain circumstances prior to that date,
such as if we were involved in a merger or similar transaction or if we
terminated our relationship with Mr. Peizer, the number of shares subject to
this warrant increases to 10% of our issued and outstanding shares, on a fully
diluted basis, with certain limited exceptions. If this warrant had been so
exercisable as of December 31, 1999, it would have exercisable for a total of
4,439,930 shares.
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Almost all of our outstanding shares of common stock may be sold without
substantial restrictions. All of the shares purchased under the option plans are
available for sale in the public market, subject in some cases to volume and
other limitations.
Sales in the public market of substantial amounts of our common stock,
including sales of common stock issuable upon the exercise of the warrants could
depress prevailing market prices for the common stock. Even the perception that
such sales could occur may impact market prices.
In addition, the existence of outstanding warrants and options, may prove to
be a hindrance to our future equity financings. Further, the holders of the
warrants and options may exercise them at a time when we would otherwise be able
to obtain additional equity capital on terms more favorable to us. Such factors
could materially and adversely affect our ability to meet our capital needs.
WE MAY ENGAGE IN ADDITIONAL FINANCINGS WHICH MAY BE DILUTIVE TO EXISTING
SHAREHOLDERS. Our present cash resources and revenue from anticipated sales of
MTA systems are sufficient to finance our planned operations for the next twelve
months. Nevertheless, we likely will raise additional equity and/or debt capital
in the next twelve months to enhance our financial position for future
operations. In addition, if we were not able to complete development of a
commercially acceptable MTA system, obtain acceptable hardware components or
complete the replacement of CMOS integrated circuits, as described above, we may
need additional capital earlier than planned. Financings may not be available to
us when needed or, if available, may not be available on satisfactory terms or
may be dilutive to our shareholders.
OUR INABILITY TO SELL OUR MTA SYSTEMS AT EXPECTED PRICES WOULD ADVERSELY AFFECT
OUR GROWTH PROSPECTS AND FINANCIAL VIABILITY. Most of our potential customers
already own or lease very high performance computer systems. Some of our
competitors may offer trade-in allowances or substantial discounts to potential
customers, and we may not be able to match these sales incentives. We may be
required to provide discounts to make sales or to finance the leasing of our
products, which would result in a deferral of our receipt of cash for such
systems. These developments would impair our ability to increase our revenues
and would delay profitability, thereby materially and adversely affecting our
business and results of operations.
LACK OF GOVERNMENT FUNDING FOR SUPERCOMPUTER SYSTEMS WOULD ADVERSELY AFFECT OUR
BUSINESS AND INCREASE OUR CAPITAL REQUIREMENTS. The inability of U.S. and
foreign government agencies to procure additional very high performance computer
systems, due to lack of funding or for any other reason, would materially and
adversely affect our business and results of operations. It would also increase
our need to raise capital or government funding as a source of revenue. We have
targeted U.S. and foreign government agencies and research laboratories for our
early sales. Our first sale was to the U.S. National Science Foundation for
installation at the San Diego Supercomputer Center. The U.S. Government
historically has facilitated the development of, and has constituted a market
for, new and enhanced very high performance computer systems. If the U.S.
government or foreign governments were to reduce or delay funding of certain
high technology programs employing high performance computing, then the
potential for sales in one of our target markets would be adversely affected.
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THE ABSENCE OF THIRD-PARTY APPLICATION SOFTWARE TRANSLATED TO RUN ON THE MTA
SYSTEM COULD ADVERSELY AFFECT OUR ABILITY TO MAKE COMMERCIAL SALES. In order to
make sales in markets beyond the very high performance scientific market, such
as government agencies and research laboratories, to engineering and other
commercial markets, we must be able to attract independent software vendors to
port their software application programs so that they will run on our MTA
system. We also plan to modify and rewrite third-party software applications to
run on the MTA system ourselves to facilitate the expansion of our potential
markets. There can be no assurance that we will be able to induce independent
software vendors to rewrite their applications, or that we will successfully
rewrite third-party applications for use on the MTA system, and the failure to
do so could materially and adversely reduce our revenue and delay profitability.
RAPID GROWTH COULD STRAIN OUR MANAGEMENT AND FINANCIAL RESOURCES. If we are
successful in manufacturing and marketing the MTA system, we believe that we
would undergo a period of rapid growth that could place a significant strain on
our management, financial and other resources. Our ability to manage our growth
will require us:
- to continue to improve our operational and financial systems;
- to motivate and effectively manage our employees;
- to complete the implementation of a new financial, budgeting and
management information system; and
- to enhance internal control systems.
Our success will depend on our management's ability to make these changes and to
manage our operations effectively over the long term.
WE MAY BE UNABLE TO ATTRACT, RETAIN AND MOTIVATE KEY PERSONNEL, AND AS A RESULT
WE MAY NOT BE ABLE TO GROW AS WE EXPECT OR EFFECTIVELY IMPLEMENT OUR BUSINESS
PLAN. Our success also depends in large part upon our ability to attract, retain
and motivate highly skilled management, technical and marketing and sales
personnel. Competition for highly skilled management, technical, marketing and
sales personnel is intense, and we may not be successful in attracting and
retaining such personnel.
We are dependent on Burton J. Smith, our Chief Scientist, and James E.
Rottsolk, our Chief Executive Officer and President. The loss of either
officer's services could have a material impact on our ability to achieve our
business objectives. We are the beneficiary of key man life insurance policies
on the lives of Messrs. Smith and Rottsolk in the amount of $2 million and $1
million, respectively. We have no employment contracts with either Mr. Smith or
Mr. Rottsolk, or with any other employee.
OUR QUARTERLY PERFORMANCE MAY VARY SIGNIFICANTLY AND COULD CAUSE OUR STOCK PRICE
TO BE VOLATILE. If we are able to attain market acceptance of the MTA system,
one or a few system sales may account for a substantial percentage of our
quarterly and annual revenue. This is due to the anticipated high average sales
price of the MTA system models and the timing of purchase orders
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and product acceptances. Because a number of our prospective customers receive
funding from the U.S. or foreign governments, the timing of orders from such
customers may be subject to the appropriation and funding schedules of the
relevant government agencies. The timing of orders and shipments also could be
affected by other events outside our control, such as:
- changes in levels of customer capital spending;
- the introduction or announcement of competitive products;
- the availability of components; or
- currency fluctuations and international conflicts or economic crises.
Because of these factors, revenue, net income or loss and cash flow are likely
to fluctuate significantly from quarter to quarter.
OUR STOCK PRICE MAY BE VOLATILE. The trading price of our common stock is
subject to significant fluctuations in response to, among other factors:
- changes in analysts' estimates;
- our future capital raising activities;
- announcements of technological innovations by us or our competitors; and
- general conditions in the high performance computer industry.
In addition, the stock market is subject to price and volume fluctuations
that particularly affect the market prices for small capitalization, high
technology companies like us.
U.S. EXPORT CONTROLS COULD HINDER OUR ABILITY TO MAKE SALES TO FOREIGN CUSTOMERS
AND OUR FUTURE PROSPECTS. The U.S. Government regulates the export of high
performance computer systems such as the MTA system. Delay or denial in the
granting of any required licenses could materially and adversely affect our
ability to make sales to foreign customers thereby eliminating an important
source of potential revenue.
WE MAY NOT BE ABLE TO KEEP UP WITH RAPID TECHNOLOGICAL CHANGE. Our market is
characterized by rapidly changing technology, accelerated product obsolescence,
and continuously evolving industry standards. Our success will depend upon our
ability to complete development of the MTA system. Once our MTA system is
developed, our success will depend in part upon our ability to introduce new
products and features in a timely manner to meet evolving customer requirements.
We may not succeed in these efforts. Our business and results of operations will
be materially and adversely affected if we incur delays in developing our
products or if such products do not gain broad market acceptance. In addition,
products or technologies developed by others may render our products or
technologies noncompetitive or obsolete.
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WE MAY BE UNABLE TO COMPETE SUCCESSFULLY IN THE HIGH PERFORMANCE COMPUTER
MARKET. The performance of our MTA system may not be competitive with the
computer systems offered by our competitors, and we may not compete successfully
over time against new entrants or innovative competitors at the lower end of the
market. Furthermore, periodic announcements by our competitors of new high
performance computer systems and price adjustments may materially and adversely
affect customer demand for our MTA system.
Our competitors include established companies that are well known in the
high performance computer market and new entrants capitalizing on developments
in parallel processing and increased computer performance through networking.
The high performance computer market is highly competitive and has been
dominated by Cray Research, Inc., a subsidiary of Silicon Graphics, Inc. (The
Company has signed a definitive agreement to purchase Cray Research. See "
- -Agreement to Acquire Cray" below.) Other participants in the market include IBM
Corporation and Japanese companies such as NEC Corporation, Fujitsu, Ltd., and
Hitachi, Ltd. Each of these competitors has broader product lines and
substantially greater research, engineering, manufacturing, marketing and
financial resources than we do. A number of companies have developed or plan to
develop parallel systems for the high performance computer market. To date,
these products have been limited in applicability and scalability and can be
difficult to program. A breakthrough in architecture or software technology
could make parallel systems more attractive to potential customers. Such a
breakthrough would materially and adversely affect our ability to sell MTA
systems and the receipt of revenue.
WE MAY NOT BE ABLE TO PROTECT OUR PROPRIETARY INFORMATION AND RIGHTS ADEQUATELY.
We rely on a combination of copyright and trade secret protection,
non-disclosure agreements and licensing arrangements to establish, protect and
enforce our proprietary information and rights. In addition, we have 16 patent
applications pending and plan to file additional patent applications. There can
be no assurance, however, that patents will be issued from the pending
applications or that any issued patents will protect adequately those aspects of
our technology to which such patents will relate. Despite our efforts to
safeguard and maintain our proprietary rights, we cannot be certain that we will
succeed in doing so or that our competitors will not independently develop or
patent technologies that are substantially equivalent or superior to our
technologies.
Although we are not a party to any present litigation regarding proprietary
rights, third parties may assert intellectual property claims against us in the
future. Such claims, if proved, could materially and adversely affect our
business and results of operations. In addition, even meritless claims would
require management attention and would cause us to incur significant expense to
defend.
The laws of certain countries do not protect intellectual property rights to
the same extent or in the same manner as do the laws of the United States.
Although we continue to implement protective measures and intend to defend our
proprietary rights vigorously, these efforts may not be successful.
IT MAY BECOME MORE DIFFICULT TO SELL OUR STOCK IN THE PUBLIC MARKET. Our common
stock is quoted on the Nasdaq National Market. In order to remain listed on this
market, the Company must
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meet Nasdaq's listing maintenance standards. If the bid price of our common
stock falls below $5.00 for an extended period, or we are unable to continue to
meet Nasdaq's standards for any other reason, our common stock could be delisted
from the Nasdaq National Market.
If the common stock were delisted, we likely would seek to list the common
stock on the Nasdaq SmallCap Market or for quotation on the American Stock
Exchange or a regional stock exchange. However, listing or quotation on these
markets or exchanges could reduce the liquidity for our common stock.
If the common stock were not listed or quoted on another market or exchange,
trading of the common stock would be conducted in the over-the-counter market on
an electronic bulletin board established for unlisted securities or in what are
commonly referred to as the "pink sheets." As a result, an investor would find
it more difficult to dispose of, or to obtain accurate quotations for the price
of, the common stock. In addition, a delisting from the Nasdaq National Market
and failure to obtain listing or quotation on such other market or exchange
would subject our securities to so-called "penny stock" rules that impose
additional sales practice and market-making requirements on broker-dealers who
sell and/or make a market in such securities. Consequently, removal from the
Nasdaq National Market and failure to obtain listing or quotation on another
market or exchange could affect the ability or willingness of broker-dealers to
sell and/or make a market in the common stock and the ability of purchasers of
the common stock to sell their securities in the secondary market. In addition,
if the market price of the common stock falls to below $5.00 per share, we may
become subject to certain penny stock rules even if our common stock is still
quoted on the Nasdaq National Market. While such penny stock rules should not
affect the quotation of our common stock on the Nasdaq National Market, such
rules may further limit the market liquidity of the common stock and the ability
of investors to sell the common stock in the secondary market.
WE DO NOT ANTICIPATE DECLARING ANY DIVIDENDS. We have never paid any dividends
on our common stock and we intend to continue our policy of retaining any
earnings to finance the development and expansion of our business.
