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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2000 Commission file number 0-15135
TEKELEC
(Exact name of registrant as specified in its charter)
California 95-2746131
(State or other jurisdiction of (I.R.S.Employer
incorporation or organization) Identification Number)
26580 West Agoura Road, Calabasas, California 91302
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (818) 880-5656
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, without 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 preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by 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 voting stock held by non-affiliates of
the registrant, based upon the last reported sale price of the Common Stock on
March 1, 2001 as reported on The Nasdaq Stock Market, was approximately
$840,628,000.
The number of shares outstanding of the registrant's Common Stock on March
1, 2001 was 59,066,684.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement to be delivered to
shareholders in connection with their Annual Meeting of Shareholders to be held
on May 18, 2001 are incorporated by reference into Part III of this Annual
Report.
TEKELEC
INDEX TO ANNUAL REPORT ON FORM 10-K
For the fiscal year ended December 31, 2000
Page
----
PART I
Item 1. Business........................................................... 3
Item 2. Properties......................................................... 29
Item 3. Legal Proceedings.................................................. 29
Item 4. Submission of Matters to a Vote of Security Holders................ 30
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters................................................ 30
Item 6. Selected Consolidated Financial Data............................... 31
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.......................................... 32
Item 7A. Quantitative and Qualitative Disclosures about Market Risk......... 42
Item 8. Financial Statements and Supplementary Data........................ 42
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure........................................... 42
PART III
Item 10. Directors and Executive Officers of the Registrant................. 42
Item 11. Executive Compensation............................................. 43
Item 12. Security Ownership of Certain Beneficial Owners and Management..... 43
Item 13. Certain Relationships and Related Transactions..................... 43
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K... 44
2
PART I
Item 1. BUSINESS
Overview
Tekelec (the "Company") designs, manufactures, markets and supports network
systems products, diagnostics systems and selected service applications for
telecommunications networks and contact centers. The Company's customers include
telecommunications carriers, network service providers, equipment manufacturers
and contact center operators.
The Company's network systems products help direct and control voice and
data communications. They enable carriers to control, establish and terminate
calls. They also enable carriers to offer intelligent services, which include
any services other than the call or data transmission itself. Examples include
familiar products such as call waiting, caller ID, voice messaging, toll free
calls (e.g., "800" calls), prepaid calling cards and local number portability.
Some of the Company's network systems products also allow the monitoring and
surveillance of network elements while the network is in operation.
The Company believes that voice and data networks will increasingly
interoperate, or converge. Network convergence will provide opportunities to
expand sales of the Company's network systems products and service applications,
several of which were designed specifically for converged networks.
The Company's diagnostics products simulate a controlled network
environment, which allows telecommunications equipment manufacturers, and to a
lesser extent, carriers, to test products to ensure that products conform to
specifications and to evaluate network performance without risking the failure
of an in-service network.
The Company's contact center products provide workforce management and
intelligent call routing systems for single and multiple site contact centers.
The Company sells its contact center products primarily to customers in
industries with significant contact center operations such as financial
services, telecommunications and retail.
Industry Background
Demand for communications equipment has expanded rapidly in recent years.
Driving this trend has been the growth in demand for data communications and
wireless connectivity, deregulation and the emergence of new competitors,
services and technologies.
Growth in data traffic has been most visibly driven by the increase in the
number of businesses and consumers that use the Internet. According to
International Data Corp., an independent market research firm, the number of
people accessing the Internet was approximately 142 million in 1998 and is
expected to grow to 502 million by 2003. The number of wireless subscribers has
also grown rapidly in recent years, doubling from 1998 levels to 650 million
subscribers worldwide in 2000, according to Dataquest.
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The increase in data traffic, combined with the inherent efficiency of
packet switched networks, have led many carriers to build new packet networks
and to seek ways to enable existing circuit switched networks to interface
reliably and efficiently with these new packet switched networks.
Deregulation has played a key role in the emergence of new competitive
service providers. The U.S. Telecommunications Act of 1996 mandates incumbent
local exchange carriers to provide greater interconnection in order to
facilitate the entry of new competitors. Technological developments such as
xDSL, cable modems and broadband wireless have enabled alternative access
technologies and fostered new types of service providers.
As competition has grown in recent years, per-minute revenue from basic
telephony service has declined significantly. As a result, intelligent services
have become core competitive features of a network, providing incremental
revenues to service providers and offering more service choices to subscribers.
As these services have become less expensive and more widely accessible,
customer demand for them has grown.
Deregulation has also spurred the offering of intelligent services. The
Telecommunications Act mandates that subscribers of U.S. telephone service be
given the option of changing their local service provider while retaining their
local phone number. European Union officials announced a recommendation that
local service providers also deploy a number portability solution that will
allow subscribers to retain their telephone numbers while changing providers.
Current FCC regulations require that wireless customers in the U.S. be offered
this same option in 2002.
As a result of these trends, service providers are seeking to differentiate
their products and services while lowering their costs. This has increased
demand for technologies that enable the rapid creation and delivery of
innovative services on existing and converged networks. Some of the key
challenges that service providers face in expanding their network systems
include:
o expanding and/or upgrading their signaling network systems to support new
and enhanced services, and rapidly-growing volumes of signaling traffic;
o building and managing networks that can cost-effectively support circuit
and packet network convergence; and
o testing new network elements and monitoring increasingly complex networks.
Similarly, telecommunications equipment manufacturers and network operators
need advanced and flexible ways to test and monitor equipment in existing and
converged networks in a cost efficient manner.
Signaling and Intelligent Services
Current voice telephone networks consist of two basic elements -- switching
and signaling. The switching portion of a network carries and routes the actual
voice or data comprising a "call." The signaling portion of a network instructs
the switching portion how to do its job. Signaling messages are carried on a
different logical transmission path than the actual call itself. Signaling is
responsible for establishing and terminating a call. The signaling portion of
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the network also enables service providers to offer intelligent services such as
call waiting, caller ID and voice messaging.
The signaling portions of existing voice telephone networks in the U.S. are
based upon a set of complex standards known as Signaling System #7, or SS7. The
primary network elements within a traditional circuit network architecture based
on SS7 are as follows:
Signal Transfer Point (STP) -- A signal transfer point is a packet switch
for the signaling portion of the network. It controls and directs the signaling
messages used to establish and terminate telephone calls and to coordinate the
provision of intelligent services.
Service Switching Point (SSP) -- A service switching point (often called a
Class 4 or Class 5 switch, depending on its location in the network) is a
carrier's switch that connects to the SS7 network and serves as the origination
and termination points for the SS7 messages in a network. In this capacity, the
service switching point, via signaling transfer points, sends and processes the
signaling messages used to establish and terminate telephone calls. When a
service switching point identifies a call requiring instructions for intelligent
services, it sends a signaling message to a signal transfer point and awaits
further routing or call processing instructions.
Service Control Point (SCP) -- A service control point is a specialized
database containing network and customer information. It is queried by service
switching points via signaling transfer points for information required for the
delivery of intelligent services. Different service control points contain the
information used by the SS7 network to perform different types of functions.
Signaling Links -- A signaling link is a physical or logical connection or
channel between any two different parts of the signaling portion of the network,
or a connection or channel between the signaling part of the network and the
switching part of the network. To create additional network capacity to
accommodate increases in signaling traffic, additional links must be added to
signal transfer points, or new signal transfer points must be added.
Traditionally, signaling links have operated on dedicated circuit facilities.
New network architectures support signaling over packet transmission
technologies such as IP or ATM.
The market for SS7 equipment is driven by growth in network traffic and by
demand for intelligent services. Carriers and service providers must increase
the performance and capacity of their signaling networks in order to increase
call processing capacity or to offer intelligent services. Because of its role
in providing reliability and features to a voice network, SS7 switches must
deliver high performance and reliability. Typically, these switches need to
deliver 99.999% reliability, or less than three minutes of unscheduled downtime
per year. Service providers also require an SS7 solution that is scalable --
that is, a solution that can initially be matched to support a carrier's current
capacity but with the capability to have its capacity increased to support the
carrier's growth without requiring the replacement of certain network elements.
Supporting Voice and Data Convergence
Currently, virtually all networks which carry both voice and data
communications rely on a technology called circuit switching. Another
technology, packet switching, has been used almost exclusively for data-only
networks. Circuit switching and packet switching are fundamentally different
technologies. While circuit switching has offered reliable and high
5
quality voice communications, packet switching is inherently more efficient and
cost effective. Industry sources estimate that the cost of a transmission minute
is as much as 25% to 50% less for a packet network than for a circuit network.
The cost and performance superiority of packet switching has led many
incumbent and new carriers to build packet networks to handle data traffic. It
has also led carriers to explore the transmission of voice communications over
packet networks. This requires circuit networks and packet networks to
seamlessly interconnect.
To support voice and data communications, packet networks need signaling to
provide the same reliability and quality of transmissions as circuit networks
and to provide the intelligent services consumers have come to expect and
demand. Because SS7 is the global industry standard for voice networks, the
Company believes that signaling for the converged circuit and packet networks
will be based upon SS7 or its derivatives as well. This allows new carriers with
packet networks to more easily interconnect with existing circuit networks and
would allow incumbent carriers to leverage their investment in their existing
networks even as they build out their data networks.
Tekelec believes that the primary network elements of converged circuit and
packet networks, including signaling, call control and switching technologies,
are as follows:
Signal Transfer Point -- As in the present circuit networks, a signal
transfer point relays messages needed to establish and terminate telephone calls
and to coordinate the provision of intelligent services. It can relay messages
within the circuit network, between circuit and packet networks, and possibly
within some forms of packet networks.
Service Control Point -- As in the present circuit networks, a service
control point is a specialized database containing information used to deliver
intelligent services. Service control points in converged networks may support
packet-based signaling interfaces.
Signaling Gateway -- A signaling gateway receives signaling messages from
signal transfer points, reformats these messages and presents them to one or
more media gateway controllers.
Media Gateway Controller -- A media gateway controller, frequently called a
softswitch or call agent, is a specialized computer that provides the
intelligence, or call control to direct switching. It controls one or more
voice/data switches called media gateways.
Media Gateway -- A media gateway is a voice/data switch that receives the
message part of a call and redirects it as specified by the media gateway
controller to a single destination or to multiple destinations. If necessary, a
media gateway can translate the actual call from a packet switching format to a
circuit switching format and vice versa.
A primary difference between this converged architecture and the circuit
architecture described above is the use of the signaling gateway, media gateway
controller and media gateway to perform the same switch functions as are
currently performed by certain service switching points in circuit networks.
However, industry experts believe it will take decades to replace all of the
existing service switching points with packet switching technologies. In the
Company's view of the converged architecture, these three switch components do
not all have to
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be made and sold in one integrated product by one equipment manufacturer.
Instead, any of these switch components can be bundled and sold with switch
components made by different manufacturers, or even sold separately.
The Company believes carriers are seeking fully featured signaling and call
control products that can facilitate the convergence of circuit and packet
networks, without compromising functionality, reliability, scalability, support
and flexibility. The Company also believes that many equipment manufacturers are
looking for signaling and call control products which they can easily bundle and
sell with their own switch components. Various industry standards bodies,
including the Internet Engineering Task Force, also support this view and
describe these components as comprising a reference model for convergence
architectures.
The Tekelec Solution
The Company is a leading designer and developer of signaling and call
control products, and service applications for converging circuit and packet
networks. The Company's systems and diagnostics products assist its customers in
meeting their primary challenges in the converging environment: differentiating
their offerings and lowering network costs. The Company offers signaling and
call control systems and services to enable the delivery of intelligent services
and facilitate convergence of voice and data networks. The Company believes that
its open, standards-based solutions are highly reliable and enable operators of
converged networks to more cost-effectively manage their networks and offer
intelligent services.
The Company's Eagle STP has been widely deployed and, according to Frost &
Sullivan, an independent market research firm, had a 73% market share of all
signal transfer point sales in North America in 1998. The Eagle STP offers high
capacity and throughput, reliability and efficiency that support the growth of
traffic and demand for intelligent services in service provider networks. The
reliability of the Company's products enables it to offer service providers
product solutions that reduce their total cost of ownership of network systems
products. The Company's Eagle STP products meet industry standards for 99.999%
reliability and less than 3 minutes of unscheduled downtime per year. The
Company also recently announced a feature of Eagle that allows Eagle to take SS7
signaling into Internet Protocol networks to realize substantial efficiencies
inherent in IP networks.
During the past few years, the Company has developed and introduced a suite of
products created specifically for converged circuit and packet networks. These
products include the IP7 Secure Gateway and the VXi Media Gateway Controller
product, two of the three components comprising a switch in converged circuit
and packet networks. The Company's products are designed so that they may be
purchased in combination with switch components made by other manufacturers, or
purchased separately, depending on the customer's preference. In the Company's
effort to offer its customers a complete switching solution, it has become an
established reseller of media gateways manufactured by Cisco Systems, with which
the Company's solutions are interoperable.
Use of the Company's signaling gateway results in a substantial increase in
signaling efficiency by enabling SS7 signaling over IP at much faster rates than
traditional SS7 signaling. Customers may choose to deploy the IP7 Secure Gateway
to gain signaling efficiencies, among other benefits, as a precursor to
deploying the IP7 Secure Gateway as part of a switch replacement. Due to recent
feature enhancements, customers of the Company's STP product
7
may upgrade their existing STPs to become capable of SS7 signaling over IP. The
upgrade enables them to preserve the value of their existing STP infrastructure
and makes them fully capable of functioning as a signaling gateway in converged
networks.
The Company's approach offers more flexibility and lower costs to carriers.
Carriers can choose to purchase from among multiple vendors each of the switch
components that offers the optimal performance for their needs. They can also
potentially upgrade or expand a switch by selectively replacing components,
instead of having to replace the entire switch. The ability to upgrade media
gateways without changing the signaling and call control elements of a converged
switch is especially relevant due to continuous gains in packet switching
efficiency, which by some estimates, doubles in performance every 18 months. The
Company also believes that its approach is more scalable than a fully integrated
switch.
The Company's approach also offers advantages to its equipment manufacturer
customers. By bundling the Company's products with their switch components,
these customers can avoid the significant research and development expenditures
that they would incur if they were to develop all three switch elements. In
addition, by concentrating their efforts on only certain of the switch elements,
they may be able to significantly reduce the time it takes for them to enter the
converged switch market.
Business Strategy
The Company's objective is to be the premier supplier of signaling and call
control network systems and selected service applications, and diagnostics
products, to existing and emerging communications markets. Key elements of the
Company's strategy to achieve this objective include:
Maintaining Technology Leadership. The Company believes that one of its
core competitive strengths is the breadth of its knowledge and expertise in
communications technologies, particularly in SS7 and related signaling
technologies. The Company has developed this expertise over more than two
decades. The Company intends to enhance its existing products and to develop new
products by continuing to make significant investments in research and
development. As part of its commitment to technology leadership, the Company has
developed the Transport Adapter Layer Interface (TALI), an Internet Protocol
signaling interface which enables the transport of signaling messages using the
Internet Protocol. The Company has made available the TALI source code free of
charge to the industry, and has entered into TALI licensing agreements with more
than 200 companies, several of which are using the interface in live networks.
Tekelec also supports other IP signaling protocols, including the Internet
Engineering Task Force SIGTRAIN suite of signaling protocols for next-generation
network connectivity. The Company has also assumed a leadership role within the
Softswitch Consortium, an industry organization created for global cooperation
and coordination in the development of open standards and interoperability for
packet networks.
Targeting the Convergence of Voice and Data Networks. The Company is
continuing to invest significantly to develop signaling and call control
products and features that enable the convergence of circuit and packet
networks. The Company introduced the IP7 product line and the VXi Media Gateway
Controller to target this convergence market. The Company believes its pursuit
of this new market opportunity leverages its expertise in signaling and call
control and
8
will enhance the market potential for the Company's traditional solutions by
ensuring customers that investments in Tekelec equipment can be upgraded to
perform in converged networks.
Expanding Internationally. The Company is increasingly pursuing
international opportunities, primarily through its European sales and support
office in the United Kingdom and through the Company's Japanese subsidiary. The
Company's European sales efforts have resulted in significant new customers,
including Orange Personal Communications Systems, Bouygues Telecom and certain
divisions of France Telecom, Cable & Wireless, British Telecom, and Vodafone. A
recent European Union recommendation provides that telecommunications service
providers should offer number portability. The implementation of number
portability in Europe and other regions, such as Australia, is expected to
result in increasing demand for SS7 network elements such as signal transfer
points to accommodate the increase in signaling traffic.
Pursuing Additional Strategic Relationships, OEM Partners and Acquisitions.
The Company intends to seek additional strategic relationships, including
original equipment manufacturer partners, referral arrangements, distribution
agreements and acquisition candidates. The Company's existing strategic
relationships include technology development and OEM relationships with Tellabs
and DaVox Corporation, a technology development and marketing relationships with
Telcordia and Nortel, collaboration agreements with Cisco Systems and Sonus
Networks and distribution relationships with Lucent, Daewoo, Unisys and numerous
other product distributors. See "Customers" section.