CERTAIN PROVISIONS OF OUR ARTICLES AND BYLAWS COULD MAKE A PROPOSED ACQUISITION
WHICH IS NOT APPROVED BY OUR MANAGEMENT MORE DIFFICULT. Certain provisions of
our Restated Articles of Incorporation and Restated Bylaws could make it more
difficult for a third party to acquire us. These provisions could limit the
price that certain investors might be willing to pay in the future for our
common stock. For example, our Articles and Bylaws provide for:
- a staggered Board of Directors, so that only three of nine directors are
elected each year;
- removal of a director only for cause and only upon the affirmative vote
of not less than two-thirds of the shares entitled to vote to elect
directors;
- the issuance of preferred stock, without shareholder approval, with
rights senior to those of the common stock;
- no cumulative voting of shares;
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- calling a special meeting of the shareholders only upon demand by the
holders of not less than 30% of the shares entitled to vote at such a
meeting;
- amendments to the Restated Articles of Incorporation require the
affirmative vote of not less than two-thirds of the outstanding shares
entitled to vote on the amendment, unless the amendment was approved by
a majority of "continuing directors" (as that term is defined in our
Articles;
- special voting requirements for mergers and other business combinations,
unless the proposed transaction was approved by a majority of continuing
directors;
- special procedures must be followed in order to bring matters before our
shareholders at our annual shareholders' meeting; and
- special procedures must be followed in order for nominating members for
election to the Board of Director
AGREEMENT TO ACQUIRE CRAY
On March 1, 2000, the Company signed a definitive agreement to acquire the
Cray Research supercomputer business unit and the Cray brand name from Silicon
Graphics, Inc. The agreement consists of a purchase of assets for consideration
consisting of $15 million in cash, a nine-month promissory note and 1 million
shares of unregistered common stock. The amount of the note will depend on the
net book value of certain identified assets purchased and liabilities assumed as
of the closing date plus additional share consideration contingent on Tera's
share price prior to the closing date. Tera will account for this transaction
using the purchase method of accounting. The purchase price will be funded out
of current funds and planned future operations. If and when this acquisition is
consummated, the Company, which would be renamed "Cray Inc.," and its business
operations will change significantly.
Upon completion of the Cray acquisition, the Company would have nearly 900
employees, an installed base of over 600 computers worldwide, major
manufacturing and service capabilities and extensive global customer
relationships. It would own three buildings in Chippewa Falls, Wisconsin, lease
facilities in Eagan, Minnesota, and own the furniture, equipment, fixtures,
inventory, spare parts, ongoing contracts, patents and other intellectual
property rights currently associated with the Cray business unit. The Company
would be manufacturing, selling and servicing the existing Cray supercomputers,
including the Cray SV1, a vector-processing supercomputer, and the T3E, a
massively parallel supercomputer. It would also continue the development of the
SV2, which is designed to offer next-generation vector processing technology.
The acquisition would add nearly 200 employees in Eagan, Minnesota, 300
employees in Chippewa Falls, Wisconsin, 125 employees in field offices in the
United States and 150 employees overseas.
The acquisition of the Cray Research unit is subject to customary regulatory
approvals, agreement with SGI regarding transition issues, and other closing
conditions and is expected to close before the end of April, 2000. Upon
consummation, the Company will file appropriate disclosure documents with the
Securities and Exchange Commission.
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ITEM 2. PROPERTIES
Our principal executive offices are located in Seattle, Washington, where
we lease approximately 85,000 square feet pursuant to a ten-year lease. In June
2000, we are committed to lease an additional 11,000 square feet for a total of
approximately 96,000 square feet, and in December 2001 we are committed to lease
a total of approximately 132,000 square feet. We have an option to extend the
lease for another five years after the initial ten-year term. We expect this
space to be adequate for our needs for the foreseeable future.
ITEM 3. LEGAL PROCEEDINGS
We are not a party to any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of our shareholders during the fourth
quarter of 1999.
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ITEM E.O. EXECUTIVE OFFICERS OF THE COMPANY
The executive officers of the Company as of March 24, 2000 were as follows:
NAME AGE POSITION
---- --- --------
Burton J. Smith 59 Chief Scientist and Director
James E. Rottsolk 55 Chief Executive Officer, President and Director
Rene' G. Copeland 52 Vice President - Sales and Marketing
Kenneth W. Johnson 57 Vice President - Finance, Chief Financial Officer, and Secretary
Brian D. Koblenz 39 Vice President - Software
Gerald E. Loe 50 Vice President - Hardware Engineering
Katherine L. Rowe 43 Vice President - Manufacturing
Richard M. Russell 55 Vice President - International
Burton J. Smith has been the Chief Scientist and Director since the
Company's inception in 1987. He is a recognized authority on high
performance computer architecture and programming languages for parallel
computers, and is the principal architect of the MTA system. Prior to
co-founding Tera, Mr. Smith was a Fellow of the Supercomputing Research
Center (now Center for Computing Sciences), a division of the Institute
for Defense Analyses, from 1985 to 1988. He was honored in 1990 with the
Eckert-Mauchly Award given jointly by the Institute for Electrical and
Electronic Engineers and the Association for Computing Machinery, and was
elected a Fellow of both organizations in 1994. Mr. Smith received his
S.M., E.E. and Sc.D. degrees from the Massachusetts Institute of
Technology.
James E. Rottsolk is a co-founder of the Company and has served as its
Chief Executive Officer, President and Director since its inception.
Prior to co-founding Tera in 1987, Mr. Rottsolk served as an executive
officer with several high technology start-up companies. Mr. Rottsolk
received his B.A. from St. Olaf College and his A.M. and J.D. degrees from
the University of Chicago.
Rene' G. Copeland joined the Company as Vice President - Sales and
Marketing in February 2000. Prior to joining the Company, Mr. Copeland
worked at IBM, where he served as the Manager of the World-Wide
Manufacturing Segment for the RS6000 SP Supercomputer. Prior to joining
IBM in 1998, Mr. Copeland held a variety of senior management, marketing
and sales positions at Silicon Graphics, Inc., and Cray Research, Inc.
Mr. Copeland graduated from the U.S. Military Academy at West Point with a
B.S. Electrical Engineering, and received a M.B.A. in Finance/Statistics
from the University of Chicago Graduate School of Business.
Kenneth W. Johnson joined the Company in September 1997 as Vice President -
Finance, Chief Financial Officer and Secretary. Prior to joining the Company,
Mr. Johnson practiced law in Seattle for twenty years with Stoel Rives LLP and
predecessor firms, where his practice emphasized
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corporate finance. Mr. Johnson received his A.B. degree from Stanford University
and his J.D. degree from Columbia University Law School.
Brian D. Koblenz served as Tera's Group Leader, Languages and Compilers, from
1990 until May 1994, when he assumed his present position as Vice President -
Software. Prior to joining the Company, Mr. Koblenz was Principal Software
Engineer at Digital Equipment Corporation, from 1986 to 1989. He was lead
designer of Digital's high performance vector FORTRAN compiler and participated
in the Alpha architecture and VAX vectorization efforts. He received his B.S.
from the University of Vermont and his M.S. from the University of Washington.
Gerald E. Loe joined the Company in 1992 as Vice President - Hardware
Engineering and Manufacturing. He was named Vice President - Hardware
Engineering in 1996. Prior to joining the Company, he was Vice President
of Operations at Siemens Quantum Inc., a high-end radiology ultrasound
company, from 1989 to 1992. Mr. Loe received his B.S.M.E. from the
Massachusetts Institute of Technology and his M.B.A. from Harvard Business
School.
Katherine L. Rowe joined the Company as Director of Manufacturing in 1994 and
was named Vice President - Manufacturing in 1996. Prior to joining the Company,
Ms. Rowe was an Engineering Manager at ELDEC Corporation, an aerospace
electronics company, and was Manufacturing Manager and Project Manager in new
product development at Physio-Control Corporation, a medical electronics
company. She received her S.M. from Massachusetts Institute of Technology and
her B.S.M.E. from Purdue University.
Richard M. Russell joined the Company as Director of New Business Development
in 1995 and was named Vice President - Marketing in March 1998. In February 2000
he was appointed Vice President - International. Prior to joining the Company,
he worked in a variety of sales and marketing positions at several high
technology companies, including Cray Research, Inc. from 1976 through 1990 and
Kendall Square Research Corporation from 1991 through 1994. Mr. Russell was
educated in England.
The Company anticipates that it will add additional executive officers upon
completion of the acquisition of the Cray business unit.
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PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the Nasdaq National Market under the symbol
TERA; prior to January 20, 1998, our stock was traded on the Nasdaq SmallCap
Market. On March 24, 2000, we had 32,372,240 shares of common stock outstanding
which were held by approximately 611 holders of record. We have never paid
dividends on our common stock, and we intend to continue our policy of retaining
any earnings to finance the development and expansion of our business.
The quarterly high, low and closing sales prices of our common stock for the
periods indicated are as follows:
1998 1999
------------------------------- ------------------------------
High Low Close High Low Close
-------- ------ ------ ------ ------- -----
First Quarter 15 10/32 10 1/4 12 3/4 9 3/4 4 7 1/4
Second Quarter 14 1/2 9 5/8 12 7 4 1/2 5 1/2
Third Quarter 12 1/4 6 1/4 7 3/4 6 3/16 2 7/8 4 1/8
Fourth Quarter 8 15/16 5 1/2 6 1/4 5 5/8 2 15/16 4 1/2
On March 24, 2000, the closing sale price for our common stock was $6.25.
These quotations reflect inter-dealer prices, without retail mark-up, mark-down
or commission, and may not represent actual transactions.
SALES OF UNREGISTERED SECURITIES
We have reported all sales of its equity securities in 1999 that were not
registered under the Securities Act of 1933 in Quarterly Reports on Form 10-Q,
except that, in return for services, the Company issued warrants and options to
purchase shares of Common Stock for services as follows:
- On January 1, 1999, in connection with the provision of professional
services, we issued options to purchase 4,500 shares of common stock at
$7.06 to Alan Honick.
- On March 15, 1999, in connection with the provision of professional
services, we issued options to purchase 80,000 shares of common stock at
$5.00 to Denny Miller and Steve McBee.
- On March 25, 1999, in connection with the provision of professional
services, we issued warrants to purchase 100,000 shares of common stock
at $7.00 to the Agean Group.
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- On June 4, 1999, in connection with the provision of professional
services, we issued options to purchase 600 shares of common stock at
$5.00 to Spark, Inc.
- On June 25, 1999, in connection with the provision of professional
services, we issued warrants to purchase 100,000 shares of common stock
at $6.00 to Kirlin Securities, Inc.
- On February 16, February 17, and December 21, 1999, in connection with
the provision of professional services, we issued options to purchase
375, 386, and 602 shares, respectively, of common stock at $4.50, $5.00,
and $4.16, respectively, to Danner Graves.
- On January 8, February 5, and March 5, 1999, in connection with the
provision of professional services, we issued options to purchase 1,532,
2,057, and 2,087 shares, respectively, of common stock at $1.00 to David
Slowinski.
- On December 20, 1999, in connection with the provision of professional
services, we issued warrants to purchase 130,000 shares of common stock
at $4.72 to DM Management.
ITEM 6 SELECTED FINANCIAL DATA
The selected historical financial data as of December 31, 1999 and 1998 and
for each of the years in the three-year period ended December 31, 1999 are
derived from the financial statements and accompanying notes, which have been
audited by Deloitte & Touche LLP, independent auditors, Deloitte and Touche
LLP's report on such financial statement includes a explanatory paragraph
describing an uncertainty about the Company's ability to continue as a going
concern. The selected historical financial data as of December 31, 1997, 1996
and 1995 and for each of the years in the two-year period ended December 31,
1996 are derived from financial statements not presented or incorporated by
reference. This table should be read in conjunction with "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in
Item 7 and the financial statements.
(In thousands, except per share amounts and Statistical Data)
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Years Ended December 31, 1995 1996 1997 1998 1999
------- ----- -------- ------- -------
Operating Data:
Revenue $ 74 $ 1,988 $ 2,114
Manufacturing Costs and
Inventory Adjustments 2,528 6,977
Inventory Obsolescence Charge 6,589
Research and Development (1) 4,483 10,319 13,198 13,664 15,216
Net Loss 5,646 12,077 15,755 19,804 34,532
Loss for Common Stock 5,646 18,806 18,672 20,737 34,647
Loss per Common Share $ 2.13 $ 3.53 $ 2.13 $ 1.70 $ 1.74
Weighted Average
Outstanding Shares 2,646 5,321 8,785 12,212 19,906
Balance Sheet Data:
Cash and Cash Equivalents $ 4,285 $ 929 $ 13,329 $ 3,162 $10,069
Working Capital 2,642 (22) 14,342 7,269 9,207
Capital Leases, Long-term Portion 419 114 532 573 390
Notes Payable, Long-term Portion 1,022
Total Assets 7,269 4,617 20,859 20,288 23,410
Redeemable Securities 9,478
Shareholders' Equity 4,092 1,128 6,368 11,889 14,307
Statistical Data:
Number of Full-time Employees 66 61 84 109 123
(1) The Company received Research Funding, which has been recorded as an offset
to its Research and Development expenses, of $2,196 in 1995, $185 in 1996,
$349 in 1997, $253 in 1998 and $72 in 1999.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
PRELIMINARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
The information set forth in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" below includes "forward-looking
statements" within the meaning of Section 21E of the Securities Exchange Act of
1934, and is subject to the safe harbor created by that Section. Factors that
realistically could cause results to differ materially from those projected in
the forward looking statements are set forth in this section and under "Business
- --Risk Factors." The following discussion should also be read in conjunction
with the Financial Statements and accompanying Notes thereto.
On March 1, 2000, the Company signed a definitive agreement to acquire the
Cray Research supercomputer business unit and the Cray brand name from Silicon
Graphics, Inc. The acquisition of the Cray Research unit is subject to customary
regulatory approvals and is expected to close before the end of April 2000. If
and when this acquisition is consummated, the Company, which would be renamed
"Cray Inc.," and its future business operations would change significantly. For
further information, see "Business-Agreement to Acquire Cray" above.
OVERVIEW
We had an accumulated net loss of approximately $97.1 million as of December
31, 1999. Our funding through the end of 1999 has been primarily from the sale
of approximately $108.5 million of securities, research funding from the Defense
Advanced Research Projects Agency ("DARPA") of approximately $19.4 million, and
revenue of approximately $4.2 million.
We have experienced net losses in each year of operations and expect to
incur substantial further losses until we make additional sales, and possibly
thereafter. In April 1998, we recognized our first revenue from product sales
with our delivery of a two-processor MTA system to the San Diego Supercomputer
Center ("SDSC"). We upgraded the MTA system at SDSC in 1999, first to
four-processors and then to eight processors and are further upgrading the
system to sixteen processors. See "Business--Risk Factors--Failure to Complete
Development of a Commercially Acceptable MTA System Would Jeopardize Our
Viability" and "Business--Strategy."
We recognize revenue from sales of MTA systems upon acceptance of the system
by the customer, although depending on sales contract terms, revenue may be
recognized upon shipment or deferred until clarification of funding; we
recognize revenue from the maintenance of the MTA system ratably over the term
of each maintenance agreement and service revenue as services are performed.
RESULTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997, 1998 AND 1999.
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REVENUE. We had revenue in 1999 of approximately $2.1 million, up slightly
from $2.0 million in 1998 and $73,500 in 1997. 1998 revenues included $1.3
million from the sale of the two-processor MTA system to SDSC, our first revenue
from product sales, and 1999 revenues included $1.8 million from the upgrade of
the MTA system at SDSC to four and then eight processors. We had contract
revenue of $320,000 in 1999, $714,000 in 1998, and $73,500 in 1997. Our contract
revenue resulted from our subcontract with SDSC to evaluate multithreaded
architecture for certain defense applications. This contract expired on June 30,
1999. We also anticipate receiving revenue in 2000 from the upgrade of the MTA
system at SDSC to 16-processors, and from other sales to potential customers in
2000, although we currently have no contracts or purchase orders for such sales
other than the delivery of the 16-processor unit to SDSC. See "Business--Risk
Factors."
OPERATING EXPENSES. Cost of revenue from product sales was high in 1998 and
1999 as a percentage of the revenue due to favorable pricing terms provided to
SDSC and the inclusion of costs of system infrastructure to support a full
16-processor MTA system. The cost of contract revenue in 1999 was 85% of
contract revenue, an increase from 82% in 1998, due to increased services
performed by our subcontractors.
In the third quarter of 1998, we began incurring manufacturing costs
reflecting our progress to commercial production. These costs include personnel
costs and allocated overhead for our manufacturing group, production expenses
not directly related to cost of sales for delivered systems, and inventory
adjustments, such as revaluations and cost variations arising from changes in
production yields, inventory obsolescence, inventory consumed as part of the
manufacturing process and capitalized manufacturing labor and overhead costs.
Manufacturing costs totaled $2.5 million for the third and fourth quarters ended
December 31, 1998, including personnel costs and allocated overhead of $1.4
million, production expenses of $410,000 and net inventory adjustments of
$697,000, with $1.8 million of inventory obsolescence and consumed inventory
partially offset by favorable cost variations and capitalized costs.
Manufacturing costs and inventory adjustments were $7.0 million for the year
ended December 31, 1999, including personnel costs and allocated overhead of
$3.5 million, production expenses of $1.1 million, and net inventory adjustments
of $2.4 million, with $2.2 million of inventory obsolescence and $540,000 of
adverse cost variations, partially offset by $320,000 of capitalized costs.
During 1999 the Company incurred inventory obsolescence charges totaling $6.6
million due to a non-cash reserve for gallium arsenide processors, integrated
circuits and associated components and parts. Because of the successful initial
testing of CMOS (complementary metal-oxide silicon) processor and memory
controller integrated circuits, the Company will not ship these parts. Of this
amount, $6.1 million was deducted from inventory and $460,000 were recorded in
accounts payable for parts we are contractually required to purchase. This
charge was separately reported on the Statements of Operations due to its
significance.
Research and development expenses constitute the largest portion of our
operating expenses, and include costs associated with the development of the MTA
system, including personnel expense, depreciation and lease expense on
facilities and equipment, nonrecurring engineering, software and hardware costs,
less amounts we receive for research funding. Research and development expenses
increased from $13.2 million in 1997 to $13.7 million in 1998, and to
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$15.2 million in 1999, an increase of 3% in 1998 over 1997, and an increase of
11% in 1999 over 1998. The increase in 1998 and 1999 would have been greater
except for the incurring of manufacturing costs and inventory adjustments
beginning in mid-1998, as discussed above.
Research and development expenses for 1997 included a $832,000 charge as
compensation expense related to certain performance-based stock options; without
that charge, 1997 research and development expenditures would have been
approximately $12.8 million.
Salaries, benefits and allocated overhead for research and development
increased from $7.3 million in 1997 (excluding the compensation expense for
performance-based stock options) to $8.0 million in 1998, and increased to $10.1
million, largely reflecting higher wages and increased operating costs in 1999.
Engineering expenses, consisting of payments to third parties for services
and products, were $3.2 million in 1997, $3.1 million in 1998 and $3.9 million
in 1999. Engineering expenses remained fairly consistent between 1997 and 1998,
and increased by $800,000 in 1999. We spent approximately $1.2 million in 1997,
$1.7 million in 1998 and $2.2 million in 1999 on the conversion from gallium
arsenide integrated circuits to CMOS integrated circuits, primarily for design
services from Cadence Design Services, Inc.
While we expect that research and development expenditures will continue to
be a major expense, they are expected to decrease as a percentage of total
operating expenses and will generally include expenditures related to
modification of the current MTA system, research and development related to the
next generation MTA system and related software development, including personnel
expense, depreciation and lease expense on facilities and equipment.
Marketing and sales expense has increased from $1.1 million in 1997 to $1.8
million in 1998 and to over $2.5 million in 1999, an increase of 63% in 1998
over 1997 and an increase of 38% in 1999 over 1998. We have continued to
increase sales and customer support staff and expenditures in connection with
sales and marketing, benchmarks and development of third party applications
software. The increase in expenditures in 1998 over 1997 was largely due to the
impact of a two-person, branch sales office in Japan and addition of a third
U.S. salesperson in the fourth quarter of 1997. The increase in these expenses
for 1999 over 1998 was due largely to increased personnel in our applications
group and higher operating costs and wages. We expect that we will continue to
increase our marketing and sales activities as we build larger MTA systems for
sale to industrial and commercial customers.
Our general and administrative expenses have increased each year consistent
with expansion of our infrastructure. These expenses were $1.6 million in 1997,
$2.1 million in 1998 and $3.1 million in 1999, an increase of 31% in 1998 over
1997 and a further 47% increase in 1999 over 1998. The increase in expenditures
in 1998 over 1997 was primarily due to additional staff and further increases in
legal, investor relations, stock transfer and other costs associated with being
a publicly owned company. The increase in these expenses for 1999 over 1998 was
due largely to non-cash expenses of approximately $550,000 associated with the
provision of warrants and options for consulting services; increased investment
relations and shareholder costs; and higher
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wages and operating costs. General and administrative expenses are expected to
increase commensurate with the growth in our operations.
OTHER INCOME (EXPENSE). Other income (expense) for 1998 increased $76,000, or
75%, to $177,000, and for 1999 decreased by $562,000, or 317%, to ($384,000).
Interest income for 1998 increased $153,000, or 71%, to $366,000, and for 1999
increased $171,000, or 46%, to $537,000, reflecting the Company's increased cash
position due to the sales of equity securities throughout 1998 and 1999.
Interest expense for 1998 increased $70,000, or 64%, to $188,000, and for
1999 increased $627,000, or 333% to $815,000. The increase in 1998 was largely
due to a fully utilized lease line of credit. The 1999 increase in interest
expense was due to $269,000 of interest paid on bank lines and leases for
capital equipment, a non-cash interest expense of approximately $278,000
associated with the value of the conversion feature of certain convertible
promissory notes issued in the first quarter of 1999 and a non-cash expense of
$268,000 for the value of detachable warrants issued in conjunction with the
convertible promissory notes.
TAXES. We made no provision for federal income taxes in 1997, 1998 or 1999 as
we have continued to incur net operating losses. As of December 31, 1999, the
Company had net operating loss carry-forwards of approximately $88.3 million
which expire in years 2003 through 2019, if not utilized. Our net operating loss
carry-forwards and certain other tax attributes (including research credits of
approximately $3.0 million at December 31, 1999) would be limited to an annual
utilization for losses and credits for periods prior to 1996 of approximately
$700,000. We estimate that the net operating loss carryforwards incurred prior
to March 1999 are limited to an annual utilization of approximately $5,000,000.
This limitation may result in the expiration of net operating losses and credits
before utilization.
PREFERRED STOCK. In the second quarter of 1999, all of our outstanding
preferred stock was converted to common stock. The dividends for 1998 were
accrued on our Series A Convertible Preferred Stock, and were higher than that
accrued during the comparable period of 1999 because we had more shares of
Preferred Stock then outstanding.
LIQUIDITY AND CAPITAL RESOURCES
Since our inception in 1987 through December 31, 1999, our principal sources
of liquidity have been net proceeds from the sale of equity securities totaling
$108.5 million, DARPA research funding and subcontracts totaling $19.4 million
and revenue of approximately $4.2 million. At December 31, 1999, we had $10.1
million in unrestricted cash and had no bank line of credit.
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During 1999, we spent approximately $26.2 million of cash on operating
activities, up from $22.9 million in 1998 and $17.7 million in 1997. During
2000, our operating activity expenses will depend primarily upon personnel
costs, the cost of inventory and third party engineering expenses related to
future implementations of the MTA system, and the conversion to CMOS technology.
Our overall wages and benefits increased from $6.2 million in 1997 to $9.2
million in 1998 and to $11.0 million in 1999. We expect that personnel costs
will continue to increase in 2000, although not as rapidly as in 1997, 1998 and
1999 as we have slowed the growth of personnel pending the receipt of additional
sales orders. Similarly, we expect inventory costs to decrease in 2000, since we
plan only modest inventory additions pending receipt of purchase orders. In
1999, we incurred third party engineering expenses related to the CMOS
implementation of the MTA system of $2.5 million.
Net cash used in investing activities was approximately $427,000 for the year
ended December 31, 1999, compared to $2.1 million for the year ended December
31, 1998 and $1.5 million for the year ended December 31, 1997. The decrease was
due primarily to approximately $1.2 million of fixed assets purchased through
capital leases and notes payable in 1999.
Net cash provided by financing activities was $33.5 million for the year
ended December 31, 1999, compared to $14.8 million for the year ended December
31, 1998, and $31.6 million for the year ended December 31, 1997. The increase
in 1999 over 1998 was due primarily to net proceeds from the issuance of common
stock of $33.5 million during 1999, compared to $8.9 million during 1998, and to
the issuances of debt of $1.9 million in March 1999 (all of which was exchanged
for common stock in June 1999).
In February 2000, we raised approximately $24.2 million, net of expenses of
approximately $1.85 million, in a private placement of common stock. We have
also received to date in the first quarter of 2000 approximately $9.0 million
from the exercise of warrants covering 1,872,537 shares of common stock.
Management believes that our present cash resources and revenue from anticipated
sales of MTA systems are sufficient to finance our planned operations for the
next twelve months. If we complete the acquisition of the Cray Research business
unit, which will require us to pay $15 million of cash at the closing and the
issuance of a nine-month promissory note, we believe our present cash resources
and our anticipated revenue from sales of Cray products and MTA systems and
maintenance services likewise will be sufficient to finance our planned
operations for the next twelve months,including the acquisitions costs.
Nevertheless, we likely will raise additional equity and/or debt capital in the
next twelve months to enhance our financial position for future operations. In
addition, if we were not able to complete development of a commercially
acceptable MTA system, obtain acceptable hardware components or complete the
replacement of CMOS integrated circuits, or if anticipated sales of Cray
products were delayed, as described above, we may need additional capital
earlier than planned. Financings may not be available to us when needed or, if
available, may not be available on satisfactory terms or may be dilutive to our
shareholders. See "Business--Risk Factors--We May Engage in Additional
Financings Which May Be Dilutive to Existing Shareholders."