Pursuing New Market Segments. The Company intends to continue its strategy
of internally developing and acquiring products in order to enter new market
segments. A number of products currently under development will enable the
Company to serve new markets, including diagnostics for packet networks using
voice over Internet protocols and new mobile technologies.
Seeking Additional Opportunities to Provide Upgrades, Extensions and
Service Agreements. The Company intends to leverage its strong customer
relationships to seek opportunities to better serve its customers' needs in the
future. In particular, the Company will continue to develop and market software
upgrades, link extensions, extended service agreements and other enhancements as
a means to pursue repeat business opportunities. Such products and services
accounted for approximately 40% of revenues in its Network Systems Division in
2000.
Products
The Company currently offers products in three broad categories: network
systems products, network diagnostics products and contact center products.
Network Systems Products
The Company's network systems products enable telecommunications service
providers to create, enhance and customize the intelligent services they offer.
The Company's principal network systems products are described below:
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Product Description
- ------- -----------
Eagle STP.................... The Company's Eagle STP is a highly reliable
signal transfer point which is tailored to the SS7
switching needs of carriers, network service
providers and wireless operators, among others. It
offers high capacity and throughput, features a
fully distributed, standards-based, open
architecture and is scalable from 2 to 2000 links.
It is sold in pairs for redundancy.
ASi 4000 Service Control The Company's ASi 4000 Service Control Point is a
Point........................ specialized database that contains network and
customer information needed to process calls
requiring special treatment, such as credit card
calls or other intelligent services. This product
supports interfaces to the products of most major
switch vendors. Its graphical user interface
enables the development, testing and deployment of
intelligent services.
IP7 Secure Gateway........... The Company's IP7 Secure Gateway is a highly
scalable signaling gateway that can provide
signaling information to media gateway controllers
and IP-signaling enabled SCPs in multiple
locations. It can deliver these services in
multi-protocol, multi-vendor converged networks.
VXi Media Gateway The Company's VXi Media Gateway Controller is a
Controller................... media gateway controller that is highly scalable
and can control media gateways in multiple
locations. It interfaces to both asynchronous
transfer mode and Internet protocol networks via
proprietary and standards-based interfaces.
Sentinel..................... The Company's Sentinel product is a network
maintenance and surveillance solution that enables
wireline and wireless service providers to ensure
the reliability of telecommunication products and
services implemented across their SS7/IP networks.
Sentinel provides a combination of passive
monitoring and proactive testing capabilities that
enables service providers to perform problem
detection and analysis as well as verify fixes
from a centralized location. Sentinel also enables
network operators to enhance the quality of the
services they provide by accommodating
applications such as fraud prevention, billing
verification and quality of service measurement.
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Network Diagnostics Products
Equipment manufacturers, and to a lesser extent, network service providers
utilize the Company's diagnostics products to perform a wide variety of test
applications that simulate and analyze network communications network systems.
The Company's customers use its diagnostics products for:
o Designing Communications Equipment. By simulating existing and
emerging communications devices, nodes and protocols, the Company's
products enable engineers to quickly design communications devices
that will transition into emerging network systems, minimizing
potential breakdowns of network components deployed throughout the
network.
o Ensuring Product Reliability. By simulating actual network conditions
within an operating environment, including protocol errors and other
network failures, the Company's products can help ensure that
communications equipment manufacturers produce devices that will
operate error-free, thus accelerating time to market and potentially
reducing costly failures after installation.
o Verifying Certification. By executing conformance and performance test
suites, network operators and manufacturers use the Company's products
to rapidly verify that communication devices meet specified standards.
The Company's principal network diagnostics products are described below:
Product Description
- ------- -----------
MGTS.......... The Company's MGTS is a signaling diagnostics system designed to
provide a diagnostics and test platform for research and
development, laboratory and telecommunications service provider
environments. The MGTS supports various protocols, including SS7
and personal communications systems, permits the design of
customized testing scenarios and can be used with multiple user
groups and geographic locations.
MGTS i3000.... The Company's MGTS i3000 is a complete diagnostics system for
converged network technologies. The diagnostics applications
built on the Company's i3000 platform address wireline and
wireless communications equipment manufacturers' convergence test
and verification needs.
VELOSITY...... The Company's VELOSITY family of diagnostics products enables
network equipment manufacturers to perform converged technology
testing on a single platform with complete interoperability.
VELOSITY provides a high-performance testing environment for
wireless, wireline, and converged network technologies hosted on
the i3000, a next generation hardware platform. VELOSITY enables
users to build and reuse test scenarios spanning multiple
technologies, including SS7, GPRS, UMTS and IP.
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Contact Center Products
The Company's contact center products provide planning, management and call
routing and control tools for single contact centers and for complex, multiple
site contact center environments. These tools help contact center managers
maximize contact center productivity, achieve service level targets and reduce
costs. The Company's principal contact center products are described below:
Product Description
- ------- -----------
TotalView..... The Company's TotalView Workforce Management Solution for single
and multiple site contact centers generates staff schedules based
on contact center workload and availability and the skills of
contact center staff. It performs real-time monitoring and
analysis of contact center operations and, as conditions change,
adjusts staff schedules and routes contact center workload to
available staff having appropriate skills. TotalView also
provides detailed, customized databases and reports to assist in
optimizing contact center performance and forecasting contact
center staffing requirements.
TotalNet...... The Company's TotalNet Call Routing Solution for multiple site
contact centers routes calls to multiple locations as if they
were a single contact center and balances workload across contact
center sites based on staffing levels, call volume and caller
requirements. TotalNet also maintains contact center statistics
and analyzes contact center operations.
Product Development
The communications market is characterized by rapidly changing technology,
evolving industry standards and frequent new product introductions. Standards
for new technologies and services such as third generation wireless,
softswitching, signaling for packet networks, internet protocol and asynchronous
transfer mode are still evolving. As these standards evolve and the demand for
services and applications increases, the Company intends to adapt and enhance
its products and develop and support new products. The Company solicits product
development input through discussions with its customers and participation in
various industry organizations and standards committees, such as the
Telecommunications Industry Association, the Internet Engineering Task Force,
the Softswitch Consortium and the Asynchronous Transfer Mode Forum, and by
closely monitoring the activities of the International Telecommunications Union,
the European Telecommunications Standards Institute, the International
Organization for Standardization and Telcordia.
The Company's network systems product development group is principally
focused on addressing the requirements of the converged voice and data networks
and on the release of new software versions to incorporate enhancements or new
features or functionality desired by customers. This group also focuses on
compliance with standards to enable the Eagle solutions to
12
address additional domestic and international markets. In addition, the Company
plans continued improvement of hardware components to improve their performance
and capabilities.
The Company's diagnostics product development activities are principally
focused on expanding the capabilities of the MGTS, i3000 and VELOSITY products,
including their interfaces, software modules and protocol capabilities for
emerging technologies such as intelligent network and broadband wireless and
packet telephony, and adapting these products for the network operations market.
From time to time the Company engages in development projects for special
applications requested by its customers. The Company typically retains the right
to use the developed technology in future products that are not competitive with
the specific application for which the development work was performed.
The Company's contact center product development activities are principally
focused on expanding the capabilities of the contact center products, including
the skills and multimedia scheduling capabilities of the TotalView Workforce
Management product and the functionality of the TotalNet Call Routing product.
Sales and Marketing
The Company's sales and marketing strategies include selling through the
Company's direct sales forces, indirectly through distributors and other
resellers, entering into strategic alliances and targeting certain markets and
customers. To promote awareness of Tekelec and the Company's products, the
Company also advertises in trade journals, exhibits at trade shows, maintains a
presence on the Internet and uses direct mail.
Distribution. The Company sells its network systems, network diagnostics
and contact center products in the U.S. principally through the Company's
separate direct sales forces and, for the Eagle STP and certain other network
systems products to a lesser extent, indirectly through strategic relationships
with various third parties. The Company's direct sales forces operate out of the
Company's headquarters in Calabasas, California and the Company's regional
offices located in Colorado, Georgia, Illinois, New Jersey, North Carolina,
Virginia, Northern and Southern California and Texas. The Company sells its
network systems products internationally through the Company's direct sales
force and distribution relationships with Daewoo, Lucent and Unisys and the
Company's wholly owned subsidiary in the United Kingdom. The Company sells its
diagnostics products internationally through a network of approximately 25
distributors and the Company's wholly owned subsidiaries in Japan and the United
Kingdom. The Company's Japanese subsidiary, which presently primarily sells
diagnostics products, generated approximately 8% of the Company revenues for
2000, 10% for 1999 and 12% for 1998.
Independent companies distribute the Company's products in other Western
European countries, the Far East (other than Japan), Australia, Mexico, Puerto
Rico, New Zealand, Latin America, the Middle East and South Africa. Distributors
typically purchase products directly from Tekelec pursuant to agreements that
are exclusive for a particular territory and are cancelable by either party upon
90 days notice. Export sales through international distributors accounted for
approximately 5% of the Company's revenues for 2000, 6% for 1999 and 7% for
1998.
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Strategic Relationships. The Company believes that its current and future
strategic relationships with leading communications equipment suppliers will
improve market penetration and acceptance for the Company's network systems
products. These suppliers have long-standing relationships with public
telecommunications carriers and provide a broad range of services to these
carriers through their existing sales and support networks. Tekelec seeks
strategic relationships that:
o enhance the Company's presence and strengthen the Company's
competitive position in its target markets;
o offer products that complement the Company's network systems solutions
to provide value-added networking solutions; and
o leverage the Company's core technologies to enable communications
equipment suppliers to develop enhanced products with market
differentiation that can be integrated with Tekelec's solutions.
The Company's strategic relationships include:
o a development and OEM agreement with Tellabs under which Tellabs will
market certain of the Company's network systems products with its
media gateway;
o a collaboration with Cisco Systems in which the Company and Cisco
Systems will collaborate to enhance interoperability between the
Company's IP7 Secure Gateway and various Cisco Systems products using
the TALI interface;
o An agreement with Cisco Systems, whereby Tekelec will market certain
of Cisco's media gateways with its VXi Media Gateway Controller and
IP7 Secure Gateway.
o a non-exclusive distribution agreement with Lucent under which Lucent
distributes the Company's Eagle STP;
o a non-exclusive international distribution agreement with Unisys under
which Unisys distributes the Company's network systems products;
o an exclusive distribution and OEM agreement with Daewoo under which
Daewoo distributes the Company's Eagle STP in South Korea;
o an OEM and distribution agreement with Davox Corporation under which
Davox will sell on an OEM basis the Company's TotalNet Call Routing
products and the Company will distribute Davox's ensemble call center
solution;
o a strategic marketing and sales alliance with Telcordia under which
Tekelec and Telcordia jointly market each other's products and have
exchanged interface specifications to allow the interoperability of
the Company's IP7 Secure Gateway and Telcordia's ISCP System for the
delivery of intelligent services across packet networks utilizing
voice over Internet protocol; and
14
o an alliance with Nortel Networks in which Tekelec and Nortel Networks
cooperatively market Nortel Networks' Symposium Call Center Server
with TotalNet Call Routing and TotalView Workforce Management.
The Company believes that its strategic third party relationships provide
the Company with additional opportunities to penetrate the SS7 network systems
and convergence markets and demonstrate the Company's strategic partners'
recognition of the technical advantages of the Company's Eagle STP and IP7
Secure Gateway products and the Company's network products. Through the
Company's relationships with, among others, Tellabs, Cisco Systems, Lucent,
Unisys, Daewoo, and Telcordia, the Company is enhancing its market presence and
the ability to access leading network service providers. In general, these
agreements can be terminated by either party on limited notice and, except for
the Company's agreement with Daewoo, do not require minimum purchases. Tellabs,
Cisco Systems, Unisys, Davox and Telcordia also are not precluded from selling
products that are competitive with the Company's products. Although the
Company's current sales through these relationships are not significant, a
termination of the Company's relationship with, or the sale of competing
products by any of these strategic partners, could adversely affect the
Company's business and operating results.
Service, Support and Warranty
The Company believes that customer service, support and training are
important to building and maintaining strong customer relationships. The Company
services, repairs and provides technical support for the Company's products.
Support services include 24-hour technical support, remote access diagnostics
and servicing capabilities, extended maintenance and support programs,
comprehensive technical customer training, extensive customer documentation,
field installation and emergency replacement. The Company also offers to its
customers and certain resellers of the Company's products training with respect
to the proper use, support and maintenance of the Company's products.
The Company maintains an in-house repair facility and provides ongoing
training and telephone assistance to customers and international distributors
and other resellers from the Company headquarters in Calabasas, California,
certain U.S. regional offices and the Company's Japanese subsidiary. The
Company's technical assistance centers in Morrisville, North Carolina and
Staines, United Kingdom, support the Company's network systems products on a 24
hour-a-day, seven day-a-week basis. The Company's technical assistance center in
Richardson, Texas, supports the Company's contact center products and certain of
the Company's network systems products.
The Company typically warrants its products against defects in materials
and workmanship for one year after the sale and thereafter offers extended
service warranties.
Customers
The Company's customers include end users and marketing intermediaries. End
users for the Company network systems products consist primarily of network
service providers, wireless network operators, interexchange carriers,
competitive access providers, local exchange carriers and Regional Bell
Operating Companies. End users for the Company's diagnostic products primarily
include communications equipment manufacturers, and to a lesser extent, network
service providers and government agencies. The Company's contact center
solutions have been
15
sold primarily to Fortune 500 companies, financial services companies and
telecommunications carriers. The Company anticipates that its operating results
in any given period will continue to depend to a significant extent upon
revenues from a small percentage of the Company's customers.
The Company's diagnostics business is substantially dependent on repeat
business. Many of the Company's largest customers in 1999 and 2000 were
purchasers of the Company diagnostics systems in prior years.
Backlog
Backlog for the Company's network systems products typically consists of
contracts or purchase orders for both product delivery scheduled within the next
12 months and extended service warranty to be provided over periods of up to
five years. Backlog for the Company's diagnostic and contact center products
typically consists of products and services ordered for delivery within the next
12 months. Primarily because of variations in the size and duration of orders
received by Tekelec and customer delivery requirements, which may be subject to
cancellation or rescheduling by the customer, the Company's backlog at any
particular date may not be a meaningful indicator of future financial results.
At December 31, 2000, the Company's backlog amounted to approximately
$197.2 million, of which $71.1 million related to network systems service
warranties. This compared to a backlog of approximately $142.3 million at
December 31, 1999, of which $65.2 million related to network systems service
warranties.
Competition
Network Systems Products. The market for the Company's network systems
products is intensely competitive and has been highly concentrated among a
limited number of dominant suppliers. The Company presently competes in the
network systems market with, among others, Alcatel, Cisco Systems, Nortel,
Telcordia, Sonus Networks, Ericsson, Lucent Technologies and Siemens. The
Company expects competition to increase in the future from existing and new
competitors.
The Company believes that the principal competitive factors in the network
systems products market are product performance and functionality, product
quality and reliability, customer service and support, price and the supplier's
financial resources and marketing and distribution capability. The Company
anticipates that responsiveness in adding new features and functionality will
become an increasingly important competitive factor. While some of the Company's
competitors have greater financial resources, the Company believes that it
competes favorably in other respects. New entrants or established competitors
may, however, offer products which are superior to the Company's products in
performance, quality, service and support and/or are priced lower than the
Company's products.
Some of the Company's competitors, including Lucent, Nortel and Sonus
Networks manufacture and offer fully integrated network systems products for
converged networks. These products include an SS7 signaling gateway, a media
gateway controller and a media gateway. The Company's strategy, however, is to
develop and provide the SS7 signaling gateway and the media gateway controller
elements of network systems solutions for converged circuit and packet
16
networks. This means that it will be necessary for the Company's products to be
combined with the media gateways of other vendors to constitute a complete
network systems switch for a converged network. To date, the Company has
established relationships with Tellabs and Cisco Systems to offer a complete
switch. Some customers may prefer to purchase fully integrated network systems
switches from the Company's competitors rather than purchase the Company's
network systems products because they may conclude that the fully integrated
switch is superior. The Company's ability to compete in the market for network
systems switches will also be limited if media gateway manufacturers develop
fully integrated switches and cease selling media gateways on a non-integrated
basis or bundled with the Company's convergence products.
The Company believes that its ability to compete successfully in the
network systems market also depends in part on the Company's distribution and
marketing relationships with leading communications equipment suppliers and
resellers. If the Company cannot successfully enter into these relationships on
terms that are favorable to the Company or if the Company cannot maintain these
relationships, the Company's business may suffer.
Diagnostics Products. The communications diagnostics market is intensely
competitive and subject to rapid technological change and evolving industry
standards. The Company competes primarily in the high performance segment of
this market, and the Company's principal competitors are Agilent Technologies,
Catapult and Inet Technologies. The Company also competes with a number of other
manufacturers, some of which have greater financial, marketing, manufacturing
and technological resources than Tekelec. The Company believes that its
long-term success will depend in part on its ability to be a leader in offering
diagnostics products that address new emerging industry standards.
The Company believes that the principal competitive factors in the
communications diagnostics market in which it competes are product and price
performance, functionality and reliability, timely introduction of new products,
marketing and distribution capability and customer service and support. Although
the Company believes that it competes favorably, new or established competitors
could offer products which are superior to or cost less than the Company's
products.