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Substantially all of our cash equivalents and marketable securities are held in
money market funds or commercial paper, with maturities of less than 90 days,
which are held to maturity. Accordingly we believe that the market risk arising
from our holdings of these financial instruments is minimal. All of our current
contract payments are payable in U.S. dollars, and consequently we do not have
any foreign currency exchange risks. We do not hold any derivative instruments
and have not engaged in hedging transactions.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS*
Balance Sheets at December 31, 1998 and December 31, 1999.......................... F1
Statements of Operations for each of the three years in the
period ended December 31, 1999.............................................. F2
Statements of Shareholders' Equity for each of the three years in the
period ended December 31, 1999.............................................. F3
Statements of Cash Flows for each of the three years in the
period ended December 31, 1999.............................................. F4
Notes to Financial Statements...................................................... F5
Independent Auditors' Report....................................................... F19
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* The Financial Statements are located following page 43.
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QUARTERLY FINANCIAL DATA
(In thousands, except per share data)
The following table presents unaudited quarterly financial information for
the two years ended December 31, 1999. In the opinion of management, this
information contains all adjustments, consisting only of normal recurring
adjustments, necessary for a fair presentation thereof. The operating results
are not necessarily indicative of results for any future periods.
1998 1999
-------------------------------------------- ---------------------------------------------
For the Quarter Ended: 3/31 6/30 9/30 12/31 3/31 6/30 9/30 12/31
-------- -------- -------- -------- -------- -------- -------- --------
Revenue $ 21 $ 1,527 $ 232 $ 208 $ 661 $ 260 $ 850 $ 343
Cost of Sales 16 1,429 209 161 621 142 972 135
Manufacturing Costs and
Inventory Adjustments 920 1,608 2,390 1,643 1,626 1,314
Inventory Obsolescence Charge 6,441 148
Research and Development 4,286 3,513 2,319 3,546 3,033 3,686 4,752 3,744
Marketing and Sales 410 374 484 562 632 545 611 728
General and Administrative 475 505 516 635 465 638 551 1,437
Net Loss (5,061) (4,299) (4,154) (6,290) (6,811) (6,672) (13,934) (7,114)
Amortization of Preferred
Stock Dividend (465)
Loss for Common Stock (5,191) (4,393) (4,760) (6,392) (6,881) (6,717) (13,934) (7,114)
Loss Per Common Share,
Basic and Diluted $ (0.46) $ (0.37) $ (0.39) $ (0.47) $ (0.47) $ (0.40) $ (0.59) $ (0.29)
The Company's future operating results may be subject to quarterly
fluctuations as a result of a number of factors, including the timing of
deliveries of the Company's products. See "Business--Risk Factors."
Quarter-to-quarter comparisons should not be relied upon as indicators of future
performance.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
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PART III
Certain information required by Part III is omitted from this Report as the
Company will file a definitive proxy statement for the Annual Meeting of
Shareholders to be held on May 31, 2000, pursuant to Regulation 14A (the "Proxy
Statement") not later than 120 days after the end of the fiscal year covered by
this Report, and certain information included in the Proxy Statement is
incorporated herein by reference. Only those sections of the Proxy Statement
which specifically address the items set forth herein are incorporated by
reference.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Information with respect to Directors may be found under the captions "The
Board of Directors" and "Proposal 1: Election of Three Directors" in the
Company's Proxy Statement. Such information is incorporated herein by reference.
Information with respect to Executive Officers may be found on pages 23 and 24
hereof, under the caption "Executive Officers of the Company." Information with
respect to compliance with Section 16(a) of the Exchange Act by the persons
subject thereto may be found under the caption "Information About Our Common
Stock Ownership" in the Proxy Statement and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information in the Proxy Statement set forth under the captions "How We
Compensate Directors," "How We Compensate Executive Officers," "The Board of
Directors" and "The Committees of the Board" is incorporated herein by
reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information in the Proxy Statement set forth under the caption
"Information About Our Common Stock Ownership" is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information set forth under the caption "Certain Transactions" in the
Proxy Statement is incorporated herein by reference.
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ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) EXHIBIT LISTING
3.1 Restated Articles of Incorporation (1)
3.2 Restated Bylaws (1)
4.1 Statement of Rights and Preferences of the Series A Convertible
Preferred Stock of the Company, as filed with the Secretary of
State of the State of Washington on December 23, 1997 (7)
4.2 Statement of Rights and Preferences of the Series B Convertible
Preferred Stock of the Company, as filed with the Secretary of
State of the State of Washington on June 30, 1998 (8)
4.3 Subscription Agreement, as of September 30, 1998, by and between
the Company and each of Advantage Fund II Ltd. and Koch
Industries, Inc. (9)
4.4 Form of Warrant Issued by the Company to Advantage Fund II Ltd.
and to Koch Industries, Inc. (10)
4.5 Amendment to Subscription Agreement, dated as of September 30,
1998, by and between the Company and each of Advantage Fund II
Ltd. and Koch Industries, Inc. (9)
4.6 Waiver Agreement, dated as of December 23, 1997, between the
Company and Advantage Fund II Ltd. (9)
4.7 Waiver Agreement, dated as of December 23, 1997, between the
Company and Genesee Fund Limited - Portfolio B (9)
4.8 Waiver Agreement, dated as of June 30, 1998, between the Company
and Advantage Fund II Ltd. (9)
4.9 Waiver Agreement, dated as of June 30, 1998, between the Company
and Genesee Fund Limited - Portfolio B (9)
4.10 Subscription Agreement, dated as of December 16, 1998, by and
between the Company and each of Genesee Fund Limited - Portfolio
B and Koch Industries, Inc. (11)
4.11 Amendment Agreement, dated as of March 22, 1999, by and among
Registrant, Advantage Fund II Ltd. And Koch Industries, Inc.
(11)
4.12 Amendment Agreement, dated as of March 22, 1999 by and among
Registrant, Genesee Fund Limited - Portfolio B and Koch
Industries, Inc. (11)
4.13 Form of Warrant issuable to Advantage Fund II Ltd., Genesee Fund
Limited - Portfolio B, and Koch Industries, Inc. (11)
4.14 Market Sales Agreement, dated as of March 22, 1999, by and
between Registrant and each of Advantage Fund II Ltd. And Genesee
Fund limited - Portfolio B (11)
4.15 Form of Purchase Agreement, dated as of June 18, 1999, between
the Company and the investors in the June 1999 Private
Placement (the "Investors"). (13)
4.16 Form of Warrant, dated June 21, 1999, issued to the Investors.(13)
4.17 Form of Registration Rights Agreement, dated as of June 21, 1999,
between the Company and the Investors.(13)
4.18 Amendment Agreement, dated as of June 17, 1999, between the
Company and the Banca del Gottardo.(13)
4.19 Amendment Agreement, dated as of June 18 1999, among the Company
and Advantage Fund II Ltd, Genesee Fund Limited - Portfolio B,
and Koch Industries, Inc.(13)
4.20 Registration Rights Agreement, dated as of June 21, 1999, among
the Company and Advantage Fund II Ltd., Genesee Fund Limited -
Portfolio B, and Koch Industries, Inc.(13)
4.21 Warrant, dated June 21, 1999, issued to Terren S. Peizer.(13)
10.1 1988 Stock Option Plan (2)
10.2 1993 Stock Option Plan (2)
10.3 1995 Stock Option Plan (2)
10.4 1995 Independent Director Stock Option Plan (2)
10.5 1999 Stock Option Plan (14)
10.6 Agreement between the Defense Advanced Research Projects Agency
and the Company, Contract No. MDA972-95-C-0003, dated February
23, 1995 (3)
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37
10.7 Cooperative Research and Development Agreement No. TC-695-93
between Regents of the University of California and the Company,
dated July 15, 1994 (2)
10.8 Agreement between Cadence Design Systems, Inc. and the Company
entitled "Statement of Work for Gate Array and Standard Cell
Place and Route," dated May 30, 1995 (3)
10.9 Agreement between the Advanced Research Projects Agency and the
Company, Contract No. DABT63-95-C-0096, dated September 27, 1995
(5)
10.10 Cooperative Agreement between The Regents of the University of
California, University of California, San Diego and the Company,
dated November 11, 1996 (6)
10.11 Subcontract Agreement between The Regents of the University of
California and the Company, effective July 1, 1997 (12)
10.12 Lease Agreement between Merrill Place, LLC and the Company,
dated November 21, 1997 (12)
10.13 Agreement, dated as of October 1, 1998, by and between the
Company and Unisys Corporation(9)
10.14 Form of Management Continuation Agreement between the Company
and each of its executive officers and corporate scientists (15)
23.1 Independent Auditors' Consent
27.1 Financial Data Schedule
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(1) Incorporated by reference to Form 8K as filed with the Commission on
July 21, 1999.
(2) Incorporated by reference to Form SB-2 Registration Statement,
Registration No. 33-95460-LA, as filed with the Commission on August 3,
1995.
(3) Incorporated by reference to Form SB-2 Registration Statement,
Registration No. 33-95460-LA, as filed with the Commission on August 3,
1995, and to the Order granting the Company's application respecting
Confidential Treatment.
(4) Incorporated by reference to Post-Effective Amendment No. 3 on Form
S-3 to Form SB-2 Registration Statement, Registration Statement No.
33-95460-LA, as filed with the Commission on December 6, 1996, and to the
Order granting the Company's application respecting Confidential Treatment.
(5) Incorporated by reference to Form 10K-SB as filed with the Commission for
fiscal year ended December 31, 1995, and to the Order granting the Company's
application respecting Confidential Treatment.
(6) Incorporated by reference to Form 10-QSB as filed with the Commission for
the quarterly period ended September 30, 1996, and to the Order granting the
Company's application respecting Confidential Treatment.
(7) Incorporated by reference to Form S-3 Registration Statement, Registration
No. 333-44137, as filed with the Commission on January 12, 1998.
(8) Incorporated by reference to Form S-3 Registration Statement, Registration
No. 333-60167, as filed with the Commission on July 30, 1998.
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(9) Incorporated by reference to the Company's Form 10-Q, as filed with the
Commission for the quarterly period ended September 30, 1998.
(10) Incorporated by reference to Form S-3 Registration Statement, Registration
No. 333-67885, as filed with the Commission on November 24, 1998.
(11) Incorporated by reference to the Amendment No. 1 to Form S-3 Registration
Statement, Registration No. 333-67885, as filed with the Commission on March 29,
1999.
(12) Incorporated by reference to the Company's Report on Form 10-K, as filed
with the Commission for the fiscal year ended December 31, 1997.
(13) Incorporated by reference to Form 8K as filed with the Commission on June
30, 1999.
(14) Incorporated by reference to the amended Schedule 14A, as filed with the
Commission on April 22, 1999.
(15) Incorporated by reference to the Company's Quarterly Report on Form 10-Q
for the quarter ended March 31, 1999.
(b) REPORTS ON FORM 8-K
We filed no reports on Form 8-K in the fourth quarter of 1999.
38
39
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Company
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized in the City of Seattle, State of Washington, on March 30, 2000.
TERA COMPUTER COMPANY
By /s/ JAMES E. ROTTSOLK
--------------------------------------
James E. Rottsolk
Chief Executive Officer
and President
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of Company and in the capacities indicated on
March 30, 2000.
Signature Title
By /s/ JAMES E. ROTTSOLK Chief Executive Officer,
--------------------------------- President and Director
James E. Rottsolk
By /s/ BURTON J. SMITH Chief Scientist and Director
---------------------------------
Burton J. Smith
By /s/ TERREN S. PEIZER Chairman of the Board of Directors
---------------------------------
Terren S. Peizer
By /s/ KENNETH W. JOHNSON Chief Financial Officer
---------------------------------
Kenneth W. Johnson
By /s/ PHILISSA SARGIN Chief Accounting Officer
---------------------------------
Philissa Sargin
By /s/ DAVID N. CUTLER Director
---------------------------------
David N. Cutler
By /s/ DANIEL J. EVANS Director
---------------------------------
Daniel J. Evans
By /s/ KENNETH W. KENNEDY Director
---------------------------------
Kenneth W. Kennedy
By /s/ STEPHEN C. KIELY Director
---------------------------------
Stephen C. Kiely
39
40
By /s/ DEAN D. THORNTON Director
---------------------------------
Dean D. Thornton
By /s/ JOHN W. TITCOMB, JR. Director
---------------------------------
John W. Titcomb, Jr.
40
41
EXHIBIT INDEX
3.1 Restated Articles of Incorporation (1)
3.2 Restated Bylaws (1)
4.1 Statement of Rights and Preferences of the Series A Convertible
Preferred Stock of the Company, as filed with the Secretary of
State of the State of Washington on December 23, 1997 (7)
4.2 Statement of Rights and Preferences of the Series B Convertible
Preferred Stock of the Company, as filed with the Secretary of
State of the State of Washington on June 30, 1998 (8)
4.3 Subscription Agreement, as of September 30, 1998, by and between
the Company and each of Advantage Fund II Ltd. and Koch
Industries, Inc. (9)
4.4 Form of Warrant Issued by the Company to Advantage Fund II Ltd.
and to Koch Industries, Inc. (10)
4.5 Amendment to Subscription Agreement, dated as of September 30,
1998, by and between the Company and each of Advantage Fund II
Ltd. and Koch Industries, Inc. (9)
4.6 Waiver Agreement, dated as of December 23, 1997, between the
Company and Advantage Fund II Ltd. (9)
4.7 Waiver Agreement, dated as of December 23, 1997, between the
Company and Genesee Fund Limited - Portfolio B (9)
4.8 Waiver Agreement, dated as of June 30, 1998, between the Company
and Advantage Fund II Ltd. (9)
4.9 Waiver Agreement, dated as of June 30, 1998, between the Company
and Genesee Fund Limited - Portfolio B (9)
4.10 Subscription Agreement, dated as of December 16, 1998, by and
between the Company and each of Genesee Fund Limited - Portfolio
B and Koch Industries, Inc. (11)
4.11 Amendment Agreement, dated as of March 22, 1999, by and among
Registrant, Advantage Fund II Ltd. And Koch Industries, Inc.
(11)
4.12 Amendment Agreement, dated as of March 22, 1999 by and among
Registrant, Genesee Fund Limited - Portfolio B and Koch
Industries, Inc. (11)
4.13 Form of Warrant issuable to Advantage Fund II Ltd., Genesee Fund
Limited - Portfolio B, and Koch Industries, Inc. (11)
4.14 Market Sales Agreement, dated as of March 22, 1999, by and
between Registrant and each of Advantage Fund II Ltd. And
Genesee Fund limited - Portfolio B (11)
4.15 Form of Purchase Agreement, dated as of June 18, 1999, between
the Company and the investors in the June 1999 Private
Placement (the "Investors"). (13)
4.16 Form of Warrant, dated June 21, 1999, issued to the Investors.(13)
4.17 Form of Registration Rights Agreement, dated as of June 21, 1999,
between the Company and the Investors.(13)
4.18 Amendment Agreement, dated as of June 17, 1999, between the
Company and the Banca del Gottardo.(13)
4.19 Amendment Agreement, dated as of June 18 1999, among the Company
and Advantage Fund II Ltd, Genesee Fund Limited - Portfolio B,
and Koch Industries, Inc.(13)
4.20 Registration Rights Agreement, dated as of June 21, 1999, among
the Company and Advantage Fund II Ltd., Genesee Fund Limited -
Portfolio B, and Koch Industries, Inc.(13)
4.21 Warrant, dated June 21, 1999, issued to Terren S. Peizer.(13)
10.1 1988 Stock Option Plan (2)
10.2 1993 Stock Option Plan (2)
10.3 1995 Stock Option Plan (2)
10.4 1995 Independent Director Stock Option Plan (2)
10.5 1999 Stock Option Plan (14)
10.6 Agreement between the Defense Advanced Research Projects Agency
and the Company, Contract No. MDA972-95-C-0003, dated February
23, 1995 (3)
41
42
10.7 Cooperative Research and Development Agreement No. TC-695-93
between Regents of the University of California and the Company,
dated July 15, 1994 (2)
10.8 Agreement between Cadence Design Systems, Inc. and the Company
entitled "Statement of Work for Gate Array and Standard Cell
Place and Route," dated May 30, 1995 (3)
10.9 Agreement between the Advanced Research Projects Agency and the
Company, Contract No. DABT63-95-C-0096, dated September 27, 1995 (5)
10.10 Cooperative Agreement between The Regents of the University of
California, University of California, San Diego and the Company,
dated November 11, 1996 (6)
10.11 Subcontract Agreement between The Regents of the University of
California and the Company, effective July 1, 1997 (12)
10.12 Lease Agreement between Merrill Place, LLC and the Company,
dated November 21, 1997 (12)
10.13 Agreement, dated as of October 1, 1998, by and between the
Company and Unisys Corporation (9)
10.14 Form of Management Continuation Agreement between the Company
and each of its executive officers and corporate scientists (15)
23.1 Independent Auditors' Consent
27.1 Financial Data Schedule
(1) Incorporated by reference to Form 8K as filed with the Commission on July
21, 1999.
(2) Incorporated by reference to Form SB-2 Registration Statement, Registration
No. 33-95460-LA, as filed with the Commission on August 3, 1995.
(3) Incorporated by reference to Form SB-2 Registration Statement, Registration
No. 33-95460-LA, as filed with the Commission on August 3, 1995, and to the
Order granting the Company's application respecting Confidential Treatment.
(4) Incorporated by reference to Post-Effective Amendment No. 3 on Form
S-3 to Form SB-2 Registration Statement, Registration Statement No.
33-95460-LA, as filed with the Commission on December 6, 1996, and to the
Order granting the Company's application respecting Confidential Treatment.
(5) Incorporated by reference to Form 10K-SB as filed with the Commission for
fiscal year ended December 31, 1995, and to the Order granting the Company's
application respecting Confidential Treatment.
(6) Incorporated by reference to Form 10-QSB as filed with the Commission for
the quarterly period ended September 30, 1996, and to the Order granting the
Company's application respecting Confidential Treatment.
(7) Incorporated by reference to Form S-3 Registration Statement, Registration
No. 333-44137, as filed with the Commission on January 12, 1998.
42
43
(8) Incorporated by reference to Form S-3 Registration Statement, Registration
No. 333-60167, as filed with the Commission on July 30, 1998.
(9) Incorporated by reference to the Company's Form 10-Q, as filed with the
Commission for the quarterly period ended September 30, 1998.
(10) Incorporated by reference to Form S-3 Registration Statement, Registration
No. 333-67885, as filed with the Commission on November 24, 1998.
(11) Incorporated by reference to the Amendment No. 1 to Form S-3 Registration
Statement, Registration No. 333-67885, as filed with the Commission on March 29,
1999.
(12) Incorporated by reference to the Company's Report on Form 10-K, as filed
with the Commission for the fiscal year ended December 31, 1997.
(13) Incorporated by reference to Form 8K as filed with the Commission on July
21, 1999.
(14) Incorporated by reference to the amended Schedule 14A, as filed with the
Commission on April 22, 1999.
(15) Incorporated by reference to the Company's Quarterly Report on Form 10-Q
for the quarter ended March 31, 1999.
44
TERA COMPUTER COMPANY
BALANCE SHEETS
DECEMBER 31, 1998 AND 1999
===============================================================================
DECEMBER 31, DECEMBER 31,
1998 1999
------------ -------------
Assets
Current assets:
Cash and cash equivalents $ 3,161,867 $ 10,069,355
Restricted cash 1,131,583
Accounts receivable 378,933 300,682
Related party receivable 306,819 340,634
Inventory 10,246,029 4,513,013
Advances to suppliers 415,834 111,558
Prepaid expenses and other assets 585,008 431,680
------------ -------------
Total current assets 15,094,490 16,898,505
Property and equipment, net 4,501,613 5,828,712
Lease deposits 537,101 496,788
Other long-term assets 155,033 186,471
------------ -------------
Total assets $ 20,288,237 $ 23,410,476
============ =============
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable $ 5,470,617 $ 4,365,646
Accrued payroll and related expenses 1,544,056 2,147,195
Accrued interest 9,886
Deferred revenue 19,178 68,045
Contract adjustment reserve 250,000 200,455
Current portion of obligations under capital leases 542,045 611,585
Current portion of notes payable 288,865
------------ -------------
Total current liabilities 7,825,896 7,691,677
Obligations under capital leases
less current portion 573,054 390,250
Notes payable, less current portion 1,021,732
Commitments and contingencies
Shareholders' equity:
Preferred Stock, par $.01 - Authorized, 5,000,000 shares;
issued and outstanding, 6,000 and 0 shares of Series B Convertible 5,674,406
Common Stock, par $.01 - Authorized, 50,000,000 shares;
issued and outstanding, 14,204,430 and 25,211,872 shares 68,744,437 111,442,905
Preferred stock dividend distributable 75,000
Accumulated deficit (62,604,556) (97,136,088)
------------ -------------
Total shareholders' equity 11,889,287 14,306,817
------------ -------------
Total liabilities and shareholders' equity $ 20,288,237 $ 23,410,476
============ =============
See accompanying notes.
F-1
45
TERA COMPUTER COMPANY
STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1997, 1998, AND 1999
================================================================================
1997 1998 1999
------------ ------------ ------------
Revenue:
Product and other revenue $ $ 1,274,323 $ 1,794,133
Contract revenue 73,531 713,670 319,709
------------ ------------ ------------
73,531 1,987,993 2,113,842
Operating expenses:
Cost of product and other revenue 1,231,494 1,597,785
Cost of contract revenue 51,891 584,045 272,506
Manufacturing costs and inventory adjustments 2,528,124 6,977,537
Inventory obsolescence charge 6,589,356
Research and development 13,197,378 13,664,227 15,215,942
Marketing and sales 1,119,431 1,830,457 2,516,957
General and administrative 1,561,145 2,131,261 3,091,054
------------ ------------ ------------
15,929,845 21,969,608 36,261,137
------------ ------------ ------------
Loss from operations (15,856,314) (19,981,615) (34,147,295)
Other income(expense) 101,085 177,377 (384,237)
------------ ------------ ------------
Net loss (15,755,229) (19,804,238) (34,531,532)
Preferred stock dividend (89,964) (467,657) (115,341)
Amortization of preferred stock discount (2,827,242) (464,733)
------------ ------------ ------------
Loss for common stock $(18,672,435) $(20,736,628) $(34,646,873)
============ ============ ============
Loss per common share, basic and diluted $ (2.13) $ (1.70) $ (1.74)
============ ============ ============
Weighted average shares outstanding, basic
and diluted 8,784,943 12,211,872 19,906,024
============ ============ ============
See accompanying notes.
F-2
46
TERA COMPUTER COMPANY
STATEMENTS OF SHAREHOLDERS' EQUITY
PERIOD FROM JANUARY 1, 1997 THROUGH DECEMBER 31, 1999
================================================================================
Series B Convertible
Preferred Stock Common Stock
----------------------- --------------------------
Number of Number of
Shares Amount Shares Amount
--------- ----------- ---------- ------------
BALANCE, January 1, 1997 $ 6,496,815 $ 28,173,150
Exercise of stock options 151,026 1,244,136
Exercise of warrants 198,729 118,125
Private placement, net of
issuance costs of $62,135 299,333 1,060,405
Issuance of shares under Employee
Stock Purchase Plan 40,736 192,661
Exercise of redeemable stock purchase
warrants net of issuance costs of $66,989 2,838,665 10,585,646
Conversion of Series B preferred shares 740,266 2,814,386
Issuance of common stock for services 4,000 17,500
Conversion of Series C preferred shares 478,526 4,962,171
Net loss
------- ----------- ---------- ------------
BALANCE, December 31, 1997 11,248,096 49,168,180
Exercise of stock options 153,234 219,629
Exercise of warrants 433,376 124,946
Issuance of shares under Employee
Stock Purchase Plan 29,820 271,085
Issuance of common stock for
leasehold improvements 175,975 1,313,653
Issuance of common stock for services 2,500 27,265
Common stock issued in private placement 800,000 8,000,000
Issuance of common stock for
prepaid rent 12,982 96,911
Conversion of Series A redeemable preferred shares 1,342,123 9,477,709
Issuance of Series B preferred stock,
net of issuance costs of $325,594 6,000 5,674,406
Issuance of common stock for
accrued dividends 6,324 45,059
Preferred stock dividend
Net loss
------- ----------- ---------- ------------
BALANCE, December 31, 1998 6,000 5,674,406 14,204,430 68,744,437
Exercise of stock options 112,397 54,780
Exercise of warrants 1,374,975 13,704
Issuance of shares under Employee
Stock Purchase Plan 54,516 270,158
Preferred stock dividend distributed
in common stock 36,043 190,341
Common stock issued in private
placements, net of issuance costs
of $1,378,269 7,685,193 33,148,034
Beneficial conversion feature in notes
and interest expense recognized on
warrants 594,623
Conversion of Series B preferred shares (6,000) (5,674,406) 1,274,857 5,559,065
Issuance of shares under Company
401(k) Plan 35,876 143,504
Options issued for services 76,916
Warrants issued for services 602,015
Common stock issued in exchange
for notes 433,585 2,045,328
Net loss
------- ----------- ---------- ------------
BALANCE, December 31, 1999 $ 25,211,872 $111,442,905
======= =========== ========== ============
Preferred
Stock Accumulated
Dividend Deficit Total
---------- ------------- ------------
BALANCE, January 1, 1997 $ $(27,045,089) $ 1,128,061
Exercise of stock options 1,244,136
Exercise of warrants 118,125
Private placement, net of
issuance costs of $62,135 1,060,405
Issuance of shares under Employee
Stock Purchase Plan 192,661
Exercise of redeemable stock purchase
warrants net of issuance costs of $66,989 10,585,646
Conversion of Series B preferred shares 2,814,386
Issuance of common stock for services 17,500
Conversion of Series C preferred shares 4,962,171
Net loss (15,755,229) (15,755,229)
-------- ------------ ------------
BALANCE, December 31, 1997 (42,800,318) 6,367,862
Exercise of stock options 219,629
Exercise of warrants 124,946
Issuance of shares under Employee
Stock Purchase Plan 271,085
Issuance of common stock for
leasehold improvements 1,313,653
Issuance of common stock for services 27,265
Common stock issued in private placement 8,000,000
Issuance of common stock for
prepaid rent 96,911
Conversion of Series A redeemable preferred shares 9,477,709
Issuance of Series B preferred stock,
net of issuance costs of $325,594 5,674,406
Issuance of common stock for
accrued dividends 45,059
Preferred stock dividend 75,000 75,000
Net loss (19,804,238) (19,804,238)
-------- ------------ ------------
BALANCE, December 31, 1998 75,000 (62,604,556) 11,889,287
Exercise of stock options 54,780
Exercise of warrants 13,704
Issuance of shares under Employee
Stock Purchase Plan 270,158
Preferred stock dividend distributed
in common stock (75,000) 115,341
Common stock issued in private
placements, net of issuance costs
of $1,378,269 33,148,034
Beneficial conversion feature in notes
and interest expense recognized on
warrants 594,623
Conversion of Series B preferred shares (115,341)
Issuance of shares under Company
401(k) Plan 143,504
Options issued for services 76,916
Warrants issued for services 602,015
Common stock issued in exchange
for notes 2,045,328
Net loss (34,531,532) (34,531,532)
-------- ------------ ------------
BALANCE, December 31, 1999 $ $(97,136,088) $ 14,306,817
======== ============ ============
See accompanying notes.