Contact Center Products. The market for contact center products is
extremely competitive. The Company competes principally with Aspect
Communications and Blue Pumpkin Software in the market for workforce management
solutions and with Cisco and Alcatel in the market for call routing solutions.
The Company also competes to a lesser extent in these markets with a number of
other manufacturers, some of which have greater financial, marketing,
manufacturing and other resources than Tekelec. The Company believes that the
success of its TotalView product will depend in part on its ability to offer
competitive prices and to further develop its workforce management scheduling
and other technologies and its international distribution channels. The Company
believes that the success of the TotalNet product will depend to a significant
degree on its ability to develop market penetration and to improve product
functionality through strategic partnering with third parties.
17
Intellectual Property
The Company's success depends to a significant degree on its proprietary
technology and other intellectual property. The Company relies on a combination
of patents, copyrights, trademarks, trade secrets, confidentiality agreements
and contractual restrictions to establish and protect the Company's proprietary
rights both in the United States and abroad. The Company has been issued a
number of patents and has a number of patent applications pending. These
measures, however, afford only limited protection and may not prevent third
parties from misappropriating the Company's technology or other intellectual
property. In addition, the laws of certain foreign countries do not protect the
Company's proprietary rights to the same extent as do the laws of the United
States and thus make the possibility of misappropriation of the Company's
technology and other intellectual property more likely. If the Company fails to
successfully enforce or defend its intellectual property rights or if the
Company fails to detect misappropriation of the Company's proprietary rights,
its ability to effectively compete could be seriously impaired.
The Company's pending patent and trademark registration applications may
not be allowed and the Company's competitors may challenge the validity or scope
of its patent or trademark registration applications. In addition, the Company
may face challenges to the validity or enforceability of its proprietary rights
and litigation may be necessary to enforce and protect the Company's rights, to
determine the validity and scope of the Company's proprietary rights and the
rights of others, or to defend against claims of infringement or invalidity. Any
such litigation would be expensive and time consuming, would divert the
Company's management and key personnel from business operations and would likely
harm the Company's business and operating results.
The communications industry is characterized by the existence of a large
number of patents and frequent litigation based on allegations of patent
infringement. From time to time, third parties may assert patent, copyright,
trademark and other intellectual property rights to technologies that are
important to Tekelec. From time to time, the Company receives notices from or is
sued by third parties regarding patent claims. Any claims made against the
Company regarding patents or other intellectual property rights could be
expensive and time consuming to resolve or defend, would divert the Company's
management and key personnel from its business operations and may require the
Company to modify or cease marketing its products, develop new technologies or
products, acquire licenses to proprietary rights that are the subject of the
infringement claim or refund to the Company's customers all or a portion of the
amounts paid for infringing products. If such claims are asserted, there can be
no assurances that the dispute could be resolved without litigation or that the
Company would prevail or be able to acquire any necessary licenses on acceptable
terms, if at all. In addition, the Company may be requested to defend and
indemnify certain of its customers and resellers against claims that the
Company's products infringe the proprietary rights of others. The Company may
also be subject to potentially significant damages or injunctions against the
sale of certain products or use of certain technologies. See "Legal Proceedings"
in Part I, Item 3, of the Annual Report on Form 10K.
Employees
At March 1, 2001, the Company had 1,033 employees, comprising 383 in sales,
marketing and support, 90 in manufacturing, 398 in research, development and
engineering and 162 in management, administration and finance. Virtually all of
the Company's employees hold
18
stock options and/or participate in the Company employee stock purchase plan.
None of the Company's employees is represented by a labor union, and the Company
has not experienced any work stoppages. The Company believes that the Company's
relations with its employees is excellent.
Business Risk Factors
The statements that are not historical facts contained in this Annual
Report on Form 10-K are forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements reflect the
current belief, expectations or intent of the Company's management and are
subject to and involve certain risks and uncertainties. Many of these risks and
uncertainties are outside of the Company's control and are difficult for the
Company to forecast or mitigate. In addition to the risks described elsewhere in
this Annual Report on Form 10-K and in certain of the Company's other Securities
and Exchange Act Commission filings, the following important factors, among
others, could cause the Company's actual results to differ materially from those
expressed or implied by the Company in any forward-looking statement contained
herein or made elsewhere by or on behalf of the Company.
Because the Company's quarterly operating results are difficult to predict and
may fluctuate, the market price for the Company's stock may be volatile.
The Company's quarterly operating results are difficult to predict and may
fluctuate significantly. The Company has failed to achieve its revenue and net
income expectations for certain prior periods, and it is possible that the
Company will fail to achieve such expectations in the future. Fluctuations in
the Company's quarterly operating results may contribute to the volatility in
its stock price. A number of factors, many of which are outside the Company's
control, can cause these fluctuations, including among others:
o the size, timing, terms and conditions of orders and shipments;
o the lengthy sales cycle of the Company's network systems products;
o the progress and timing of the convergence of voice and data networks
and other convergence-related risks described below;
o the capital spending patterns of customers, including deferrals or
cancellations of purchases by customers;
o the success or failure of strategic alliances and acquisitions;
o unanticipated delays or problems in releasing new products or
services;
o the mix of products and services that the Company sells;
o the introduction and market acceptance of new products and
technologies;
o the timing of the deployment by the Company's intelligent network
services and new technologies;
o the ability of our customers to obtain financing or to fund capital
expenditures;
19
o the timing and level of the Company's research and development
expenditures and other expenses; and
o the expansion of the Company's marketing and support operations, both
domestically and internationally.
The Company's product sales in any quarter depend largely on orders booked
and shipped in that quarter. A significant portion of the Company's product
shipments in each quarter occurs at or near the end of the quarter. Since
individual orders can represent a meaningful percentage of the Company's
revenues and net income in any quarter, the deferral of or failure to close a
single order in a quarter can result in a revenue and net income shortfall that
causes the Company to fail to meet securities analysts' expectations for that
period. The Company bases its current and future expense levels on its internal
operating plans and sales forecasts, and its operating costs are to a large
extent fixed. As a result, the Company may not be able to sufficiently reduce
its costs in any quarter to compensate for an unexpected near-term shortfall in
revenues, and even a small shortfall could disproportionately and adversely
affect the Company's operating results for that quarter.
The factors described above are difficult to forecast and could have a
material adverse effect on the Company's business, operating results and
financial condition. There can be no assurances that the Company will not
experience a shortfall in the future, which would adversely affect the Company's
operating results. Accordingly, the results of any one quarter should not be
relied upon as an indication of the Company's future performance.
The Company has limited product offerings, and its revenues may suffer if demand
for any of its products declines or fails to develop as it expects.
The Company derives a substantial portion of its revenues from Network
Systems products. During each of 1998, 1999 and 2000, the Company's Eagle and
IP7 signaling products and related services generated over 50% of its revenues,
and the Company expects that these products and services and its other network
systems products will continue to account for a substantial majority of the
Company's revenues for the foreseeable future. As a result, factors adversely
affecting the pricing of or demand for these products, such as competition,
technological change or a slower than anticipated rate of deployment of new
technologies, could cause a decrease in the Company's revenues and
profitability. Therefore, continued and widespread market acceptance of these
products is critical to the Company's future success. Moreover, the Company's
future financial performance will depend in significant part on the successful
and timely development, introduction and customer acceptance of new and enhanced
versions of the Company's Eagle and IP7 products and other Network Systems
products. There are no assurances that the Company will continue to be
successful in developing and marketing its network systems products and related
services.
If wireless carriers do not continue to buy the Company's Network Systems
products and service, the Company's Network Systems business would be harmed.
The success of the Company's Network Systems business will depend in large
part on the continued growth of the wireless network operators and their
purchases of the Company's products and services. The Company derives a
substantial portion of its revenues from the sale
20
of Network Systems products and services to wireless networks operators. In
2000, sales to the wireless market accounted for approximately 40% of the
Company's revenues. The Company expects that its sales of Network Systems
products and services to wireless companies will continue to account for a
substantial percentage of the Company's revenues for the foreseeable future. The
continued growth of the domestic and international wireless markets is subject
to a number of risks that could adversely affect the Company's revenues and
profitability, including weakness in the domestic or global economy, a slowdown
in capital spending by the wireless network operators, adverse changes in the
debt and equity markets and the ability of wireless carriers to obtain financing
on favorable terms, delays or scaling back of plans for the deployment by
wireless network operators of new wireless broadband technologies, and slowing
wireless network subscriber growth. Consequently, there can be no assurances
that the wireless network carriers will continue to purchase the Company's
Network Systems products and services for the build out or expansion of their
networks.
Risks related to the potential convergence of voice and data networks
Currently, voice conversations are carried primarily over circuit switched
networks. Another type of network, packet switched networks, carries primarily
data. Circuit and packet networks use fundamentally different technologies.
Although the Company expects a substantial portion of any increases in its
future sales of network systems products to result from the interconnection, or
convergence, of circuit and packet networks, the Company cannot accurately
predict when such convergence will occur. Therefore, this convergence presents
several significant and related risks to the Company's business.
If the convergence of circuit and packet networks does not occur, or takes
longer than anticipated, any increases in sales of the Company's network
infrastructure products, and its profitability, would be adversely
affected.
Any factor which might prevent or slow the convergence of circuit and
packet networks could materially and adversely affect growth opportunities
for the Company's business. Such factors include:
o the failure to solve or difficulty in solving certain technical
obstacles to the transmission of voice conversations over a packet
network;
o delays in the formulation of standards for the transmission of voice
conversations over a packet network; and
o the imposition on packet network operators of access fees, which they
currently do not pay.
It may be difficult or impossible to solve certain technical obstacles
to the transmission of voice conversations over a packet network with the
same quality and reliability of a circuit network. For example, delays or
gaps in the timing of a message are typically not as critical to data
transmissions as they are to voice conversations. The nature of packet
switching makes it difficult to prevent such delays or gaps as well as to
repair such defects in a way that does not degrade the quality of a voice
conversation. If this problem is not solved, the convergence of circuit and
packet networks may never fully occur or may occur at a much slower rate
than the Company anticipates. It may also
21
be difficult or time-consuming for the industry to agree to standards
incorporating any one solution to such technical issues if such a solution
does exist. Without uniform standards, substantial convergence of circuit
and packet networks may not occur.
The Company cannot accurately predict when these technical problems
will be solved, uniform standards agreed upon or when market acceptance of
such solutions will occur. However, convergence may well take much longer
or, as noted above, not fully occur at all. Moreover, uncertainty regarding
the technology or standards employed in converged networks may cause
carriers to delay their purchasing plans.
Finally, the imposition of access fees on packet networks might slow
the convergence of circuit and packet networks. Today, federal regulation
requires an operator of a long distance circuit network to pay an access
fee to the local phone company serving the recipient of a long distance
call. Packet network operators do not currently pay such access fees. In
the future, access fees may be imposed on carriers using packet networks to
transmit voice calls. These access fees might also be imposed on the
termination of "pure" data messages by operators of packet networks. The
imposition of these access fees would reduce the economic advantages of
using packet networks for voice and other transmissions, which may slow the
convergence of circuit and packet networks.
Customers may prefer fully integrated switching solutions offered by the
Company's competitors.
The Company's product strategy is to develop and provide only certain
parts of a network switch which would be used in converged circuit and
packet networks. This means that the Company's new IP7 Secure Gateway and
Media Gateway Controller will need to be deployed with the products of
other manufacturers in order to constitute a complete switching solution
for a converged network. Some of the Company's competitors, including
Lucent, Nortel and Sonus Networks, manufacture fully integrated switches
for converged networks that would not require any of the Company's
products. Some or all of the Company's customers or potential customers may
prefer to purchase such a fully integrated switching product rather than
purchasing the Company's convergence switching products. They may prefer a
fully integrated switch, even if the Company's convergence switching
products are offered with the switch components made by others. Customers
may choose this option because they believe that the fully integrated
products are superior. If a significant number of the Company's potential
customers prefer a fully integrated solution made entirely by one
manufacturer, the Company's strategy could fail because its products do not
achieve broad market acceptance for converged networks, and its business
could suffer.
The Company's dependence on strategic relationships with manufacturers of
other products makes it potentially vulnerable to the actions and
performance of other manufacturers.
Because the Company's IP7 Secure Gateway and VXi Media Gateway
Controller will need to be bundled with the products of other manufacturers
in order to constitute a switch in converged circuit and packet networks,
the Company may be adversely affected by the actions of the manufacturers
of the other necessary switch elements. First, these manufacturers may not
choose to make their product designs compatible with the
22
Company's products. Second, those manufacturers who do choose to make their
products compatible with the Company's products may not develop or deliver
their products on a timely basis, or may not develop products which perform
as expected or are priced competitively. Third, manufacturers of these
products may also subsequently change the design of their products in a
manner which makes it difficult or impossible to make the Company's
products compatible. Fourth, manufacturers of these products may decide to
develop a fully integrated network switch for converged networks and may
cease selling non-integrated switching products. Finally, because the
Company intends to market a product which incorporates network switching
products made by others, any other manufacturer who markets the Company's
products together with its products may terminate or cease to fully support
its efforts to sell the Company's products. All of these actions will be
outside of the Company's control. Any of these actions could materially and
adversely affect the Company's business and profitability.
If the Company's products do not satisfy customer demand for performance or
price, the Company's customers could purchase products from its competitors.
If the Company is not able to compete successfully against its current and
future competitors, its current and potential customers may choose to purchase
similar products offered by the Company's competitors, which would negatively
affect the Company's revenues. The Company faces formidable competition from a
number of companies offering a variety of network systems, diagnostics or
contact center products. The markets for the Company's products are subject to
rapid technological changes, evolving industry standards and regulatory
developments. The Company's competitors include many large domestic and
international companies as well as many smaller established and emerging
technology companies. The Company competes principally on the basis of:
o product performance and functionality;
o product quality and reliability;
o customer service and support; and
o price.
Many of the Company's competitors have substantially greater financial
resources, product development, marketing, distribution and support
capabilities, name recognition and other resources than the Company. The Company
anticipates that competition will continue to intensify with the anticipated
convergence of voice and data networks. The Company may not be able to compete
effectively or to maintain or capture meaningful market share, and the Company's
business could be harmed, if the Company's competitors' solutions provide higher
performance, offer additional features and functionality or are more reliable or
less expensive than the Company's products. Increased competition could force
the Company to lower its prices or take other actions to differentiate its
products, which could adversely affect its operating results.
23
The Company depends on a limited number of customers, and the loss of any of
these customers could adversely affect the Company's operating results.
Historically, a limited number of customers has accounted for a significant
percentage of the Company's revenues in each fiscal quarter. Less than 10% of
the Company's customers accounted for 70% of the Company's revenues in each of
1999 and 2000. The Company anticipates that its operating results in any given
period will continue to depend to a significant extent upon revenues from a
small number of customers. In addition, the Company anticipates that the mix of
customers in each fiscal period will continue to vary. In order to increase its
revenues, the Company will need to attract additional significant customers on
an ongoing basis. Its failure to sell a sufficient number of products or to
obtain a sufficient number of significant customers during a particular period
could adversely affect its operating results.
If the Company fails to develop or introduce new products in a timely fashion,
its business will suffer.
If the Company fails to develop or introduce on a timely basis new products
or product enhancements or features that achieve market acceptance, its business
will suffer. The markets for the Company's network systems and diagnostics
products are characterized by rapidly changing technology, frequent new product
introductions, short product life cycles and enhancements and evolving industry
standards. The Company's success will depend to a significant extent upon its
ability to accurately anticipate the evolution of new products and technologies
and market trends and to enhance its existing products. It will also depend on
the Company's ability to timely develop and introduce innovative new products
that gain market acceptance. Finally, sales of both the Company's network
systems and its diagnostics products depend in part on the continuing
development and deployment of emerging standards and our ability to offer new
products and services that comply with these standards. There can be no
assurances that the Company will be successful in selecting, developing,
manufacturing and marketing new products or enhancing its existing products on a
timely or cost-effective basis. Moreover, the Company may encounter technical
problems in connection with its product development that could result in the
delayed introduction of new products or product enhancements. In addition,
products or technologies developed by others may render the Company's products
noncompetitive or obsolete.
Litigation related to product liability claims could be expensive and could
negatively affect the Company's profitability.
Products as complex as the Company's may contain undetected errors when
first introduced or as new versions are released. Such errors, particularly
those that result in a failure of the Company's switching products or
telecommunications networks, could harm the Company's customer relationships,
business and reputation. While the Company's products have earned a reputation
for reliability and performance, there can be no assurances that the Company's
products will not have errors in the future. A product liability claim brought
against the Company could result in costly, protracted, highly disruptive and
time consuming litigation, which would harm the Company's business. In addition,
the Company may be subject to claims arising from its failure to properly
service or maintain its products or to adequately remedy defects in its products
once such defects have been detected. The Company's agreements with its
customers typically contain provisions designed to limit its exposure to
potential product liability claims. However, it is possible that the limitation
of liability provisions contained in the
24
Company's agreements may not be effective under the laws of some jurisdictions,
particularly since the Company has significant international sales. Although the
Company maintains product liability insurance, it may not be sufficient to cover
all claims to which the Company may be subject. The successful assertion against
the Company of one or a series of large uninsured claims would harm the
Company's business. Although the Company has not experienced any significant
product liability claims to date, the Company's sale and support of products may
entail the risk of these types of claims, and subject the Company to such claims
in the future.