F-3
47
TERA COMPUTER COMPANY
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1998 AND 1999
================================================================================
1997 1998 1999
------------ ------------ ------------
Operating activities
Net loss $(15,755,229) $(19,804,238) $(34,531,532)
Adjustments to reconcile net loss to
net cash used by operating activities:
Depreciation and amortization 801,753 802,663 1,881,325
Loss on disposal of assets 8,087
Beneficial conversion feature of notes payable 594,623
Non-cash warrant and option compensation 602,015
Inventory write down 6,589,356
Cash provided (used) by changes in operating assets
and liabilities:
Accounts receivable (59,651) (279,237) 78,251
Inventory (3,438,913) (5,955,156) (2,047,452)
Other assets (303,131) (745,759) 162,203
Accounts payable and other accrued liabilities 1,068,100 3,332,274 (500,794)
Accrued payroll and related expenses 583 (169,497) 603,139
Contract adjustment reserve (49,545)
Deferred revenue 19,178 48,867
Advances to suppliers (15,308) (90,449) 304,276
------------ ------------ ------------
Net cash used by operating activities (17,693,709) (22,890,221) (26,265,268)
Investing activities
Purchases of property and equipment (1,542,344) (2,075,698) (426,698)
------------ ------------ ------------
Net cash used by investing activities (1,542,344) (2,075,698) (426,698)
Financing activities
Related party (receivable) payments (368,008) 61,189 (33,815)
Payment of shareholder receivable 1,074,997
Restricted cash (1,131,583)
Issuance of notes payable 1,900,000
Sale of common stock 21,927,031 8,859,895 33,488,196
Proceeds from exercise of options 54,780
Principal payments on bank note (71,457)
Sale of preferred stock 8,545,709 5,674,406
Capital leases, net 456,679 203,181 (606,667)
------------ ------------ ------------
Net cash provided by financing activities 31,636,408 14,798,671 33,599,454
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents 12,400,355 (10,167,248) 6,907,488
Cash and cash equivalents
Beginning of year 928,760 13,329,115 3,161,867
------------ ------------ ------------
End of year $ 13,329,115 $ 3,161,867 $ 10,069,355
============ ============ ============
Supplemental disclosure of cash flow information
Cash paid for interest $ 97,598 $ 201,803 $ 174,076
Non-cash investing and financing activities
Inventory reclassed to fixed assets 1,191,112
Fixed asset additions through common stock 1,313,653 164,120
Fixed asset additions through notes payable 933,091
Fixed asset additions through capital leases 493,403
Notes payable converted to common stock 2,045,328
Accounts payable converted to notes 594,291
Stock dividends 249,587 190,341
See accompanying notes.
F-4
48
TERA COMPUTER COMPANY
================================================================================
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1999
NOTE 1 DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES
BUSINESS: Tera Computer Company ("Tera" or the "Company")
designs, builds and sells high performance general-purpose
parallel computer systems based on its unique multithreaded
architecture, the "MTA system." The MTA system addresses a wide
range of scientific and engineering applications and is suited
for emerging commercial applications.
GOING CONCERN: The accompanying financial statements have been
prepared assuming the Company will continue as a going concern.
The Company has experienced significant operating losses since
inception in 1987, has negative cash flows from operations of
approximately $26 million for the year ended December 31, 1999,
and has an accumulated deficit as of December 31, 1999 of
approximately $97 million. These matters, as well as others raise
substantial doubts about the Company's ability to continue as a
going concern. These losses have been primarily funded by sales
of stock. In 1998 the Company emerged from being a development
stage enterprise with its first product sale. However, revenue
levels have not yet been achieved to sustain operations and
generate positive cash flows. The Company raised more than $37
million in equity and debt financings in 1999 and raised an
additional $33 million subsequent to December 31, 1999 from
equity financing and warrant exercises. Management's plans
include raising additional equity capital, achieving profitable
product sales for it's MTA systems in 2000, and successfully
integrating the proposed acquisition of the Cray Research
business unit (See Note 12 - Subsequent Events) into its
operations. Management's plans project sufficient cash flows to
finance its planned operations for the next 12 months. However,
there is significant uncertainty that these plans will be
achieved. The financial statements do not include any
adjustments that might result from the outcome of this
uncertainty.
REVENUE RECOGNITION: Tera generally recognizes revenue from
product sales upon customer acceptance; however, depending on
sales contract terms, revenue may be recognized upon shipment, or
delayed until clarification of funding. Maintenance revenues are
recognized ratably over the term of the maintenance contract.
Service revenues are recognized as services are performed.
In April 1998 Tera recognized its first revenue from product
sales with its delivery of a two-processor MTA system to the San
Diego Supercomputer Center ("SDSC"). In 1999, the MTA system was
upgraded to four-processors and then to eight-processors, and the
Company is now installing a sixteen-processor system at SDSC.
Tera's contract revenues in 1997, 1998 and 1999 were for services
performed under an evaluation subcontract with the SDSC, which
was the prime contractor with the Defense Advanced Research
Projects Agency. This subcontract expired on June 30, 1999.
MANUFACTURING COSTS AND INVENTORY ADJUSTMENTS: In the third
quarter of 1998, the Company began incurring manufacturing
expenses as a result of the Company's progress to commercial
production. These costs reflect the expense of its manufacturing
group, including personnel costs and allocated overhead,
production expenses not directly related to delivered systems,
and inventory adjustments, including revaluations and cost
variations because of changes in production yields, inventory
re-work, inventory consumed in the manufacturing process
and capitalized manufacturing labor and overhead costs.
INVENTORY OBSOLESCENCE CHARGE: During 1999 the Company incurred
inventory obsolescence charges totaling $6,589,356 due to a
non-cash write-off of gallium arsenide processors, integrated
circuits and associated components and parts. Because of the
successful initial testing of CMOS (complementary metal-oxide
silicon) processor and memory controller integrated circuits, the
Company will not ship these parts. Of this amount, $6,129,169 was
added to the inventory allowance and $460,187 was recorded in
Accounts Payable for parts the Company's contractually required
F-5
49
to purchase. This charge was separately reported on the
Statements of Operations due to its significance.
RESEARCH AND DEVELOPMENT: Research and development costs include
costs incurred in the development and production of the Company's
initial prototype system, hardware and software development
expenses, costs incurred to enhance and support existing software
features and expenses related to future implementations of the
MTA system. Research and development costs are expensed as
incurred. Statement of Financial Accounting Standards (SFAS)
No.86, Accounting for the Costs of Computer Software to Be Sold,
Leased, or Otherwise Marketed, does not materially impact the
Company. The Company received research funding, which has been
recorded as an offset to its research and development expenses in
1997, 1998, and 1999.
CASH AND CASH EQUIVALENTS: Cash and cash equivalents consist of
highly liquid financial instruments that are readily convertible
to cash and have original maturities of three months or less at
the time of acquisition.
RESTRICTED CASH: Restricted cash consists of cash equivalents
that serve as collateral pursuant to lease and indebtedness
agreements entered into in 1999 for the acquisition of capital
equipment.
INVENTORIES: Inventories are valued at the lower of cost
(first-in, first-out) or market. The Company regularly
reevaluates the technological usefulness of various inventory
components as it builds larger MTA system configurations. When it
is discovered that previously inventoried components do not
function as intended in a fully operational system scalable to
multiple processors, the costs associated with these components
are expensed. The Company included these costs as a part of its
research and development expenses for the first six months of
1998, and since then has classified these costs as part of
manufacturing costs and inventory adjustments.
PROPERTY AND EQUIPMENT: Property and equipment are recorded at
cost less accumulated depreciation and amortization. Depreciation
is calculated on a straight-line basis over the estimated useful
lives of the related assets, ranging from three to seven years.
Equipment under capital leases is depreciated over the lease
term. Leasehold improvements are amortized over the lesser of
their estimated useful lives or the term of the lease. In March
1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-1 (SOP 98-1), Accounting for the
Costs of Computer Software Developed or Obtained for Internal
Use. SOP 98-1 is effective for financial statements for years
beginning after December 15, 1998. SOP 98-1 provides guidance
over accounting for computer software developed or obtained for
internal use including the requirement to capitalize specified
costs and amortization of such costs. The implementation of SOP
98-1 did not have a material impact on the Company's financial
position or results of operations.
LONG-LIVED ASSETS: Management periodically evaluates long-lived
assets, consisting primarily of property and equipment, to
determine whether there has been any impairment of these assets
and the appropriateness of their remaining useful lives. No
impairment loss has been recognized through December 31, 1999.
F-6
50
FAIR VALUES OF FINANCIAL INSTRUMENTS: At December 31, 1999, the
Company had the following financial instruments: cash and cash
equivalents, accounts receivable, accounts payable, accrued
liabilities and capital lease obligations. The carrying value of
cash and cash equivalents, accounts receivable, accounts payable
and accrued liabilities approximates their fair value based on
the liquidity of these financial instruments or based on their
short-term nature. The carrying value of capital lease
obligations and notes payable approximates fair value based on
the market rates available to the Company for debt of similar
risk and maturities.
INCOME TAXES: The Company accounts for taxes under No. 109.
LOSS PER SHARE: Basic and diluted net loss per share is computed
based on the weighted average number of shares of common stock
outstanding. Basic earnings per share excludes any dilutive
effects of options, warrants and convertible securities. Because
Tera's stock options and warrants are not dilutive (due to net
losses), there is no difference between basic net loss per share
and diluted net loss per share.
USE OF ESTIMATES: Preparation of financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the
amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.
SEGMENT REPORTING: In June 1997, the FASB issued SFAS No. 131,
Disclosures about Segments of an Enterprise and Related
Information, which establishes standards for reporting
information about operating segments in annual financial
statements. It also establishes standards for related disclosures
about products and services, geographic areas and major
customers. The adoption of this new standard had no effect on the
earnings or financial position of the Company as it currently has
only one segment.
NOTE 2 SIGNIFICANT RISKS AND UNCERTAINTIES
A FAILURE TO INTEGRATE THE PLANNED ACQUISITION OF THE CRAY
RESEARCH BUSINESS UNIT COULD COMPROMISE IT'S GROWTH STRATEGY AND
ADVERSELY AFFECT IT'S BUSINESS. If the Company completes the
acquisition of the Cray Research business unit from Silicon
Graphics, Inc., the size and geographic dispersion of its
workplace and operations will increase significantly. These
increases will place a significant strain on its management,
financial and other resources. The company will need to add new
financial and information systems, increase its sales force,
renovate existing and find new facilities and successfully
separate the Cray operations from those of Silicon Graphics and
merge them with its existing operations. The Company may
experience difficulties in integrating Cray's personnel,
operations and technologies, and such integration could divert
its management's time and resources. Failure to complete this
integration successfully could cause the Company to increase
expenditures and adversely affect its revenue.