If customers do not continue to purchase test systems, the Company's diagnostics
business would be harmed.
The future success of the Company's diagnostics business will depend on
continued growth in the market for telecommunications test systems and services
and the continued commercial acceptance of the Company's diagnostics products as
solutions to address the testing requirements of telecommunications equipment
manufacturers, to a lesser extent, and network operators. While most of the
Company's existing and potential customers have the technical capability and
financial resources to produce their own test systems and perform test services
internally, many have chosen to purchase a substantial portion of their test
equipment needs. There can be no assurances that the Company's customers will
continue to purchase their test systems from third parties or that potential new
customers will purchase test equipment. Even if they do, they may choose the
diagnostics products and services offered by the Company's competitors.
Certain of the Company's customers in the diagnostics market also
manufacture network systems products that compete or may compete with the
Company's current or future network systems products. Increasing competition in
the network systems market may cause these customers to reduce their purchases
of the Company's diagnostics products.
The Company is dependent on relationships with strategic partners and
distributors and other resellers.
The Company believes that its ability to compete successfully against other
network systems product manufacturers depends in part on distribution and
marketing relationships with leading communications equipment suppliers. If the
Company cannot successfully enter these types of relationships on favorable
terms to the Company or maintain these relationships, the Company's business may
suffer.
In addition, the Company expects to increasingly rely on the deployment of
its products with those of other manufacturers, systems integrators and other
resellers, both domestically and internationally. To the extent the Company's
products are so incorporated, the Company depends on the timely and successful
development of those other products. Although the Company currently has a
network of distributors for its diagnostics products and uses distributors only
to a limited extent or not at all with respect to its other product lines, the
Company may expand its distribution activities with respect to its other
products, including network infrastructure products.
In addition, the Company acts as an original equipment manufacturer,
commonly referred to as an "OEM," with respect to some of the products that it
manufactures and sells to resellers. A number of these resellers market the
Company's products with their products. If these resellers
25
are unable to develop their products in a timely fashion or are unable to gain
market acceptance, their demand for the Company's products will decrease, which
would negatively impact the Company's revenues. In addition, because the Company
competes directly with some of its OEM customers, those customers may choose to
purchase products from other vendors with whom they do not compete.
The Company's compliance with telecommunications regulations and standards may
be difficult and costly, and if the Company fails to comply, its product sales
would decrease.
In order to maintain market acceptance, the Company's products must
continue to meet a significant number of regulations and standards. In the
United States, the Company's products must comply with various regulations
defined by the Federal Communications Commission and Underwriters Laboratories
as well as standards established by Telcordia (formerly Bell Telecommunications
Research). Internationally, the Company's products must comply with standards
established by telecommunications authorities in various countries as well as
with recommendations of the International Telecommunications Union. As these
standards evolve, the Company will be required to modify its products or develop
and support new versions of its products. The failure of the Company's products
to comply, or delays in compliance, with the various existing and evolving
industry standards could delay introduction of its products, which could harm
the Company's business.
In order to penetrate the Company's target markets, it is important that
the Company ensures the interoperability of its products with the operations,
administration, maintenance and provisioning systems used by the Company's
customers. To ensure this interoperability, the Company periodically submits its
products to technical audits. The Company's failure or delay in obtaining
favorable technical audit results could adversely affect its ability to sell
products to some segments of the communications market.
Government regulatory policies are likely to continue to have a major
impact on the pricing of existing as well as new public network services and,
therefore, are expected to affect demand for such services and the
communications products, including the Company's products, that support such
services. Tariff rates, whether determined autonomously by carriers or in
response to regulatory directives, may affect cost effectiveness of deploying
public network services. Tariff policies are under continuous review and are
subject to change. User uncertainty regarding future policies may also affect
demand for communications products, including the Company's products. In
addition, the convergence of circuit and packet networks could be subject to
governmental regulation. Regulatory initiatives in this area could adversely
affect the Company's business.
The Company has significant international sales, and international markets have
inherent risks.
International sales are subject to inherent risks, including unexpected
changes in regulatory requirements and tariffs, difficulties in staffing and
managing foreign operations and distributors, longer payment cycles, greater
difficulty in accounts receivable collection and potentially adverse tax
consequences. Doing business overseas is generally more costly than doing
business in the United States. The Company sells its products worldwide through
its direct sales forces, distributors and other resellers and wholly owned
subsidiaries in Japan and the United Kingdom. International sales accounted for
31% in 1998, 23% in 1999 and 29% in 2000.
26
The Company's sales through its Japanese subsidiary, and to a limited extent,
other sales, are denominated in local currencies while other international sales
are U.S. dollar-denominated. The Company expects that international sales will
continue to account for a significant portion of its revenues in future periods.
Exchange rate fluctuations on foreign currency transactions and
translations arising from international operations may contribute to
fluctuations in the Company's business and operating results. Fluctuations in
exchange rates could also affect demand for the Company's products. If, for any
reason, exchange or price controls or other restrictions in foreign countries
are imposed, the Company's business and operating results could suffer. In
addition, any inability to obtain local regulatory approvals in foreign markets
on a timely basis could harm the Company's business.
In particular, if the Company is not able to manage its continuing
expansion into Europe and planned expansion into Latin America, the Company's
business may suffer. In addition, the Company is relatively unknown in Europe
and Latin America, and the Company may have difficulty establishing
relationships or building name recognition, which could adversely affect its
performance in these markets. Moreover, European telecommunications networks
generally have a different structure, and the Company's products may not be
completely compatible with this different structure. As a result, the Company's
products may not be competitive with those of its competitors in Europe.
Access to foreign markets is often difficult due to the established
relationships between a government-owned or controlled communications operating
company and its traditional indigenous suppliers of communications equipment.
These foreign communications networks are in many cases owned or strictly
regulated by government. There can be no assurances that the Company will be
able to successfully penetrate these markets, particularly for its switching
products.
The Company's loss of services of key personnel or failure to attract and retain
additional key personnel could adversely affect the Company's business.
The Company depends to a significant extent upon the continuing services
and contributions of its senior management team and other key personnel,
particularly Michael L. Margolis, its Chief Executive Officer and President;
Fred Lax, its Chief Operating Officer and Executive Vice President, Cecil Boyd,
its Senior Vice President and General Manager, Network Systems Division; Lee
Smith, its Vice President and General Manager, Network Diagnostics Division; and
Debbie May, its Vice President and General Manager, Contact Center Division. The
Company does not have long-term employment agreements or other arrangements with
its employees which would prevent them from leaving Tekelec. The Company's
future success also depends upon its ongoing ability to attract and retain
highly skilled personnel. Competition for these employees is intense. The
Company's business could suffer if it were to lose any key personnel and not be
able to find appropriate replacements in a timely manner or if it were unable to
attract and retain additional highly skilled personnel.
There can be no assurances that the Company's measures to protect its
proprietary technology and other intellectual property rights are adequate.
27
The Company's success depends to a significant degree on its proprietary
technology and other intellectual property. Although the Company regards its
technology as proprietary, it has sought only limited patent protection. The
Company relies on a combination of patents, copyrights, trademarks, trade
secrets, confidentiality agreements and contractual restrictions to establish
and protect its proprietary rights. These measures, however, afford only limited
protection and may not prevent third parties from misappropriating the Company's
technology or other intellectual property. In addition, the laws of certain
foreign countries do not protect the Company's proprietary rights to the same
extent as do the laws of the United States, which makes misappropriation of the
Company's technology and other intellectual property more likely. It is possible
that others will independently develop similar products or design around the
Company's patents and other proprietary rights. If the Company fails to
successfully enforce or defend its intellectual property rights or if it fails
to detect misappropriation of its proprietary rights, the Company's ability to
effectively compete could be seriously impaired.
The Company's pending patent and trademark registration applications may
not be allowed, and the Company's competitors may challenge the validity or
scope of the Company's patent or trademark registration applications. In
addition, the Company from time to time faces challenges to the validity or
enforceability of its proprietary rights and litigation may be necessary to
enforce and protect its rights, to determine the validity and scope of its
proprietary rights and the rights of others, or to defend against claims of
infringement or invalidity. Any such litigation would be expensive and time
consuming, would divert the Company's management and key personnel from business
operations and would likely harm its business and operating results.
If third parties claim that the Company is infringing their intellectual
property, the Company may be prevented from selling certain products and incur
significant expenses to resolve these claims.
The Company receives from time to time claims of infringement from third
parties or otherwise becomes aware of relevant patents or other intellectual
property rights of third parties that may lead to disputes and litigation. Any
claims made against the Company regarding patents or other intellectual property
rights could be expensive and time consuming to resolve or defend and could have
a material adverse effect on the Company's business. In addition, any such
claims would divert the Company's management and key personnel from its business
operations and may require the Company to modify or cease marketing its
products, develop new technologies or products, acquire licenses to proprietary
rights that are the subject of the infringement claim or refund to its customers
all or a portion of the amounts they paid for infringing products. If such
claims are asserted, there can be no assurances that the Company would prevail
or be able to acquire any necessary licenses on acceptable terms, if at all. In
addition, the Company may be requested to defend and indemnify certain of its
customers and resellers against claims that its products infringe the
proprietary rights of others. The Company may also be subject to potentially
significant damages or injunctions against the sale of certain products or use
of certain technologies. There can be no assurance whether litigation can be
avoided or successfully concluded. Although the Company believes that its
intellectual property rights are sufficient to allow it to sell its existing
products without violating the valid proprietary rights of others, there can be
no assurances that the Company's technologies or products do not infringe on the
proprietary rights of third parties or that such parties will not initiate
infringement actions against the Company.
28
If the Company is unable to procure some of its subsystems and components from
other manufacturers, the Company may not be able to obtain substitute subsystems
or components on terms that are as favorable.
Certain of the Company's products contain subsystems or components acquired
from other OEMs. These OEM products are often available only from a limited
number of manufacturers. In the event that an OEM product becomes unavailable
from a current OEM vendor, second sourcing would be required. This sourcing may
not be available on reasonable terms, if at all, and could delay customer
deliveries, which could adversely affect the Company's business.
Item 2. PROPERTIES
The Company's executive offices and principal manufacturing operations are
located in Calabasas, California in facilities consisting of approximately
77,000 square feet. The Company leases the facility under a lease expiring in
November 2004, subject to a five-year renewal option.
The Company also occupies a 155,000 square-foot facility in Morrisville,
North Carolina under a lease expiring in November 2009. This facility is used
primarily for engineering, product development, customer support and regional
sales activities for the Company network systems products and the Company's
network diagnostics products. In July 2000, the Company agreed to lease an
additional 155,000 square-foot facility in Morrisville, North Carolina, to be
constructed in three phases. Construction of the entire facility is scheduled to
be completed by May 2003.
The Company's IEX subsidiary leases a facility consisting of approximately
95,000 square feet in Richardson, Texas under a lease expiring in May 2003,
subject to a five-year renewal option. The IEX facility is used for engineering,
product development, customer support, and general administrative and sales
activities for certain of the Company's network systems products and the
Company's contact center products.
The Company also has nine regional sales offices occupying an aggregate of
approximately 12,000 square feet under leases expiring between 2001 and 2005 in
Escondido, California; Englewood, Colorado; Duluth, Georgia; Lombard, Illinois;
Tinton Falls and Mt. Laurel, New Jersey; Irving, Texas; Sunset Hills, Virginia;
and Amsterdam, the Netherlands.
The Company's Japanese subsidiary occupies approximately 12,300 square feet
in Tokyo under leases expiring between August 2001 and December 2002. The
Company's subsidiary in the United Kingdom occupies approximately 6,000 square
feet in Staines and Bristol under a month-to-month lease.
The Company believes that its existing facilities will be adequate to meet
the Company's needs at least through 2001, and that the Company will be able to
obtain additional space when, where and as needed on acceptable terms.
Item 3. LEGAL PROCEEDINGS
In August 2000, Alcatel USA, Inc. and Alcatel USA Sourcing, L.P.
(collectively, "Alcatel") filed a complaint against Tekelec in the United States
District Court for the Eastern District of Texas, Sherman Division. The
complaint alleges that Tekelec makes and sells products that infringe two
patents owned by Alcatel Sourcing. The patents at issue relate to a system and
method for application location register routing in a telecommunications
network.
29
Although Alcatel does not identify in its complaint the specific Tekelec
products that purportedly infringe the patents at issue, Tekelec believes that
Alcatel's allegations relate to a particular software application offered by
Tekelec as a feature on its EAGLE STP for routing query messages in wireless
networks. Alcatel seeks a permanent injunction enjoining the Company from
infringing the patents at issue, unspecified general and exemplary damages, and
an award of costs.
In September 2000, Tekelec filed an answer and counterclaim to Alcatel's
complaint denying Alcatel's claims of infringement and raising several
affirmative defenses. Tekelec has also asserted several counterclaims against
Alcatel seeking declaratory relief that Tekelec has not infringed the Alcatel
patents and that such patents are invalid and unenforceable. Tekelec believes
that it has strong defenses to Alcatel's claims on the grounds of invalidity,
noninfringement and inequitable conduct by Alcatel, and is defending the action
vigorously. The parties are currently engaged in pre-trial discovery. A trial
date has been scheduled for the second quarter of 2002.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Inapplicable
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock is traded on The Nasdaq Stock Market under the
symbol TKLC. The following table sets forth the range of high and low closing
sales prices for the Common Stock, for the periods indicated. As of March 1,
2001, there were 239 record shareholders of the Company's Common Stock.
High Low
--------- ---------
1999
First Quarter...................... $ 22.25 $ 7.09
Second Quarter..................... 12.19 6.69
Third Quarter...................... 17.19 9.13
Fourth Quarter..................... 23.50 12.19
2000
First Quarter...................... $ 52.19 $ 23.88
Second Quarter..................... 48.19 27.38
Third Quarter...................... 48.13 28.88
Fourth Quarter..................... 39.69 24.06
The Company has never paid a cash dividend on its Common Stock. It is the
present policy of the Company to retain earnings to finance the growth and
development of its business and, therefore, the Company does not anticipate
paying cash dividends on its Common Stock in the foreseeable future.
On November 2, 1999, the Company issued $135,000,000 principal amount at
maturity of its 3.25% Convertible Subordinated Discount Notes due 2004 (the
"Notes") in a private placement and without registration in reliance on Section
4(2) of the Securities Act of 1933, as amended (the "Securities Act"). The issue
price of the Notes was 85.35% of the principal amount at maturity, and the total
gross proceeds to the Company were $115,227,900 before discounts and expenses.
The Notes are convertible into Common Stock of the Registrant at any time on or
after January 31, 2000, unless previously redeemed or otherwise repurchased by
the Registrant. The conversion rate of the Notes is 56.3393 shares of Common
Stock per $1,000 principal amount at maturity, subject to adjustment in certain
events. The Company sold the Notes to Deutsche Bank Securities Inc. and Warburg
Dillon Read LLC as the initial purchasers, and the initial purchasers have
advised the Company that they resold the Notes only to "Qualified Institutional
Buyers" (as defined in Rule 144A under the Securities Act) in compliance with
Rule 144A and, outside of the United States, to investors that were not "United
States persons" as defined in Rule 902 of Regulation S under the Securities Act.
In February 2000, the Company registered for resale the Notes and the shares of
Common Stock issuable upon conversion thereof under the Securities Act of 1933.
30
Item 6. SELECTED CONSOLIDATED FINANCIAL DATA.
The statement of operations data included in the selected consolidated
financial data set forth below for the years ended December 31, 2000, 1999 and
1998 and the balance sheet data set forth below at December 31, 2000 and 1999
are derived from, and are qualified in their entirety by reference to, the
Company's audited consolidated financial statements and notes thereto included
in this Annual Report on Form 10-K. The statement of operations data set forth
below for the years ended December 31, 1997 and 1996 and the balance sheet data
set forth below at December 31, 1998, 1997 and 1996 are derived from audited
consolidated financial statements of the Company, which are not included herein.
Five-Year Selected Financial Data
For the Years Ended December 31, 2000 1999 1998 1997 1996
--------------------------------------------------------------------
(thousands, except per-share data)
Statement of Operations Data:
Revenues.................................... $ 314,334 $ 226,068 $ 176,669 $ 125,140 $ 72,126
Income (Loss) before provision
for income taxes......................... 29,622 10,229 55,551 29,741 (284)
Net income (loss) .......................... 12,896 444 39,209 28,996 (2,511)
Earnings (Loss) per share:
Basic.................................. $ 0.22 $ 0.01 $ 0.73 $ 0.58 $ (0.05)
Diluted................................ 0.20 0.01 0.67 0.51 (0.05)
Weighted average number of
shares outstanding:
Basic.................................. 57,823 54,931 53,518 50,408 47,100
Diluted................................ 64,123 58,690 58,708 56,842 47,100
Balance Sheet Data (at December 31):
Cash and investments........................ $ 159,413 $ 106,664 $ 113,774 $ 70,518 $ 44,244
Working capital............................. 218,935 127,702 108,762 86,354 44,688
Total assets................................ 458,524 394,434 210,210 136,465 82,518
Long-term liabilities....................... 136,050 137,552 2,252 2,839 1,061
Shareholders' equity........................ 237,597 176,595 165,777 107,877 61,751
31
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion should be read in conjunction with, and is
qualified in its entirety by, the consolidated financial statements and the
notes thereto included in this Annual Report on Form 10-K. Historical results
and percentage relationships among any amounts in the financial statements are
not necessarily indicative of trends in operating results for any future
periods.
OVERVIEW
In May 1999, the Company acquired all of the outstanding stock of IEX
Corporation ("IEX"), which develops, markets and sells solutions for intelligent
networks, contact centers and other telecommunications markets.
The Company's product offerings are currently organized along three
distinct product lines: network systems, network diagnostics and contact center.
Network Systems Products. Prior to the Company's May 1999 acquisition of
IEX, the Company's network systems product line was known as the network
switching product line and consisted principally of the Eagle STP and products,
features and applications based on the Eagle platform, including the IP7 Secure
Gateway and the Company's local number portability solution. As a result of the
acquisition of IEX, the network systems product line has been expanded to
include IEX's network products, including ASi 4000 Service Control Point, VXi
Media Gateway Controller and other convergence products. During 2000, the
Company's business segments were reorganized to include the Sentinel network
surveillance system in the network systems products segment.
Network Diagnostics Products. In January 1999, the Company scaled back its
data network diagnostics product line and integrated it into its intelligent
network diagnostics product line. Prior to that time, the Company treated these
product lines separately for organizational and financial reporting purposes.
Since that time, the Company has reported these products together as the network
diagnostics product line. This product line consists principally of the MGTS and
MGTS i3000 families of diagnostics products.
Contact Center Products. The Company's IEX contact center business develops
and supplies software-based solutions for contact centers, and its products
include the TotalView Workforce Management and TotalNet Call Routing solutions.
In 2000, the IEX Call Center Division business was renamed from Call Center to
Contact Center Division due to the products' evolution to support multimedia
contact centers.
IEX Acquisition. The Company accounted for the IEX acquisition under the
purchase method of accounting, and the results of operations of IEX are included
in the results of operations beginning May 1999. In connection with the
acquisition, the Company also recorded approximately $133.4 million of goodwill
and other intangible assets, net of related deferred income tax liabilities, and
$6.0 million of acquired in-process research and development that had not yet
reached technological feasibility and had no alternative future use that was
recorded as a non-recurring expense in the second quarter of 1999.
32
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, the percentages
that statement of operations items bear to total revenues:
Percentage of Revenues
For the Years Ended December 31,
--------------------------------
2000 1999 1998
----- ----- -----
Revenues .............................................. 100.0% 100.0% 100.0%
Cost of goods sold ............................... 34.4 34.3 33.3
Amortization of purchased technology ............. 3.2 2.8 --
----- ----- -----
Gross profit .......................................... 62.4 62.9 66.7
Research and development ......................... 17.3 18.7 14.9
Selling, general and administrative .............. 28.3 28.4 22.9
Amortization of goodwill and other intangibles ... 7.0 7.0 --
Acquired in-process research and development and
other acquisition-related charges .............. -- 3.0 --
Restructuring .................................... -- 0.8 --
----- ----- -----
Income from operations ................................ 9.8 5.0 28.9
Interest and other income (expense), net ......... (0.4) (0.5) 2.6
----- ----- -----
Income before provision for income taxes .............. 9.4 4.5 31.5
Provision for income taxes ....................... 5.3 4.3 9.3
----- ----- -----
Net income ....................................... 4.1% 0.2% 22.2%
===== ===== =====
The following table sets forth, for the periods indicated, the revenues by
principal product line as a percentage of total revenues:
Percentage of Revenues
For the Years Ended December 31,
--------------------------------
2000 1999 1998
----- ----- -----
Network Systems........................................ 70% 66% 69%
Network Diagnostics.................................... 20 25 31
Contact Center......................................... 10 9 --
----- ----- -----
Total............................................. 100% 100% 100%
===== ===== =====
The following table sets forth, for the periods indicated, the revenues by
geographic territory as a percentage of total revenues:
Percentage of Revenues
For the Years Ended December 31,
--------------------------------
2000 1999 1998
----- ----- -----
North America.......................................... 71% 77% 69%
Japan.................................................. 8 10 12
Europe................................................. 11 4 4
Rest of World.......................................... 10 9 15
----- ----- -----
Total............................................. 100% 100% 100%
===== ===== =====
33
2000 Compared With 1999
Revenues. The Company's revenues increased by $88.3 million, or 39%, during
2000 due primarily to higher sales of network systems products and services and
secondarily to the inclusion of post-acquisition sales of IEX contact center
products for the full year and higher sales of network diagnostics products.
Revenues from network systems products increased by $70.8 million, or 48%,
due primarily to higher sales of the Company's Eagle STP and local number
portability product, increased upgrade and extensions sales, and higher sales of
the Company's IP7 products.
Revenues from network diagnostics products increased by $6.2 million, or
11%, due to higher sales of the Company's MGTS i3000 diagnostic system.
Revenues from contact center products increased by $11.2 million, or 53%,
due primarily to results for the year ended December 31, 2000 reflecting sales
for the entire twelve months compared to the year ended December 31, 1999, which
only included sales following the May 1999 acquisition, and increased sales on a
full-year comparison basis of TotalView Workforce Management products.
Revenues in North America increased by $50.1 million, or 29%, due primarily
to higher sales of Eagle STP products and IP7 Secure Gateway product sales.
Sales in Japan increased $3.6 million, or 16%, as a result of higher sales of
MGTS and third-party data diagnostics products. Revenues in Europe increased by
$23.8 million, or 245%, due to higher network systems product sales. Rest of
world revenues increased by $10.7 million, or 52%, due to increased Eagle STP
sales.
The impact of exchange rate fluctuations on currency translations increased
revenues by $1.6 million, or 1%, and did not have a material effect on net
income.
The Company believes that its future revenue growth depends in large part
upon a number of factors, including the continued market acceptance of the
Company's products, particularly the Eagle products and related applications as
well as the Company's suite of products for converged circuit and packet
networks, including the IP7 Secure Gateway and VXi media gateway network systems
products and the MGTS i3000 diagnostics product.
Gross Profit. Gross profit as a percentage of revenues decreased to 62.4%
in 2000 compared with 62.9% in 1999. The decrease in gross margin was primarily
due to the increase in amortization of purchased technology, primarily in
connection with the acquisition of IEX, for twelve months in 2000 compared to
eight months of such amortization in 1999. Excluding the amortization of
purchased technology related to the IEX acquisition, gross profit as a
percentage of sales was essentially flat at 65.6% in 2000 compared to 65.7% in
1999. In 2000, the Company also recorded a non-recurring change of $2.9 million
to write-down inventory related to the IEX network switch product line. Changes
in the following factors, among others, may affect gross profit: product and
distribution channel mix; competition; customer discounts; supply and demand
conditions in the electronic components industry; internal manufacturing
capabilities and efficiencies; foreign currency fluctuations; and general
economic conditions.
34
Research and Development. Research and development expenses increased
overall by $12.2 million, or 29%, and decreased as a percentage of revenues to
17.3% in 2000 from 18.7% in 1999. The dollar increase was attributable
principally to increased expenses incurred in connection with the hiring of
additional personnel for product development and enhancements for both network
systems and network diagnostics products, primarily related to the Company's
continued development of products to address the Internet Protocol
("IP")/Signaling System #7 ("SS7") and Media Gateway Controller, or
"softswitch," markets. Based on the Company's present product development plans,
the Company expects that its research and development expenses for 2001 will
increase in dollars when compared to 2000.
The Company intends to continue to make substantial investments in product
and technology development and believes that its future success depends in large
part upon its ability to continue to enhance existing products and to develop or
acquire new products that maintain the Company's technological competitiveness.
Selling, General and Administrative. Selling, general and administrative
expenses increased by $24.7 million, or 38%, and decreased slightly as a
percentage of revenues to 28.3% in 2000 from 28.4% in 1999. The dollar increase
was primarily due to increased personnel and infrastructure-related expenses
incurred to support the Company's installed base and anticipated higher sales
levels. Selling, general and administrative expenses for 2000 include a $2.3
million charge to record an allowance for doubtful accounts related to
outstanding receivables from a customer which filed for bankruptcy protection
under Chapter 11 in March 2001 and a charge of $750,000 in connection with the
settlement of a legal dispute. The Company expects that selling, general and
administrative expenses for 2001 will increase in dollars when compared to 2000.
Amortization of Goodwill and Other Intangibles. Amortization of goodwill
and intangible assets increased by $6.1 million, but stayed flat as a percentage
of revenue at 7.0% in 2000 and 1999. The dollar increase was due to the
amortization of goodwill and intangibles, primarily in connection with the
acquisition of IEX, for the full year in 2000 compared to eight months in 1999.
Interest and Other Income (Expense), net. Interest expense was $8.7 million
in 2000, compared to $4.9 million in 1999. The $3.8 million increase was
primarily due to a full year of interest expense in 2000 for the Company's
convertible notes, compared to approximately eight months of interest expense in
1999 for short-term notes issued by the Company in May 1999 in connection with
the acquisition of IEX, and interest for the convertible notes issued in
November 1999 to retire the short-term notes. Interest income increased $3.9
million, or 91%, due to higher invested cash balances in 2000 compared to 1999.
Income Taxes. The income tax provision for 2000 was $16.7 million and
reflected the effect of non-deductible acquisition-related costs, partially
offset by a benefit of $4.7 million from the utilization of deferred tax
liabilities related to certain of these acquisition-related costs. Excluding the
effect of these acquisition-related items, an estimated effective tax rate of
35% was applied and represented federal, state and foreign taxes on the
Company's income, reduced primarily by research and development and foreign tax
credits, compared to an effective tax rate of 35% for 1999. The Company expects
that its effective tax rate, excluding the effect of acquisition-related items,
will remain relatively consistent and within the range of the effective tax
rates in prior years. Changes in the tax rate can be affected by changes in the
mix of international sales and changes in the amount of the research and
development credits.
35
1999 Compared with 1998
Revenues. The Company's revenues increased by $49.4 million, or 28%, during
1999 due primarily to the inclusion of post-acquisition IEX product sales
following the acquisition of IEX in May 1999, and secondarily to increased Eagle
STP switching and network diagnostics product sales.
Revenues from network systems products increased by $26.9 million, or 22%,
to $148.8 million due primarily to the addition of sales of IEX's intelligent
network products and Sentinel products, and higher Eagle STP product sales
including increased extension and upgrade sales, as well as initial sales of the
Company's IP7 Secure Gateway product.
Revenues from network diagnostics products increased by $1.4 million, or
3%, to $56.2 million due to higher sales of intelligent network diagnostics
products offset by lower sales of data network diagnostics products.
Revenues from contact center products following the acquisition of IEX in
May 1999 added $21.1 million in 1999.
Revenues in North America increased by $52.3 million, or 43%, primarily as
a result of the inclusion of post-acquisition IEX product sales and secondarily
due to higher sales of Eagle STP switching and network diagnostics products.
Sales in Japan were flat due to lower Chameleon and MGTS product sales, offset
by higher sales of MGTS-related development services and an increase of $2.9
million from the impact of currency translations. Revenues in Europe increased
by $2.0 million, or 26%, due to higher network systems product sales partially
offset by lower network diagnostics products. Rest of world revenues decreased
by $4.9 million, or 19%, due primarily to lower network systems product sales.
The impact of exchange rate fluctuations on currency translations increased
revenues by $708,000 million, or less than 1%, and did not have a material
effect on net income.
Gross Profit. Gross profit as a percentage of revenues decreased to 62.9%
in 1999 compared with 66.7% in 1998. The decrease in gross margins was primarily
due to the amortization of purchased technology acquired from IEX and a higher
proportion of lower margin sales in Japan, primarily development services.
Excluding the amortization of purchased technology related to the IEX
acquisition, gross profit as a percentage of sales was 65.7% for 1999.
Research and Development. Research and development expenses increased
overall by $15.9 million, or 60%, and increased as a percentage of revenues to
18.7% in 1999 from 14.9% in 1998. The dollar increase was attributable
principally to the inclusion of post-acquisition IEX research and development
expenses and increased expenses incurred in connection with the hiring of
additional personnel for product development and enhancements for both network
systems and network diagnostics products, primarily related to the Company's
continued development of products to address the Internet Protocol/SS7 market.
36
Selling, General and Administrative. Selling, general and administrative
expenses increased by $23.8 million, or 59%, and increased as a percentage of
revenues to 28.4% in 1999 from 22.9% in 1998. The dollar increase was primarily
due to the inclusion of post-acquisition IEX selling, general and administrative
expenses and higher personnel and infrastructure-related expenses incurred to
support the growing Eagle STP installed base and anticipated higher sales
levels. The increase in these expenses over 1998 levels was also due to a $1.7
million insurance settlement realized in 1998 which benefited the 1998 expenses.
Amortization of Goodwill and Other Intangibles. Amortization of goodwill
and intangible assets were $15.8 million, and represented 7.0% of revenue in
1999. The amortization of goodwill and intangibles was related to the
acquisition of IEX in May 1999.
Interest and Other Income (Expense), net. Interest income decreased by
$555,000, or 12%, due to lower invested cash balances primarily as a result of
cash paid in connection with the acquisition of IEX. Interest expense of $4.9
million was due to interest incurred for short-term notes issued in connection
with the acquisition of IEX and convertible debt issued to refinance the
short-term notes.
Income Taxes. The income tax provision for 1999 was $9.8 million and
reflected the effect of non-deductible acquisition-related costs, partially
offset by a benefit of $3.6 million from the utilization of deferred tax
liabilities related to certain of these acquisition-related costs. Excluding the
effect of these acquisition-related items, an estimated effective tax rate of
35% was applied and represented federal, state and foreign taxes on the
Company's income, reduced primarily by research and development and foreign tax
credits, compared to an effective tax rate of 36% for 1998. The decrease in the
effective tax rate was due to a higher proportion of research and development
expenses and corresponding tax credits.
Liquidity and Capital Resources
General
During 2000, cash and cash equivalents increased by $19.0 million to $65.7
million, after $33.7 million net purchases of short-term and long-term
investments. Operating activities, net of the effects of exchange rate changes
on cash, provided $47.8 million. Financing activities, which represented
proceeds from the issuance of Common Stock upon the exercise of options and
warrants, provided $27.9 million, and investing activities, excluding net
purchases of short-term and long-term investments, used $23.0 million primarily
for capital expenditures.
During 2000 and 1999, the Company financed net working capital and capital
expenditure requirements principally from operations, available cash, proceeds
from the issuance of Common Stock upon the exercise of options and warrants and
proceeds from the issuance of convertible debt.
Cash flow from operating activities was comprised mainly of net income
adjusted for depreciation, amortization and tax benefits related to stock
options exercised, partially offset by an increase in accounts receivable and
prepaid expenses. Tax benefits related to stock options exercised increased
significantly due to the increase in stock options exercised during 2000. Net
accounts receivables increased by 22% during 2000 due primarily to a 39%
increase in revenues.
37
Capital expenditures of $22.0 million during 2000 represented the planned
addition of equipment principally for research and development, manufacturing
operations and facilities expansion.
The Company had a $15.0 million line of credit that expired on June 30,
2000 which was replaced by a $20.0 million line of credit on July 31, 2000 on
substantially the same terms and conditions as the expired line of credit.
The Company's $20.0 million credit facility is collateralized by
substantially all of the Company's assets, bears interest at or, in some cases,
below the lender's prime rate (9.5% at December 31, 2000), and expires on July
31, 2001, if not renewed. Under the terms of this facility, the Company is
required to maintain certain financial ratios and meet certain net worth and
indebtedness tests. The Company believes it is in compliance with these
requirements. There have been no borrowings under this credit facility.
The Company's Japanese subsidiary has collateralized yen-denominated lines
of credit with Japan-based banks, primarily available for use in Japan,
amounting to the equivalent of $2.6 million with interest at the Japanese prime
rate (1.5% at December 31, 2000) plus 0.125% per annum which expire between
August 2001 and November 2001, if not renewed. There have been no borrowings
under these lines of credit.
In November 1999, the Company completed the private placement of $135.0
million principal amount at maturity of 3.25% convertible subordinated discount
notes due in 2004 (the "Notes"), issued at 85.35% of their face amount
(equivalent to gross proceeds of approximately $115.2 million at issuance before
discounts and expenses). The Notes are callable after the first three years.
In November 1999, the Company used a portion of the net proceeds from
the Notes to retire all of the $100 million in short-term notes issued in May
1999 in connection with the acquisition of IEX Corporation.
The Company believes that its existing working capital, funds generated
through operations, and its current bank lines of credit will be sufficient to
satisfy operating requirements for at least the next twelve months. Nonetheless,
the Company may seek additional sources of capital as necessary or appropriate
to fund acquisitions or to otherwise finance the Company's growth or operations;
however, there can be no assurance that such funds, if needed, will be available
on favorable terms, if at all.