MANUFACTURING RISKS AND RELIANCE ON THIRD-PARTY SOLE SOURCE
SUPPLIERS: Tera subcontracts the manufacture of substantially all
of its hardware components, including integrated circuits,
printed circuit boards, flex circuits and power supplies, on a
sole or limited source basis to third party suppliers. The
manufacture of these components is a difficult and complex
process. The Company's suppliers have previously experienced, and
may in the future again experience, problems in manufacturing the
components to the Company's design and quantity specifications.
Future manufacturing difficulties or limitations of the suppliers
could result in:
- substantial delays in the delivery of necessary
hardware components to the Company;
- a material and adverse affect on the Company's ability
to complete and deliver production models of the MTA
system;
F-7
51
- a limitation on the number of MTA systems that can be
produced using such components to fill future orders;
- unacceptably high prices for those components, with a
resulting loss of profitability or loss of
competitiveness for the Company's products; and
- increased demands upon the Company's financial
resources.
Absent improved yields, increased production capacity or a
reallocation of such suppliers' output to meet the Company's
needs, the Company may be unable to obtain a sufficient quantity
of suitable components to meet future production and delivery
schedules. The Company is exposed to these additional risks based
on its reliance on third party suppliers:
- some of the Company's key suppliers are small
companies with limited financial and other resources,
and consequently may be more likely to experience
financial difficulties than larger, well established
companies;
- any or all of the Company's suppliers may make
strategic changes in their product lines, which may
result in the delay or suspension of manufacture of
the Company's components or systems;
- if a reduction or interruption of supply of the
Company's components occurred, it could take the
Company a considerable period of time to identify and
qualify alternative suppliers to redesign its products
as necessary and recommence manufacture; and
- if the Company were ever unable to locate a supplier
for its components, it would be unable to produce and
deliver its products, which would materially and
adversely affect the Company's business and results of
operations.
MARKETING RISKS: The Company's initial market for early
sales is U.S. and foreign government agencies and research
laboratories. If the U.S. or foreign governments were to
reduce or delay funding programs employing high performance
computing, then the Company's initial target markets would
be seriously adversely affected.
In order to expand its market beyond the very high performance
scientific market, and particularly beyond government agencies
and research laboratories, to engineering and other commercial
markets, the Company must be able to attract independent software
vendors to port their software application programs so that they
will run on the MTA system. The Company also plans to modify and
port third-party software applications to the MTA system to
facilitate the expansion of its potential markets. There can be
no assurance that the Company will be able to induce independent
software vendors to port their applications, or that the Company
will successfully port third-party applications to the MTA
system, and the failure to do so could materially and adversely
affect the Company's business and results of operations.
RAPID TECHNOLOGICAL CHANGE AND NEW PRODUCTS: Rapidly changing
technology, accelerated product obsolescence and rapidly changing
industry standards characterize the Company's market. The
Company's success will depend upon its ability to complete
development of the MTA system and to introduce new features in a
timely manner to
F-8
52
meet evolving customer requirements. The Company may not succeed
in these efforts. The Company's business and results of
operations will be materially and adversely affected if the
Company incurs delays in developing its products or if such
products do not gain broad market acceptance. In addition,
products or technologies developed by others may render the
Company's products or technologies noncompetitive or obsolete.
NOTE 3 BALANCE SHEET INFORMATION
Detailed balance sheet data is as follows:
DECEMBER 31, 1998 1999
- --------------------------------------------------------------------------------
Inventory
Components and subassemblies $ 9,346,646 $ 8,043,797
Work in process 252,000 805,612
Finished Goods 922,501 1,137,328
Inventory allowance (275,118) (5,473,724)
------------ -----------
$ 10,246,029 $ 4,513,013
============ ===========
Prepaid expenses and other assets
Current deposits $ 439,509 $ 144,504
Prepaid insurance 145,499 287,176
------------ ------------
$ 585,008 $ 431,680
============ ============
Current deposits consist of the current portion of the initial
deposit amounts paid for capitalized leased equipment and
prepayments made on service contracts.
Property and equipment
Computer and electronic test equipment $ 4,564,855 $ 6,855,181
Computer software 1,260,943 1,602,582
Leasehold improvements 1,749,039 1,973,931
Furniture, fixtures, and other 385,489 736,095
------------ -----------
Total property and equipment 7,960,326 11,167,789
Accumulated depreciation and amortization (3,458,713) (5,339,077)
------------ -----------
$ 4,501,613 $ 5,828,712
============ ===========
At December 31, 1998 and 1999, Tera held equipment under capitalized
leases with an original cost of $1,620,987 and $2,114,390 and a net
book value of $1,160,194 and $833,204, respectively.
NOTE 4 RELATED PARTY TRANSACTIONS
During 1999, Tera accepted promissory notes in the aggregate
principal amount of $364,015 as collateral for payment by the
Company of option exercise prices aggregating $58,332 and federal
income taxes due from the exercise of employee stock options
aggregating $305,683. These notes replaced promissory notes in
the aggregate principal amount of $341,561 originally issued
during 1998. The notes are due and payable in twelve months and
bear interest at a rate of 5.74% per year. These notes and the
unpaid accrued interest are secured by a pledge of shares of
Tera's common stock.
F-9
53
The Company's rights to payment are not limited to such security.
For financial statement presentation, the amount of $58,332
related to subscribed stock has been excluded from both the
outstanding receivable and contributed capital balances.
As part of the financing completed on June 21, 1999, the Company
paid fees of $648,200 to Intellect Capital Corporation, whose
chairman and CEO is Terren S. Peizer, Chairman of the Company and
issued a warrant exercisable for common stock to Mr. Peizer.
See Note 9 - Shareholders' Equity.
NOTE 5 LEASE AGREEMENTS
Tera leases certain property and equipment under capital leases
pursuant to master equipment lease agreements. Under such
agreements, the Company has acquired computer and other equipment
in the amount of $1,160,194 and $1,083,887, net of accumulated
amortization of $460,793 and $1,030,503 in 1998 and 1999
respectively. See Note 3 above.
In December 1998 the Company occupied new facilities for its
Seattle operations pursuant to a ten-year operating lease, which
may be extended at the option of the Company for an additional
five years. Under this lease, Tera initially occupies 85,000
square feet; in June 2000 it will occupy 96,000 square feet and
in December 2001 it will occupy approximately 131,000 square
feet. Sales offices in the United States, France and Japan are
rented pursuant to month-to-month or similar arrangements.
Minimum lease commitments are:
Capital Operating
Leases Leases
---------- -----------
2000 $ 702,592 $ 1,864,162
2001 305,223 1,957,135
2002 119,984 2,479,785
2003 2,479,785
2004 2,615,071
Thereafter 10,866,140
---------- -----------
1,127,799 $22,262,078
===========
Less amounts representing interest 125,964
----------
$1,001,835
==========
Rent expense for 1997, 1998 and 1999 was $788,645, $960,892 and
$1,929,000, respectively.
NOTE 6 COMMITMENTS
The Company is contractually committed to acquire components, and
manufacturing and engineering services totaling $1,700,000 of
which $112,000 had been advanced to suppliers as of December 31,
1999. Commitments are for goods and services to be
F-10
54
provided to Tera by either specific dates or by achieving
milestones identified in the contracts.
NOTE 7 FEDERAL INCOME TAXES
Due to the continued losses from operations, there has been no
provision for federal income taxes for any period.
As of December 31, 1997, 1998 and 1999, the Company had federal
net operating loss carryforwards of approximately $39,153,000,
$60,732,000 and $88,265,000, respectively. The Company also had
federal research and experimentation tax credit carryforwards of
approximately $1,825,000, $2,454,000 and $3,022,000,
respectively. The net operating loss credit carryforwards will
expire at various dates beginning in 2003 through 2019 if not
utilized.
Due to the issuance and/or sale of shares of common stock,
convertible preferred stock, convertible notes, and other equity
securities, Tera incurred two "ownership changes" pursuant to
applicable regulations in effect under the Internal Revenue Code
of 1986, as amended. Therefore, Tera's use of losses incurred
through the date of these ownership changes will be limited
during the carryforward period. The Company estimates that net
operating loss carryforwards incurred prior to the public
offering in 1995 are limited to an annual utilization of
approximately $700,000. The Company estimates the net operating
loss carryforward incurred prior to March 1999 (the second
ownership change) are limited to an annual utilization of
approximately $5,000,000. The research and experimentation credit
is similarly limited. The annual limitations may result in the
expiration of net operating losses and credits before
utilization.
Deferred income taxes reflect the net tax effects of temporary
differences between the tax basis of assets and liabilities and
the corresponding financial statement amounts. Significant
components of the Company's deferred income tax assets are as
follows:
1998 1999
----------- -----------
Warranty reserve $ 85,000 68,000
Inventory reserve 94,000 1,862,000
Accrued compensation 211,000 246,000
Stock issued for services 231,000
Research and experimentation 2,454,000 3,022,000
Net operating loss carryforwards 20,649,000 29,986,000
State tax loss carryforwards 613,000 1,577,000
Other (40,000) 123,000
----------- -----------
Net deferred tax assets 24,066,000 37,115,000
Valuation allowance for deferred tax assets (24,066,000) (37,115,000)
----------- -----------
Deferred tax asset balance -- --
=========== ===========
The Company has provided a full valuation allowance for its
deferred tax asset. Management believes sufficient uncertainty
exists regarding the realizability of the
F-11
55
deferred tax assets such that a full valuation allowance is
required. The net change in the valuation allowance during the
years ended December 31, 1998 and 1999 was $8,602,000 and
$13,049,000, respectively.
The following table reconciles the federal statutory income tax
rate to the Company's effective tax rate.
1997 1998 1999
---- ---- ----
Federal income tax rate 34% 34% 34%
Effect of net operating loss
carryforward and valuation
allowance (34%) (34%) (34%)
---- ---- ----
Effective income tax rate
==== ==== ====
NOTE 8 NOTES PAYABLE
1999
----------
Note payable to bank, dated August 31, 1999,
original principal of $544,379, interest at 10.48%,
due August 31, 2002, secured by cash and equipment.
Restrictive covenants include maintenance of restricted cash
balances in the principal amount of the note outstanding. $ 491,963
Note payable to bank, dated October 7, 1999,
original principal of $388,712, interest at 8.71%,
due October 7, 2002, secured by cash and equipment.
Restrictive covenants include maintenance of restricted cash
balances in the principal amount of the note outstanding. 369,670
Convertible note payable to vendor, dated March 25, 1999,
original principal of $494,291, interest at 8.00%,
due March 31, 2001, unsecured, net of discount of
$45,327. Convertible at $5.00 per share into 98,858
shares of common stock.(See note 9) 448,964
----------
1,310,597
Less current portion (288,865)
----------
Total long-term notes payable $1,021,732
==========
The aggregate maturities of notes payable for the years 2000
through 2002 are as follows: $288,865, $812,603, $254,457.
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56
NOTE 9 SHAREHOLDERS' EQUITY
REDEEMABLE SECURITIES: In December 1997, the Company issued
10,000 shares of Series A convertible Preferred Stock with a
stated value of $1,000 per share, for proceeds of $9,477,709, net
of issuance costs of $522,291, along with five-year common stock
purchase warrants to purchase a total of 125,000 shares with an
exercise price of $19.19 per share. All shares of the Series A
Preferred Stock were converted into shares of Common Stock by
December 31, 1998.
PREFERRED STOCK: In 1998, the Company issued 6,000 shares of
Series B convertible preferred stock at a stated value of $1,000
per share, for proceeds of $5,674,406, net of issuance costs of
$325,594, along with five year common stock purchase warrants to
purchase a total of 100,000 shares with an exercise price of
$15.00 per share. During 1999 all of the Series B preferred stock
was converted into common stock.
COMMON STOCK PRIVATE PLACEMENTS: On March 10, 1999, the Company
raised $5,000,000, before issuance costs of $109,515, from the
private sale of 1,111,111 shares of common stock, along with
warrants to purchase 1,111,111 shares of common stock with an
exercise price of $5.16 per share. The investor has the option to
invest another $5,000,000 for shares of common stock at a
purchase price of $5.16 per share; if the option were exercised,
the Investor also would receive warrants for 1,076,658 shares
with an exercise price of $5.16 per share. The Company also
issued to the investor 103,889 shares of common stock and
warrants for 225,000 shares of common stock with an exercise
price of $5.16 per share to cover certain fees relating to this
transaction
On June 21, 1999,the Company raised $30,292,120, prior to fees
and expenses estimated at approximately $1,190,000, in a private
placement of 6,417,820 shares of our common stock to a group of
18 institutional investors and 18 accredited investors (the "June
1999 Private Placement") and 42,373 shares of common stock issued
in payment of additional fees. The Company sold the shares at a
price of $4.72 per share. As part of the financing, all "reset"
rights associated with previously issued common stock and
warrants were eliminated. In addition, the investor's option
issued in March 1999 to invest another $5 million was eliminated,
and the exercise price for 200,000 warrants issued in March 1999
was lowered from $5.16 to $4.72 per share.