Foreign Exchange
International operations are subject to certain opportunities and risks,
including currency fluctuations. In 2000, 1999, and 1998, the percentages by
which weighted average exchange rates for the Japanese yen strengthened
(weakened) against the U.S. dollar were (3%), 15% and (7%), respectively.
The change in cumulative translation adjustments in 2000 was due primarily
to the weakening of the Japanese yen against the U.S. dollar when comparing the
exchange rate at December 31, 2000, to that of December 31, 1999. Realized
exchange gains (losses) are recorded in the period when incurred, and amounted
to ($492,000), $79,000 and $56,000 in 2000, 1999, and 1998, respectively.
Exchange gains and losses include foreign currency transactions and the
settlement of intercompany balances.
38
Financial Risk
The Company's international sales are predominantly denominated in U.S.
dollars, and therefore exposure to foreign currency exchange fluctuations on
international sales is limited. In certain instances where the Company has
entered into contracts which are denominated in foreign currencies, the Company
has obtained foreign currency forward and option contracts, principally
denominated in Euros or British pounds, to offset the impact of currency rates
on accounts receivable. The notional amount of the forward and option contracts
outstanding was $10.0 million at December 31, 2000. The Company had no forward
or option contracts outstanding as of December 31, 1999. The fair value of the
forward contracts and options and premiums paid for the options were not
material. The Company does not enter into derivative instrument transactions for
trading or speculative purposes. The Company does not hedge foreign currencies
in a manner that would entirely eliminate the effects of the changes in foreign
currency rates on the Company's consolidated net income. The Company does not
typically hedge its exposure to the Japanese Yen, which is the functional
currency for the Company's Japanese subsidiary.
Fixed income securities are subject to interest rate risk. The fair value
of the Company's investment portfolio would not be significantly impacted by
either a 100 basis point increase or decrease in interest rates due mainly to
the short-term nature of the major portion of the Company's investment
portfolio. The portfolio is diversified and consists primarily of investment
grade securities to minimize credit risk.
There have been no borrowings under the Company's variable rate credit
facilities. All of the Company's outstanding long-term debt is fixed rate and
not subject to interest rate fluctuation.
With respect to trade receivables, the Company sells network systems,
communications diagnostic systems and contact center systems worldwide primarily
to telephone operating companies, equipment manufacturers and corporations that
use its systems to design, install, maintain, test and operate communications
equipment and networks. Credit is extended based on an evaluation of each
customer's financial condition, and generally collateral is not required.
Generally, payment terms stipulate payment within 90 days of shipment and
currently, the Company does not engage in leasing or other customer financing
arrangements. Many of the Company's international sales are secured with import
insurance or letters of credit to mitigate credit risk. Although the Company has
processes in place to monitor and mitigate credit risk, there can be no
assurance that such programs will be effective in eliminating such risk.
Historically, credit losses have been within management's expectations and
relatively insignificant. Recently, the Company's exposure to credit risk has
increased as a result of weakened financial conditions in certain market
segments such as the Competitive Local Exchange Carrier segment. Credit losses
for such customers, including one of the Company's customers who recently filed
bankruptcy, have been provided for in the financial statements. Future losses,
if incurred, could harm the Company's business and have a material adverse
effect on the Company's financial position, results of operations, or cash
flows.
39
Recent Accounting Pronouncements
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements." SAB No. 101 provides guidance for revenue recognition under certain
circumstances. The Company's existing revenue recognition policies are in
accordance with Statement of Position (SOP) 97-2, "Software Revenue Recognition"
and the adoption of SAB No. 101 in 2000 did not have a significant impact on the
Company's financial position, results of operations or cash flows.
In March 2000, the Financial Accounting Standards Board issued
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation - an Interpretation of APB Opinion No. 25" ("FIN 44"). FIN 44
applied prospectively to new awards in a business combination, modifications to
outstanding awards, and changes to grantee status that occur on or after July 1,
2000, except for the provisions related to repricings and the definition of an
employee, which apply to awards after December 15, 1998. Additional provisions
of FIN 44 related to modifications to fixed stock option awards to add a reload
feature are effective for awards modified after January 12, 2000. The adoption
of FIN 44 did not have a material impact on the Company's financial position,
results of operations or cash flows.
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standard ("SFAS") No. 133 "Accounting for Derivative
Instruments and Hedging Activities." The statement requires the recognition of
all derivatives as either assets or liabilities on the balance sheet and the
measurement of those instruments at fair value. The accounting for changes in
the fair value of a derivative depends on the planned use of the derivative and
the resulting designation. Because the Company only engages in limited hedging
activities, the impact of the adoption of SFAS No. 133 is currently not expected
to have a material impact on the Company's financial position, results of
operations or cash flows. The Company is currently evaluating the provisions of
SFAS No. 133 and its potential impact on the Company's financial statements. The
Company will be required to implement SFAS No. 133 in the first quarter of
fiscal 2001.
40
"Safe Harbor" Statement under the Private Securities Litigation Reform Act of
1995
The statements that are not historical facts contained in this Management's
Discussion and Analysis of Financial Condition and Results of Operations and
other sections of this Annual Report on Form 10-K are forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 that
reflect the current belief, expectations or intent of the Company's management.
These statements are subject to and involve certain risks and uncertainties
including, but not limited to, timing of significant orders and shipments and
the resulting fluctuation of the Company's operating results; changes in
customer product mix; customer acceptance of the Company's products; capital
spending patterns of customers; the Company's limited product offerings; risks
relating to the convergence of voice and data networks; competition and pricing;
the Company's relatively limited number of customers; new product introductions
by the Company or its competitors; risks related to the Company's acquisition of
IEX; product liability risks; the continued growth in third party purchases of
diagnostics systems; uncertainties relating to the Company's international
operations; intellectual property protection; carrier deployment of new
technologies and intelligent network services; the level and timing of research
and development expenditures; regulatory changes; general economic conditions;
and other risks described in this Annual Report on Form 10-K and in certain of
the Company's other Securities and Exchange Commission filings. Many of these
risks and uncertainties are outside of the Company's control and are difficult
for the Company to forecast or mitigate. Actual results may differ materially
from those expressed or implied in such forward-looking statements. The Company
is not responsible for updating or revising these forward-looking statements.
Undue emphasis should not be placed on any forward-looking statements contained
herein or made elsewhere by or on behalf of the Company. See also "Business -
Business Risk Factors."
41
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company's international sales are predominantly denominated in U.S.
dollars, and therefore exposure to foreign currency exchange fluctuations on
international sales is limited. In certain instances where the Company has
entered into contracts which are denominated in foreign currencies, the Company
has obtained foreign currency forward and option contracts, principally
denominated in Euros or British pounds, to offset the impact of currency rates
on accounts receivable. The notional amount of the forward and option contracts
outstanding was $10.0 million at December 31, 2000. The Company had no forward
or option contracts outstanding as of December 31, 1999. The fair value of the
forward contracts and options and premiums paid for the options were not
material. The Company does not enter into derivative instrument transactions for
trading or speculative purposes. The Company does not hedge foreign currencies
in a manner that would entirely eliminate the effects of the changes in foreign
currency rates on the Company's consolidated net income. The Company does not
typically hedge its exposure to the Japanese Yen, which is the functional
currency for the Company's Japanese subsidiary.
Fixed income securities are subject to interest rate risk. The fair value
of the Company's investment portfolio would not be significantly impacted by
either a 100 basis point increase or decrease in interest rates due mainly to
the short-term nature of the major portion of the Company's investment
portfolio. The portfolio is diversified and consists primarily of investment
grade securities to minimize credit risk.
There have been no borrowings under the Company's variable rate credit
facilities. All of the Company's outstanding long-term debt is fixed rate and
not subject to interest rate fluctuation.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See the consolidated financial statements of the Company and its
subsidiaries included herein and listed in Item 14(a) of this Annual Report on
Form 10-K.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item is incorporated by reference to the
sections of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 18, 2001, entitled "Election of Directors,"
"Executive Officers" and "Section 16 (a) Beneficial Ownership Reporting
Compliance" to be filed with the Commission.
42
Item 11. EXECUTIVE COMPENSATION.
The information required by this Item is incorporated by reference to the
sections of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 18, 2001, entitled "Election of Directors -
Compensation of Directors," "Executive Compensation and Other Information,"
"Board of Directors and Compensation Committee Reports on Executive
Compensation" and "Performance Graph," to be filed with the Commission.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this Item is incorporated by reference to the
section of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 18, 2001, entitled "Common Stock Ownership of
Principal Shareholders and Management," to be filed with the Commission.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item is incorporated by reference to the
section of the Company's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 18, 2001, entitled "Certain Relationships and
Related Transactions," to be filed with the Commission.
43
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K.
(a) The following documents are filed as part of this Report:
1. Consolidated Financial Statements Page
----
o Report of Independent Accountants F-1
o Consolidated Statements of Operations for each of the
three years in the period ended December 31, 2000 F-2
o Consolidated Balance Sheets as of December 31, 2000 and 1999 F-3
o Consolidated Statements of Cash Flow for each of the
three years in the period ended December 31, 2000 F-4
o Consolidated Statements of Shareholders' Equity for each
of the three years in the period ended December 31, 2000 F-6
o Consolidated Statements of Comprehensive Income for each
of the three years in the period ended December 31, 2000 F-7
o Notes to Consolidated Financial Statements F-8
2. Consolidated Financial Statement Schedule
o Report of Independent Accountants on Financial Statement
Schedule S-1
o Schedule II Valuation and Qualifying Accounts and Reserves
for each of the three years in the period ended
December 31, 2000 S-2
Schedules which are not listed above have been omitted because they are not
applicable or the information required to be set forth therein is included in
the consolidated financial statements or notes thereto.
3. List of Exhibits
Exhibit
Number Exhibit
------- -------
3.1 Amended and Restated Articles of Incorporation(1)
3.2 Bylaws, as amended(2)
44
4.1 Rights Agreement dated as of August 25, 1997 between the Registrant and
U.S. Stock Transfer Corporation as Rights Agent(3)
4.2 Indenture dated as of November 2, 1999 between the Registrant and
Bankers Trust Company as Trustee, including form of the Registrant's
3.25% Convertible Subordinated Discount Notes due 2004 (4)
4.3 Registration Rights Agreement dated as of November 2, 1999 among the
Registrant, Deutsche Bank Securities Inc. and Warburg Dillon Read
LLC (4)
10.1 Amended and Restated 1984 Stock Option Plan, including forms of stock
option agreements(5)(6)
10.2 Amended and Restated Non-Employee Director Equity Incentive Plan,
including forms of stock award certificate and nonstatutory stock
option agreements(5), as amended February 21, 1996(6)(7)
10.3 1994 Stock Option Plan, including forms of stock option agreements(8),
as amended February 4, 1995(9), March 3, 1995 (9), January 27, 1996(7),
February 26, 1997(10), March 19, 1997(10), March 20, 1998(11), March
19, 1999(12) and March 23, 2000 (6) (13)
10.4 Form of Indemnification Agreement between the Registrant and all
directors of the Registrant(6)(14)
10.5 Lease Agreement dated as of February 8, 1988 between the Registrant and
State Street Bank and Trust Company of California, N.A., not
individually, but solely as an Ancillary Trustee for State Street Bank
and Trust Company, a Massachusetts banking corporation, not
individually, but solely as Trustee for the AT&T Master Pension Trust,
covering the Company's principal facilities in Calabasas,
California(15)
10.6 Officer Severance Plan, including form of Employment Separation
Agreement(16), as amended March 8, 1999 (17) and February 4, 2000
(6) (18)
10.7 Employee Stock Purchase Plan, including form of subscription agreement
(6)(7)
10.8 Warrants to purchase shares of the Registrants's Common Stock and
Schedule of Warrantholders(6) (19)
10.9 Stock Award Agreement dated February 17, 1998 between the Registrant
and Michael Margolis(6) (20)
10.10 Lease Agreement dated as of November 6, 1998 between the Registrant and
Weeks Realty, L.P., covering certain of the Registrant's facilities in
Morrisville, North Carolina (17) as amended by First Amendment thereto
dated May 27, 1999, Second Amendment thereto dated October 1, 1999,
Third Amendment thereto dated November 30, 1999, and Fourth Amendment
thereto dated July 19, 2000
10.11 Loan Agreement and Promissory Note dated July 31, 2000 between the
Registrant and Union Bank of California (21)
45
10.12 Lease Agreement as of July 19, 2000 between the Registrant and Duke
Construction Limited Partnership covering certain of the Company's
facilities in Morrisville, North Carolina
21.1 Subsidiaries of the Registrant
23.1 Consent of PricewaterhouseCoopers LLP
- -----------------------------
(1) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q (File No. 0-15135) for the quarter ended June 30, 1998.
(2) Incorporated by reference to the Registrant's Annual Report on Form
10-K (File No. 0-15135) for the year ended December 31, 1996.
(3) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q (File No. 0-15135) for the quarter ended September 30, 1997.
(4) Incorporated by reference to Registrant's Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended September 30, 1999.
(5) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 33-48079) filed with the Commission on May
22, 1992.
(6) Constitutes a management contract or compensatory plan or arrangement
required to be filed as an exhibit to this Annual Report on Form 10-K.
(7) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-05933) filed with the Commission on June
13, 1996.
(8) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 33-82124) filed with the Commission on July
28, 1994.
(9) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 33-60611) filed with the Commission on June
27, 1995.
(10) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-28887) filed with the Commission on June
10, 1997.
(11) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-71261) filed with the Commission on
January 27, 1999.
(12) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q (File No. 0-15135) for the quarter ended June 30, 1999.
(13) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration Statement No. 333-39588) filed with the
Commission on June 19, 2000.
46
(14) Incorporated by reference to the Registrant's Annual Report on Form
10-K (File No. 0-15135) for the year ended December 31, 1987.
(15) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q (File No. 0-15135) for the quarter ended June 30, 1988.
(16) Incorporated by reference to the Registrant's Annual Report on Form
10-K (File No. 0-15135) for the year ended December 31, 1993.
(17) Incorporated by reference to the Registrant's Annual Report on Form
10-K (File No. 0-15135) for the year ended December 31, 1998.
(18) Incorporated by reference to the Registrant's Annual Report on Form
10-K (File No. 0-15135) for the year ended December 31, 1999.
(19) Incorporated by reference to the Registrant's Registration Statement on
Form S-8 (Registration No. 333-37843) filed with the Commission on
October 14, 1997.
(20) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q (File No. 0-15135) for the quarter ended March 31, 1998.
(21) Incorporated by reference to the Registrant's Quarterly Report on Form
10-Q (File No. 0-15135) for the quarter ended September 30, 2000.
(b) Reports on Form 8-K
No reports on Form 8-K were filed by the Registrant during the quarter
ended December 31, 2000.
(c) Exhibits
See the list of Exhibits under Item 14(a) 3 of this Annual Report on
Form 10-K.
(d) Financial Statement Schedules
See the Schedule under Item 14(a) 2 of this Annual Report on Form 10-K.
47
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
TEKELEC
By:/s/ Michael L. Margolis
--------------------------------------
Michael L. Margolis, President and
Chief Executive Officer
Dated: April 2, 2001
Pursuant to the requirements of the Securities Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Jean-Claude Asscher Chairman of the Board April 2, 2001
- ------------------------------
Jean-Claude Asscher
/s/ Michael L. Margolis President, Chief Executive April 2, 2001
- ------------------------------ Officer and Director
Michael L. Margolis
/s/ Robert V. Adams Director April 2, 2001
- ------------------------------
Robert V. Adams
/s/ Daniel L. Brenner Director April 2, 2001
- ------------------------------
Daniel L. Brenner
/s/ Howard Oringer Director April 2, 2001
- ------------------------------
Howard Oringer
/s/ Jon F. Rager Director April 2, 2001
- ------------------------------
Jon F. Rager
/s/ Paul J. Pucino Vice President and Chief April 2, 2001
- ------------------------------ Financial Officer
Paul J. Pucino (Principal Financial and
Chief Accounting Officer)
48
REPORT OF INDEPENDENT ACCOUNTANTS
To The Shareholders And Board Of Directors Of Tekelec
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, cash flow, shareholders' equity,
and comprehensive income present fairly, in all material respects, the financial
position of Tekelec and its subsidiaries (the "Company") at December 31, 2000
and 1999, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 2000, in conformity with
accounting principles generally accepted in the United States of America. 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 of these statements in accordance with
auditing standards generally accepted in the United States of America which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Woodland Hills, California
March 28, 2001
F-1
Tekelec
Consolidated Statements of Operations
For the Years Ended December 31,
-------------------------------------------------
2000 1999 1998
--------- --------- ---------
(thousands)
Revenues ............................................................... $ 314,334 $ 226,068 $ 176,669
Cost of sales:
Cost of goods sold ................................................ 108,001 77,389 58,883
Amortization of purchased technology .............................. 10,135 6,397 19
--------- --------- ---------
Total cost of sales............................................. 118,136 83,786 58,902
--------- --------- ---------
Gross profit .................................................... 196,198 142,282 117,767
--------- --------- ---------
Operating expenses:
Research and development .......................................... 54,466 42,289 26,371
Selling, general and administrative ............................... 89,043 64,294 40,458
Amortization of goodwill and other intangibles .................... 21,920 15,863 --
Acquired in-process research and development and
other acquisition-related charges ............................... -- 6,830 --
Restructuring ..................................................... -- 1,800 --
--------- --------- ---------
Total operating expenses ....................................... 165,429 131,076 66,829
--------- --------- ---------
Income from operations ................................................. 30,769 11,206 50,938
Interest and other income (expense):
Interest income ................................................... 8,085 4,230 4,785
Interest expense .................................................. (8,739) (4,914) --
Other, net ........................................................ (493) (293) (172)
--------- --------- ---------
Total other income (expense) .................................... (1,147) (977) 4,613
--------- --------- ---------
Income before provision for income taxes ............................... 29,622 10,229 55,551
Provision for income taxes ........................................ 16,726 9,785 16,342
--------- --------- ---------
Net income ...................................................... $ 12,896 $ 444 $ 39,209
========= ========= =========
Earnings per share:
Basic ........................................................... $ 0.22 $ 0.01 $ 0.73
Diluted ......................................................... 0.20 0.01 0.67
Weighted average number of shares outstanding:
Basic ........................................................... 57,823 54,931 53,518
Diluted ......................................................... 64,123 58,690 58,708
See notes to consolidated financial statements
F-2
Tekelec
Consolidated Balance Sheets
December 31,
---------------------------
2000 1999
--------- ---------
(thousands)
Assets
Current assets:
Cash and cash equivalents........................................... $ 65,690 $ 46,671
Short-term investments, at fair value............................... 81,723 37,997
Accounts and notes receivable, less allowances
2000 - $4,287; 1999 - $1,478...................................... 104,506 85,496
Inventories......................................................... 25,868 24,310
Deferred income taxes, net.......................................... 14,429 8,365
Prepaid expenses and other current assets........................... 11,596 5,150
--------- ---------
Total current assets.............................................. 303,812 207,989
Long-term investments, at fair value..................................... 12,000 21,996
Property and equipment, net.............................................. 31,700 21,667
Deferred income taxes.................................................... 2,964 2,780
Other assets............................................................. 3,825 4,296
Intangible assets........................................................ 104,223 135,706
--------- ---------
Total assets...................................................... $ 458,524 $ 394,434
========= =========
Liabilities and Shareholders' Equity
Current liabilities:
Trade accounts payable.............................................. $ 16,750 $ 16,249
Accrued expenses.................................................... 22,784 19,196
Accrued payroll and related expenses................................ 12,063 8,937
Current portion of deferred revenues................................ 31,832 35,330
Income taxes payable................................................ 1,448 575
--------- ---------
Total current liabilities......................................... 84,877 80,287
Long-term convertible debt............................................... 119,269 115,786
Deferred income taxes.................................................... 14,558 19,229
Long-term portion of deferred revenues................................... 2,223 2,537
--------- ---------
Total liabilities................................................. 220,927 217,839
--------- ---------
Commitments and contingencies
Shareholders' equity:
Common stock, without par value, 200,000,000 shares authorized;
issued and outstanding 2000-58,896,708; 1999-55,713,127 .......... 151,830 101,385
Retained earnings................................................... 85,424 72,528
Accumulated other comprehensive income.............................. 343 2,682
--------- ---------
Total shareholders' equity........................................ 237,597 176,595
--------- ---------
Total liabilities and shareholders' equity........................ $ 458,524 $ 394,434
========= =========
See notes to consolidated financial statements
F-3
Tekelec
Consolidated Statements of Cash Flow
For the Years Ended December 31,
----------------------------------------------
2000 1999 1998
--------- --------- ---------
(thousands)
Cash flow from operating activities:
Net income ........................................................... $ 12,896 $ 444 $ 39,209
Adjustments to reconcile net income to net cash
provided by operating activities:
Allowance for doubtful accounts....................................... 2,968 265 475
Inventory provision................................................... 4,393 760 1,021
Depreciation ......................................................... 11,846 8,519 5,776
Amortization ......................................................... 32,056 22,128 19
Amortization of deferred financing costs ............................. 812 132 --
Write-offs of acquired in-process research and
development ........................................................ -- 6,000 --
Non-cash portion of restructuring charge ............................. -- 800 --
Convertible debt accretion ........................................... 3,483 558 --
Deferred income taxes ................................................ (11,008) (4,742) 276
Stock-based compensation ............................................. 121 121 343
Tax benefits related to stock options exercised ...................... 22,457 2,009 9,199
Changes in assets and liabilities: (excluding the effect
of acquisition)
Accounts and notes receivable ...................................... (22,860) (18,722) (24,959)
Inventories ........................................................ (6,260) (6,084) (2,528)
Income taxes receivable ............................................ -- 3,478 775
Prepaid expenses and other current assets .......................... (6,472) (1,182) (1,548)
Trade accounts payable ............................................. 1,195 3,383 5,660
Accrued expenses ................................................... 3,749 5,798 4,955
Accrued payroll and related expenses ............................... 3,187 (4,442) (1,225)
Deferred revenues .................................................. (3,812) 11,328 2,200
Income taxes payable ............................................... 879 149 3,601
--------- --------- ---------
Total adjustments ................................................ 36,734 30,256 4,040
--------- --------- ---------
Net cash provided by operating activities ........................ 49,630 30,700 43,249
--------- --------- ---------
Cash flow from investing activities:
Purchase of available-for-sale securities ............................ (115,964) (52,737) (107,272)
Proceeds from maturity of available-for-sale
securities ......................................................... 82,234 81,842 57,200
Payments in connection with acquisition, net of cash
acquired ........................................................... -- (49,087) --
Purchase of property and equipment ................................... (21,990) (13,948) (8,702)
Purchase of technology ............................................... (573) (1,561) (150)
Increase in other assets ............................................. (399) (3,615) (45)
--------- --------- ---------
Net cash used in investing activities ............................ (56,692) (39,106) (58,969)
--------- --------- ---------
Cash flow from financing activities:
Repayments of short-term notes ....................................... -- (100,000) --
Net proceeds from issuance of convertible debt ....................... -- 115,228 --
Proceeds from issuance of common stock ............................... 27,867 6,452 7,634
--------- --------- ---------
Net cash provided by financing activities ........................ 27,867 21,680 7,634
--------- --------- ---------
Effect of exchange rate changes on cash ................................... (1,786) 1,465 1,270
--------- --------- ---------
Net increase (decrease) in cash and cash
equivalents .................................................... 19,019 14,739 (6,816)
--------- --------- ---------
Cash and cash equivalents at beginning of the year ........................ 46,671 31,932 38,748
--------- --------- ---------
Cash and cash equivalents at end of the year .............................. $ 65,690 $ 46,671 $ 31,932
========= ========= =========
See notes to consolidated financial statements
F-4
Tekelec
Consolidated Statements of Cash Flow (Continued)
For the Years Ended December 31,
----------------------------------------------
2000 1999 1998
------- ------- -------
(thousands)
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest ............................................................ $ 4,420 $ 3,471 $ --
Income taxes ........................................................ 7,140 8,248 2,297
Supplemental disclosure of non-cash flow activity:
Notes payable issued in connection with acquisition ........................ -- 100,000 --
Assets and liabilities recognized in connection with
acquisition:
Accounts receivable ................................................... -- 9,957 --
Other current assets .................................................. -- 13,261 --
Investments ........................................................... -- 7,255 --
Property and equipment ................................................ -- 3,490 --
Other assets .......................................................... -- 169 --
Intangibles ........................................................... -- 61,000 --
Goodwill .............................................................. -- 95,274 --
Accounts payable ...................................................... -- 1,515 --
Other current liabilities ............................................. -- 22,929 --
Deferred income tax liability ......................................... -- 22,875 --
See notes to consolidated financial statements
F-5
Tekelec
Consolidated Statements of Shareholders' Equity
Common Stock Accumulated
------------------------ Other Total
Number Retained Comprehensive Shareholders'
of Shares Amount Earnings Income (Loss) Equity
--------- -------- -------- ------------- -----------
(thousands)
Balance, December 31, 1997 .......................... 52,252 $ 75,627 $32,875 $ (625) $ 107,877
Exercise of stock options
and warrants and issuance
of shares under employee
stock purchase plan .......................... 2,032 7,634 -- -- 7,634
Issuance of restricted stock,
net of unearned compensation ............. 45 343 -- -- 343
Stock option tax benefits ...................... -- 9,199 -- -- 9,199
Translation adjustment ......................... -- -- -- 1,515 1,515
Net income ..................................... -- -- 39,209 -- 39,209
------ -------- ------- ------- ---------
Balance, December 31, 1998 .......................... 54,329 $ 92,803 $72,084 $ 890 $ 165,777
Exercise of stock options
and warrants and issuance
of shares under employee
stock purchase plan .......................... 1,384 6,452 -- -- 6,452
Compensation related to vesting
of restricted stock .......................... -- 121 -- -- 121
Stock option tax benefits ...................... -- 2,009 -- -- 2,009
Translation adjustment ......................... -- -- -- 1,792 1,792
Net income ..................................... -- -- 444 -- 444
------ -------- ------- ------- ---------
Balance, December 31, 1999 .......................... 55,713 $101,385 $72,528 $ 2,682 $ 176,595
Exercise of stock options
and warrants and issuance
of shares under employee
stock purchase plan .......................... 3,184 27,867 -- -- 27,867
Compensation related to vesting
of restricted stock .......................... -- 121 -- -- 121
Stock option tax benefits ...................... -- 22,457 -- -- 22,457
Translation adjustment ......................... -- -- -- (2,339) (2,339)
Net income ..................................... -- -- 12,896 -- 12,896
------ -------- ------- ------- ---------
Balance, December 31, 2000 .......................... 58,897 $151,830 $85,424 $ 343 $ 237,597
====== ======== ======= ======= =========
See notes to consolidated financial statements
F-6
Tekelec
Consolidated Statements of Comprehensive Income
For the Years Ended December 31,
---------------------------------------------
2000 1999 1998
----------- ---------- ---------
(thousands)
Net income ............................................ $ 12,896 $ 444 $ 39,209
Other comprehensive income (loss):
Foreign currency translation adjustments.......... (2,339) 1,792 1,515
----------- ---------- ---------
Comprehensive income................................... $ 10,557 $ 2,236 $ 40,724
=========== ========== =========
See notes to consolidated financial statements
F-7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business
The Company designs, manufactures and markets network systems products and
diagnostics systems for telecommunications networks. The Company's customers
include telecommunications carriers, network service providers and equipment
manufacturers. The Company also develops and sells management software to
operators of contact centers.
Principles of Consolidation and Presentation
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany accounts and transactions are
eliminated. Certain items shown in the December 31, 1999 and 1998 financial
statements have been reclassified to conform with the current period
presentation.
Estimates
The preparation of financial statements requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the dates of
the financial statements and revenues and expenses during the reporting periods.
Actual results could differ from those estimates.
Cash and Cash Equivalents
The Company considers all highly liquid debt instruments purchased with an
original maturity of three months or less to be cash equivalents.
Inventories
Inventories are stated at the lower of cost (first in, first out) or
market.
Property and Equipment
Property and equipment are stated at cost, less accumulated depreciation
and amortization. Depreciation and amortization are provided using the
straight-line method. The estimated useful lives are:
Manufacturing and
development equipment 3-5 years
Furniture and office equipment 5 years
Demonstration equipment 3 years
Leasehold improvements The shorter of useful
life or lease term
Software Developed for Internal Use
The Company capitalizes costs of software, consulting services, hardware
and payroll-related costs incurred to purchase or develop internal-use software.
The Company expenses costs incurred during preliminary project assessment,
research and development, re-engineering, training and application maintenance.
F-8
Software Development Costs
The Company provides for capitalization of certain software development
costs once technological feasibility is established. The costs so capitalized
are amortized on a straight-line basis over the estimated product life
(generally eighteen months to three years), or on the ratio of current revenue
to total projected product revenues, whichever is greater. To date, the
establishment of technological feasibility of the Company's products and general
release have substantially coincided. As a result, the Company has not
capitalized any internal software development costs as costs qualifying for such
capitalization have not been significant.
Intangible Assets
Intangible assets consist of goodwill, purchased technology and other
intangible assets, all of which are generally amortized over periods ranging
from three to five years. Intangible assets are stated at cost, less accumulated
amortization.
Long-Term Assets
The Company identifies and records impairment on long-lived assets,
including goodwill that is not identified with an impaired asset, when events
and circumstances indicate that such assets have been impaired. Events and
circumstances that may indicate that an asset is impaired include; significant
decreases in the fair market value of an asset, a change in the extent or manner
in which an asset is used, shifts in technology, loss of key management or
personnel, changes in the operating model or strategy and competitive forces.
If events and circumstances indicate that that the carrying amount of an
asset may not be recoverable and the expected undiscounted future cash flows
attributable to the asset is less than the carrying amount of the asset, an
impairment loss equal to the excess of the asset's carrying value over its fair
value is recorded. Fair value is determined based on the present value of
estimated expected future cash flows using a discount rate commensurate with the
risks involved, quoted market prices or appraised values, depending on the
nature of the assets. To date, no such impairment has been recorded.
Product Warranty Costs
The Company generally warrants its products against defects in materials
and workmanship for one year after sale and provides for estimated future
warranty costs at the time revenue is recognized. At December 31, 2000 and 1999,
accrued product warranty costs amounted to $3.4 million and $2.8 million,
respectively, and are included in accrued expenses.
Revenue Recognition
Revenues from sales of network systems products, diagnostic products and
contact center products are recognized upon the transfer of title, generally at
the time of shipment to the customer's final site and satisfaction of related
Company obligations, if any, provided that persuasive evidence of an arrangement
exists, the fee is fixed and determinable and collectability is deemed probable.
For certain products, the Company's sales arrangements include acceptance
provisions which are based on the Company's published specifications and are
accounted for as warranty, provided that the Company has previously demonstrated
that the product meets the specified criteria and has established a history with
substantially similar transactions. Revenue is deferred for sales arrangements
which include customer-specific acceptance provisions where the Company is
unable to reliably demonstrate that the delivered product meets all of the
specified criteria until customer acceptance is obtained. Revenues associated
with multiple-element arrangements are allocated to each element based on vendor
specific objective evidence of fair value. Revenues associated with installation
services, if provided, are deferred based on the fair
F-9
value of such services and are recognized upon completion. Installation services
are accounted for as a separate element based on the customer's obligation to
pay the contract price upon shipment of the related equipment and the fact that
such services are not essential to the functionality of the related equipment,
are available from other vendors and can be purchased unaccompanied by other
elements. Extended warranty service revenues are recognized ratably over the
warranty period. Engineering service revenues are recognized on delivery or as
the services are performed. Development contract revenues are recognized using
the percentage-of-completion method based on the costs incurred relative to
total estimated costs. Provisions for anticipated losses, if any, on development
contracts are recognized in income currently.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements." SAB No. 101 provides guidance for revenue recognition under certain
circumstances. The Company's existing revenue recognition policies are in
accordance with Statement of Position (SOP) 97-2, "Software Revenue Recognition"
and the adoption of SAB No. 101 in 2000 did not have a significant impact on the
Company's financial position, results of operations or cash flows.
Income Taxes
Income tax expense is the tax payable for the period and the change during
the period in non-capital-related deferred tax assets and liabilities. Deferred
income taxes are determined based on the difference between the financial
reporting and tax bases of assets and liabilities using enacted rates in effect
during the year in which the differences are expected to reverse. Valuation
allowances are established when necessary to reduce deferred tax assets to the
amount expected to be realized.
Advertising
Advertising costs are expensed as incurred and amounted to $1.6 million,
$1.4 million and $781,000 for 2000, 1999 and 1998, respectively.
Stock Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board Opinion ("APB")
No. 25, "Accounting for Stock Issued to Employees," and complies with the
disclosure provisions of Statement of Financial Accounting Standard ("SFAS") No.
123, "Accounting for Stock-Based Compensation." Under APB No. 25, compensation
expense is recognized over the vesting period based on the difference, if any,
on the date of grant between the fair value of the Company's stock and the
exercise price on the date of grant. The Company accounts for stock issued to
non-employees in accordance with the provisions of SFAS No. 123 and Emerging
Issues Task Force ("EITF") 96-18, "Accounting for Equity Instruments That Are
Issued to Other Than Employees for Acquiring, or in Conjunction with Selling,
Goods and Services." See Note N.
Foreign Currency
Translation of foreign currencies is accounted for using the local currency
as the functional currency of the Company's foreign subsidiaries. All assets and
liabilities are translated at exchange rates in effect on the balance sheet
dates while revenues and expenses are translated at average rates in effect for
the period. The resulting gains and losses are included in a separate component
of shareholders' equity. Realized gains (losses) on foreign currency
transactions are reflected in net income and amounted to ($492,000), $79,000 and
$56,000 for 2000, 1999 and 1998, respectively.