SHAREHOLDER WARRANTS: On June 21, 1999, the Company issued
warrants to purchase 6,417,820 shares to the investors in the
June 1999 Private Placement. The warrants are exercisable at an
exercise price of $4.72 per share, and expire on June 21, 2002.
The warrants may be exercised only for cash. The warrants contain
common antidilution protection for stock splits, stock dividends
and recapitalizations and if we sell shares of common stock in
private transactions below the exercise price of the warrants or
market price for our common stock.
As part of the financing completed on June 21, 1999, the Company
issued a warrant to Terren S. Peizer, Chairman of the Company, in
exchange for cash of $200,000, exercisable for a minimum of
1,591,723 shares of common stock. On June 21, 2000, and in
certain circumstances prior to that date, such as if the Company
were involved in a merger or similar transaction or if the
Company terminated its relationship with Mr. Peizer, the number
of shares subject to this warrant increases to 10% of the
Company's issued and outstanding shares, on a fully diluted
basis, with certain limited exceptions. If this warrant had been
so exercisable as of December 31, 1999, it would have been
exercisable for a total of 4,439,930 shares.
At December 31, 1999, the Company had outstanding warrants to
purchase an aggregate
F-13
57
of 13,161,019 shares of common stock, as follows:
Shares of Exercise Price Expiration
Common Stock per share Date of Warrants
------------ -------------- ------------------
20,321 $14.09 September 24, 2000
90,488 $6.00 December 31, 2001
97,208 $6.00 February 28, 2002
297,250 $3.94 April 21, 2002
8,965,420 $4.72 June 21, 2002
155,000 $4.50 June 25, 2002
125,000 $6.00 December 23, 2002
100,000 $6.00 June 30, 2003
161,344 $4.72 September 28, 2003
100,000 $6.00 January 20, 2004
100,000 $6.00 March 30, 2004
25,000 $5.16 March 9, 2004
200,000 $4.72 March 9, 2004
1,111,111 $4.72 March 9, 2004
14,829 $5.00 March 31, 2004
5,801 $6.00 November 7, 2005
524 $6.00 May 21, 2006
1,591,723 $4.95 June 21, 2009
----------
13,161,019
==========
CONVERTIBLE NOTES PAYABLE: From February 23, 1999 through March
31, 1999, the Company issued Subordinated Convertible Promissory
Notes (the "Notes") in the aggregate principal amount of
$2,491,291, and warrants to purchase 74,829 shares of our common
stock, to 11 accredited investors, consisting of two vendors and
nine individuals. The Notes were convertible at $5.00 per share.
In June 1999, all but one investor (a vendor), with a Note in the
principal amount of $494,291, exchanged their Notes and warrants
for shares of common stock and new warrants on the terms of the
June 1999 Private Placement. In this transaction, the Company
issued an aggregate of 433,585 shares of common stock and
warrants to purchase 433,585 shares of common stock, and the
Noteholders surrendered their Notes and prior warrants to
purchase 60,000 shares of common stock. In connection with this
transaction, the results of operations for the year ended
December 31, 1999 include a non-cash interest expense of $278,000
for the value of the conversion feature of the Notes, and the
results also include a non-cash expense of $268,000 for the value
of the detachable warrants.
STOCK OPTION PLANS: Tera has five stock option plans that provide
for option grants to employees, directors and others. Four of
these plans, the 1988 Employee Stock Option Plan, the 1993
Employee Stock Option Plan, the 1995 Employee Stock Option Plan,
and the 1995 Independent Director Stock Option Plan were
terminated by the Board of Directors in 1995 and 1999. Options
granted under the Company's option plans
F-14
58
generally vest over four years or as otherwise determined by the
plan administrator. Options to purchase shares expire no later
than ten years after the date of grant.
A summary of Tera's stock option activity and related information
follows:
Outstanding
Weighted Weighted
Average Average
Options Exercise Options Exercise
Outstanding Price Exercisable Price
----------- ----------- ----------- --------
Balance, January 1, 1997 1,811,068 $3.92 660,758 $2.18
Granted 412,357 5.52
Exercised (151,026) 2.33
Canceled (36,494) 4.52
----------
Balance, December 31, 1997 2,035,905 $4.37 931,309 $3.25
Granted 742,090 8.44
Exercised (153,234) 1.43
Canceled (41,725) 6.61
----------
Balance, December 31, 1998 2,583,036 $5.68 1,158,125 $4.15
Granted 1,320,439 5.17
Exercised (107,513) 0.56
Canceled (100,616) 4.65
---------
Balance, December 31, 1999 3,695,346 $5.68 1,699,744 $5.29
=========
Available for grant at
December 31, 1999 1,720,760
=========
In 1997, the Company issued certain performance-based stock
options to employees for an aggregate of 59,324 shares of common
stock; Burton Smith, Chief Scientist, and Jim Rottsolk, Chief
Executive Officer were granted options on an equal number of
shares of common stock that they held. All these options were
exercised in 1997 when the performance criteria were met, and the
Company recognized compensation expense of $832,000.
Outstanding and exercisable options by price range as of December
31, 1999 are as follows:
F-15
59
Options Outstanding Options Exercisable
- ----------------------------------------------------- ------------------------
Weighted Weighted Weighted
Range of Average Average Average
Exercise Price Number Remaining Exercise Number Exercise
Per Share Outstanding Life (Years) Price Exercisable Price
- ------------- ----------- ----------- -------- ----------- ---------
$ 0.35-$ 3.00 189,659 2.7 $ 1.50 183,159 $ 1.52
3.01- 6.00 2,202,243 7.5 5.00 1,190,409 5.16
6.01- 9.00 1,294,444 8.8 7.41 323,176 7.85
9.01- 12.00 0 0.0 0.00 0 0.00
12.01- 15.00 9,000 8.3 13.69 3,000 13.69
- ------------- ----------- ---- ------ --------- ------
$ 0.35-$15.00 3,695,346 7.7 $ 5.68 1,699,744 $ 5.29
============= =========== ==== ====== ========= ======
In 1996, the Company established an Employee Stock Purchase Plan
(1996 ESPP). The maximum number of shares of the Company's common
stock that employees may acquire under the 1996 ESPP is 1,000,000
shares. Eligible employees are permitted to acquire shares of the
Company's common stock through payroll deductions not exceeding
15% of base wages. The purchase price per share under the 1996
ESPP is the lower of (a) 85% of the fair market value of the
Company's Common Stock at the beginning of each six month
offering period or (b) the fair market value of the Common Stock
at the end of each six month offering period.
FAIR VALUE INFORMATION: The Company applies Accounting Principles
Board Opinion No. 25, Accounting for Stock Issued to Employees
and related Interpretations in accounting for its stock option
and purchase plans. Had compensation cost for the Company's stock
option plans and its stock purchase plan been determined based on
the fair value at the grant dates for awards under those plans
consistent with the method of No. 123, Accounting for Stock-Based
Compensation, the Company's loss for common stock and loss per
common share for the years ended December 31, 1997, 1998, and
1999 would have been increased to the pro forma amounts indicated
below:
Loss for common stock -
1997 1998 1999
------------ ------------ ------------
As reported $(18,672,435) $(20,736,628) $(34,646,873)
Pro forma $(19,802,773) $(22,932,967) $(36,884,809)
Loss per common share -
1997 1998 1999
------ ------ ------
As reported $(2.13) $(1.70) $(1.74)
Pro forma $(2.25) $(1.88) $(1.85)
F-16
60
The estimated fair values of options granted during 1997, 1998
and 1999 were $5.85, $8.21, and $5.05 per share, respectively;
these fair values were estimated as of the dates of grant using
the Black-Scholes option-pricing model with the following
weighted-average assumptions: no dividend yield, expected
volatility of 85%, risk-free interest rate of 5.7%, 5.4%, and
6.6% for 1997, 1998 and 1999, respectively, and an expected term
of 8.4 years. Pro forma compensation cost of options granted
under the 1996 ESPP is measured based on the discount from market
value.
NOTE 10 401(k) PLAN
The Company has a defined contribution retirement plan covering
substantially all employees that provides for voluntary salary
deferral contributions on a pre-tax basis in accordance with
Section 401(k) on the Internal Revenue Code of 1986, as amended.
The Company may make voluntary matching contributions in amounts
determined annually by the Board of Directors. Defined
contribution pension expense was $104,000, $139,000 and $183,000
for 1997, 1998, and 1999.
NOTE 11 RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the FASB issued SFAS No. 133, Accounting for
Derivatives and Hedging Activities, which establishes accounting
and reporting standards for derivative instruments, including
certain derivative instruments embedded in other contracts
(collectively referred to as derivatives), and for hedging
activities. Because the Company has never used nor currently
intends to use derivatives, management does not anticipate that
the adoption of this new standard will have a significant effect
on earnings or the financial position of the Company.
In December 1999, the Securities and Exchange Commission released
Staff Accounting Bulletin (SAB) No. 101, Revenue Recognition in
Financial Statements, to provide guidance on the recognition,
presentation and disclosure of revenues in financial statements.
The Company believes its revenue recognition practices are in
conformity with the guidelines prescribed in SAB No. 101.
NOTE 12 SUBSEQUENT EVENTS
On February 2, 2000, the Company raised approximately $26.1
million prior to fees and other issuance costs of approximately
$1.8 million through a private placement of common stock. The
private placement consists of approximately 5.2 million shares of
common stock, priced at $5.00 per share. The stock was placed
with a group of accredited investors, 20 institutional and 8
individuals; no warrants or options were issued in conjunction
with this transaction.
On March 1, 2000, the Company signed a definitive agreement to
acquire the Cray Research supercomputer business unit and the
Cray brand name from Silicon Graphics, Inc. The agreement
consists of a purchase of assets for consideration consisting of
$15 million in cash, a nine-month promissory note and 1 million
shares of unregistered common stock. The amount of the note will
depend on the net book value of certain identified assets
purchased and liabilities assumed as of the closing date plus
additional share consideration contingent on Tera's share price
prior to the closing date. Tera will account for this
transaction using the purchase method of accounting.
F-17
61
The purchase price will be funded out of current funds and
planned future operations. If and when this acquisition is
consummated, the Company, which would be renamed "Cray Inc.," and
its business operations will change significantly. Upon
completion of the Cray acquisition, the Company would have nearly
900 employees, an installed base of over 600 computers worldwide,
major manufacturing and service capabilities and extensive global
customer relationships. It would own three buildings in Chippewa
Falls, Wisconsin, would lease facilities in Eagan, Minnesota, and
other offices in the United States and foreign countries along
with furniture, equipment, fixtures, inventory, spare parts,
ongoing contracts, patents and other intellectual property rights
currently associated with the Cray business unit. The Company
would be manufacturing, selling and servicing the existing Cray
supercomputers, including the Cray SV1, a vector-processing
supercomputer, and the T3E, a massively parallel supercomputer.
It would also continue the development of the SV2, which is
designed to offer next-generation vector processing technology.
The acquisition would add nearly 200 employees in Eagan,
Minnesota, 300 employees in Chippewa Falls, Wisconsin, 125
employees in field offices in the United States and 150 employees
overseas. The acquisition of the Cray Research unit is subject to
customary regulatory approvals, agreement with SGI regarding
transition issues, and other closing conditions and is expected
to close by the end of April 2000. Upon consummation, the Company
will file appropriate disclosure documents with the Securities
and Exchange Commission.
62
EXHIBIT INDEX
EXHIBIT
NO. DESCRIPTION
------- -----------
23.1 Independent Auditors' Consent
27.1 Financial Data Schedule
63
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of
Tera Computer Company
Seattle, Washington
We have audited the accompanying balance sheets of Tera Computer Company (the
Company) as of December 31, 1998 and 1999, and the related statements of
operations, stockholders' equity, and cash flows for each of the three years in
the period ended December 31, 1999. 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 financial statements present fairly, in all material
respects, the financial position of Tera Computer Company as of December 31,
1998 and 1999, and the results of its operations and its cash flows for each of
the three years in the period ended December 31, 1999, in conformity with
accounting principles generally accepted in the United States of America.
The accompanying financial statements have been prepared assuming the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the Company has recently emerged from being a development stage
enterprise and has not yet achieved revenue levels to sustain operations and
therefore the Company's losses from operations raise substantial doubts about
its ability to continue as a going concern. Management's plans concerning these
matters are also described in Note 1. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
\s\ DELOITTE & TOUCHE LLP
Seattle, Washington
February 4, 2000
(March 1, 2000 as to Note 12)
F-19