F-10
Earnings Per Share
Earnings per share are computed using the weighted average number of shares
outstanding and dilutive Common Stock equivalents (options and warrants), in
accordance with Statement of Financial Accounting Standard (SFAS) No. 128,
"Earnings per Share."
Comprehensive Income
Comprehensive income generally represents all changes in shareholders'
equity during the period except those resulting from investments by, or
distributions to, shareholders.
Segment Information
The Company uses the "management approach" in determining reportable
business segments. The management approach designates the internal organization
that is used by management for making operating decisions and assessing
performance as the source of the Company's reportable segments.
New Accounting Pronouncements
In March 2000, the Financial Accounting Standards Board issued
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation - an Interpretation of APB Opinion No. 25" ("FIN 44"). FIN 44
applied prospectively to new awards in a business combination, modifications to
outstanding awards, and changes to grantee status that occur on or after July 1,
2000, except for the provisions related to repricings and the definition of an
employee, which apply to awards after December 15, 1998. Additional provisions
of FIN 44 related to modifications to fixed stock option awards to add a reload
feature are effective for awards modified after January 12, 2000. The adoption
of FIN 44 did not have a material impact on the Company's financial position,
results of operations or cash flows.
In June 1998, The Financial Accounting Standards Board issued Statement of
Financial Accounting Standard ("SFAS") No. 133 "Accounting for Derivative
Instruments and Hedging Activities." The statement requires the recognition of
all derivatives as either assets or liabilities in the balance sheet and the
measurement of those instruments at fair value. The accounting for changes in
the fair value of a derivative depends on the planned use of the derivative and
the resulting designation. Because the Company only engages in limited hedging
activities, the impact of the adoption of SFAS No. 133 is currently not expected
to have a material impact on the Company's financial position, results of
operations or cash flows. The Company is currently evaluating the provisions of
SFAS No.133 and its potential impact on the Company's financial statements. The
Company will be required to implement SFAS No. 133 in the first quarter of
fiscal 2001.
NOTE B -- ACQUISITION OF IEX CORPORATION
On May 7, 1999, the Company acquired all of the outstanding stock of IEX
Corporation ("IEX") for $163 million, consisting of $63 million in cash and $100
million in short-term notes that were refinanced with convertible notes in
November 1999 (See Note L). IEX develops, markets and sells solutions for
intelligent networks, contact centers and other telecommunications markets.
F-11
The transaction has been accounted for under the purchase method of
accounting, and resulted in net goodwill and other intangibles of approximately
$133.4 million, with an average amortization period of five years. The total
purchase price, including acquisition expenses of $2.0 million, was allocated
among the assets acquired and liabilities assumed based on their estimated fair
values as follows:
(thousands)
In-process research and development.............................. $ 6,000
Developed and existing technology................................ 48,000
Other intangibles................................................ 13,000
Goodwill......................................................... 95,274
Tangible assets acquired......................................... 50,045
Deferred income tax liabilities associated with certain
intangible assets............................................. (22,875)
Liabilities assumed.............................................. (24,444)
---------
$ 165,000
=========
Based on a third party appraisal, management determined that $6.0 million
of the purchase price represented acquired in-process research and development
that had not yet reached technological feasibility and had no alternative future
use. This amount was recorded as a non-recurring expense in the second quarter
of 1999. Amortization expense of purchased technology and other intangible
assets resulting from the acquisition amounted to $26.8 million and $18.5
million, net of amortization of associated deferred income tax liabilities of
$4.7 million and $3.6 million, for 2000 and 1999, respectively.
The following table shows pro forma revenues, net income (loss) and diluted
earnings (loss) per share of the Company giving effect to the IEX acquisition as
of the beginning of 1999, excluding the impact of the one-time non-recurring
charge noted above.
For the Years Ended
December 31,
------------------------------------
2000 1999
------------------------------------
(thousands, except per-share amounts)
Revenues................................ $ 314,334 $ 239,826
Net income (loss)....................... 12,896 (6,672)
Diluted earnings (loss) per share....... 0.20 (0.12)
NOTE C -- FAIR VALUE OF INVESTMENTS
The Company has short-term investments in corporate debt securities with
original maturities of less than 90 days whose carrying amounts approximate
their fair values because of their short maturities. These short-term
investments are included in cash and cash equivalents, are classified as
held-to-maturity securities and amounted to $53.4 million and $17.9 million at
December 31, 2000 and December 31, 1999, respectively.
F-12
The Company also had investments classified as available-for-sale
securities included in short-term and long-term investments, categorized as
follows:
December 31,
--------------------------
2000 1999
--------------------------
(thousands)
Type of Security:
Corporate debt securities with maturities of less than one year.............. $ 59,723 $ 27,853
State and local government securities with maturities of less than one year.. -- 8,102
U.S. government securities with maturities of less than one year............. 22,000 2,042
-------- --------
Total short-term investments................................................. 81,723 37,997
U.S. government securities with maturities of between one and two years...... 12,000 21,996
-------- --------
$ 93,723 $ 59,993
======== ========
These available-for-sale securities are accounted for at their fair value,
and unrealized gains and losses on these securities are reported as a separate
component of shareholders' equity. At December 31, 2000 and 1999, net unrealized
gains or losses on available-for-sale securities were not significant. The
Company utilizes specific identification in computing realized gains and losses
on the sale of investments. Realized gains and losses are reported in other
income and expense, and were not significant for 2000, 1999 and 1998.
NOTE D -- BUSINESS AND CREDIT RISK
Financial instruments, which potentially subject the Company to
concentration of credit risk, consist principally of cash, investments and trade
receivables. The Company invests its excess cash in interest-bearing deposits
with major banks, United States government securities, high-quality commercial
paper and money market funds. At times the Company's cash balances may be in
excess of the FDIC insurance limits.
With respect to trade receivables, the Company sells network systems,
communications diagnostic systems and contact center systems worldwide primarily
to telephone operating companies, equipment manufacturers and corporations that
use its systems to design, install, maintain, test and operate communications
equipment and networks. Credit is extended based on an evaluation of each
customer's financial condition, and generally collateral is not required.
Generally, payment terms stipulate payment within 90 days of shipment and
currently, the Company does not engage in leasing or other customer financing
arrangements. Many of the Company's international sales are secured with import
insurance or letters of credit to mitigate credit risk. Although the Company has
processes in place to monitor and mitigate credit risk, there can be no
assurance that such programs will be effective in eliminating such risk.
Historically, credit losses have been within management's expectations and
relatively insignificant. Recently, the Company's exposure to credit risk has
increased as a result of weakened financial conditions in certain market
segments such as the Competitive Local Exchange Carrier segment. Credit losses
for such customers, including a charge of $2.3 million for one of the Company's
customers who filed for bankruptcy protection in March 2001, have been provided
for in the financial statements. Future losses, if incurred, could harm the
Company's business and have a material adverse effect on the Company's financial
position, results of operations or cash flows.
The Company's international sales are predominantly denominated in U.S.
dollars, and therefore exposure to foreign currency exchange fluctuations on
international sales is limited. In certain instances where the Company has
entered into contracts which are denominated in foreign currencies, the Company
has obtained foreign currency forward and option contracts,
F-13
principally denominated in Euros or British pounds, to offset the impact of
currency rates on accounts receivable. The notional amount of the forward and
option contracts outstanding was $10.0 million at December 31, 2000. The Company
had no forward or option contracts outstanding as of December 31, 1999. The fair
value of the forward contracts and options and premiums paid for the options
were not material. The Company does not enter into derivative instrument
transactions for trading or speculative purposes. The Company does not hedge
foreign currencies in a manner that would entirely eliminate the effects of the
changes in foreign currency rates on the Company's consolidated net income. The
Company does not typically hedge its exposure to the Japanese Yen, which is the
functional currency for the Company's Japanese subsidiary.
Fixed income securities are subject to interest rate risk. The fair value
of the Company's investment portfolio would not be significantly impacted by
either a 100 basis point increase or decrease in interest rates due mainly to
the short-term nature of the major portion of the Company's investment
portfolio. The portfolio is diversified and consists primarily of investment
grade securities to minimize credit risk.
There have been no borrowings under the Company's variable rate credit
facilities. All of the Company's outstanding long-term debt is fixed rate and
not subject to interest rate fluctuation.
NOTE E -- RELATED PARTY TRANSACTIONS
As of December 31, 2000, the Company's principal shareholder and a director
and his family owned an aggregate of approximately 25% of the Company's
outstanding stock.
The following is a summary of transactions and balances with a director and
a foreign-affiliated company controlled by the director. In April 2000, these
foreign affiliates were sold to an unrelated company. Sales transacted
subsequent to the sale of the former affiliates and amounts due are no longer
considered related party transactions:
2000 1999 1998
---- ---- ----
(thousands)
Product sales..................... $ 918 $ 3,319 $ 4,269
Director's fees and expenses...... 55 66 51
Due from affiliates............... -- 1,847 1,896
The amounts due from affiliates were non-interest bearing.
The Company's Japanese subsidiary purchases, for resale, products under a
distribution arrangement from an affiliate controlled by a director. The
following is a summary of transactions and balances with an affiliated company
controlled by a director:
2000 1999 1998
---- ---- ----
(thousands)
Purchases from related party...... $ 1,581 $ 443 $ 189
Due to related party.............. 11 19 81
F-14
NOTE F -- RESTRUCTURING
During the first quarter of 1999, the Company announced its plan to scale
down its Data Network Diagnostics Division and integrate the division into its
Intelligent Network Diagnostics Division. In connection with this restructuring,
the Company recorded a restructuring charge of $1.8 million consisting of cash
severance costs for 27 terminated employees in management, research and
development, support and administrative functions, and non-cash charges
consisting of the write-down of certain assets to their net realizable value.
The costs consisted of the following:
(thousands)
Severance pay........................................ $ 700
Other accrued expenses............................... 300
Inventory............................................ 350
Fixed assets......................................... 200
Other assets......................................... 250
--------
$ 1,800
========
At December 31, 1999, all 27 employees had been terminated, and all
severance costs and other accrued expenses had been paid.
NOTE G -- INCOME TAXES
The provision for income taxes consists of the following:
For the Years Ended December 31,
--------------------------------------
2000 1999 1998
--------- -------- ---------
(thousands)
Currently payable:
Federal........................... $ 22,057 $ 9,991 $ 10,736
State............................. 5,175 2,683 3,500
Foreign........................... 460 454 1,794
Deferred:
Federal........................... (11,152) (2,981) 2,134
State............................. 124 (414) (1,338)
Foreign........................... 62 52 (484)
--------- -------- ---------
$ 16,726 $ 9,785 $ 16,342
========= -======= =========
F-15
The components of temporary differences that gave rise to deferred taxes at
December 31, 2000 and 1999 are as follows:
December 31,
---------------------------
2000 1999
--------- --------
(thousands)
Deferred tax assets:
Allowance for doubtful accounts............ $ 1,646 $ 394
Inventory adjustments...................... 3,181 953
Research and development...................
credit carryforward.................... 3,738 2,596
Accrued liabilities........................ 6,981 5,532
Warranty accrual........................... 1,466 1,041
Other...................................... 381 629
--------- --------
Total deferred tax asset................... 17,393 11,145
Current portion................................. 14,429 8,365
--------- --------
Long-term portion............................... $ 2,964 $ 2,780
========= ========
Deferred tax liability:
Acquisition-related intangible assets...... $ 14,558 $ 19,229
Current portion................................. -- --
--------- --------
Long term portion............................... $ 14,558 $ 19,229
========= ========
The Company has not provided a valuation allowance for its deferred tax
assets, based on management's assessment of the Company's ability to utilize its
deferred tax assets. Realization of the deferred tax assets of $17.4 million is
dependent on the extent of the Company's income in carryback years and on the
Company generating sufficient taxable income in the future. Although realization
is not assured, the Company believes it is more likely than not that the
deferred tax assets will be realized. The amount of the deferred tax assets
considered realizable, however, could be reduced in the future if estimates of
future taxable income are reduced. In connection with the acquisition of IEX in
1999, the Company recorded deferred income tax liabilities of $22.9 million
associated with certain intangible assets. These deferred income tax liabilities
are amortized on a straight-line basis and amounted to $14.6 million at December
31, 2000.
The provision for income taxes differs from the amount obtained by applying
the federal statutory income tax rate to income before provision for income
taxes as follows:
For the Years Ended December 31,
-------------------------------------------
2000 1999 1998
--------- -------- --------
(thousands)
Federal statutory provision............................ $ 10,368 $ 3,580 $ 19,443
State taxes, net of federal benefit.................... 2,922 1,474 1,530
Reduction in valuation allowance....................... -- -- (2,248)
Research and development credits....................... (1,647) (1,531) (2,111)
Nontaxable foreign source income....................... (1,281) (507) (865)
Acquisition-related intangible assets, net of related
deferred income tax liability....................... 6,360 6,204 --
Foreign taxes and other................................ 4 565 593
--------- -------- --------
Actual income tax provision............................ $ 16,726 $ 9,785 $ 16,342
========= ======== ========
Effective tax rate..................................... 56.5% 95.7% 29.4%
F-16
At December 31, 2000, the Company had available federal research and
development credit carryforwards of $2.5 million, which will begin to expire, if
unused, in the year 2013 and $1.2 million of state research and development
credit carryforwards which will begin to expire, if unused, in the year 2003.
The Company has not provided for federal income taxes on $13.8 million of
undistributed earnings of its foreign subsidiaries that have been reinvested in
their operations.
NOTE H -- INVENTORIES
The components of inventories are:
December 31,
--------------------------
2000 1999
-------- --------
(thousands)
Raw materials................................. $ 10,701 $ 7,490
Work in process............................... 2,497 2,366
Finished goods................................ 12,670 14,454
-------- --------
$ 25,868 $ 24,310
======== ========
In 2000, the Company wrote-down $2.9 million of potentially obsolete
inventory related to its IEX network switch product line.
NOTE I -- PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
December 31,
-----------------------
2000 1999
--------- ---------
(thousands)
Manufacturing and development equipment.............. $ 43,507 $ 31,124
Furniture and office equipment....................... 21,084 16,007
Demonstration equipment.............................. 3,213 3,207
Leasehold improvements............................... 7,026 4,105
--------- ---------
74,830 54,443
Less, accumulated depreciation and amortization.... (43,130) (32,776)
--------- ---------
$ 31,700 $ 21,667
========= =========
NOTE J -- INTANGIBLE ASSETS
Intangible assets consist of the following:
December 31,
-----------------------
2000 1999
--------- ---------
(thousands)
Goodwill............................................. $ 95,274 $ 95,274
Purchased technology................................. 50,285 49,712
Other................................................ 13,000 13,000
--------- ---------
158,559 157,986
Less, accumulated amortization..................... (54,336) (22,280)
--------- ---------
Intangible assets, net $ 104,223 $ 135,706
========= =========
F-17
NOTE K -- LINES OF CREDIT AND BORROWINGS
The Company had a $15.0 million line of credit that expired on June 30,
2000 and was replaced by a $20.0 million line of credit on July 31, 2000 on
substantially the same terms and conditions as the expired line of credit.
The Company's $20.0 million credit facility is collateralized by
substantially all of the Company's assets, bears interest at or, in some cases,
below the lender's prime rate (9.5% at December 31, 2000), and expires on July
31, 2001, if not renewed. Under the terms of this facility, the Company is
required to maintain certain financial ratios and meet certain net worth and
indebtedness tests. The Company believes it is in compliance with these
requirements. There have been no borrowings under this credit facility.
The Company's Japanese subsidiary has collateralized yen-denominated lines
of credit with Japan-based banks, primarily available for use in Japan,
amounting to the equivalent of $2.6 million with interest at the Japanese prime
rate (1.5% at December 31, 2000) plus 0.125% per annum which expire between
August 2001 and November 2001, if not renewed. There have been no borrowings
under these lines of credit.
NOTE L -- CONVERTIBLE DEBT
On November 2, 1999 the Company completed a private placement of $135.0
million aggregate principal amount at maturity of 3.25% convertible subordinated
discount notes due 2004. The notes were issued at 85.35% of their face amount
(equivalent to gross proceeds at issuance of approximately $115.2 million before
discounts and expenses). The gross proceeds at issuance before discounts and
expenses included approximately $15.2 million from the sale of notes issued upon
the initial purchasers' exercise in full of their over-allotment option.
The notes are convertible at any time after January 31, 2000 into Tekelec
Common Stock, unless the notes have been previously redeemed or otherwise
purchased, at a conversion rate of 56.3393 shares per $1,000 principal amount at
maturity (approximately 7.6 million shares in total) which represents a
redemption price of $15.15 per share of Common Stock. The notes can be redeemed
by the Company at any time after November 2, 2002 at the redemption price
together with accrued but unpaid interest.
The notes were issued with a 14.65% discount and carry a cash interest
(coupon) rate of 3.25%, payable on May 2 and November 2 of each year, commencing
on May 2, 2000. The payment of the principal amount of the notes at maturity
together with cash interest paid over the term of the notes represents a yield
to maturity of 6.75% per year, computed on a semi-annual bond equivalent basis.
Interest expense is computed based on the accretion of the discount, the accrual
of the cash interest payment and the amortization of expenses related to the
offering of these notes on a straight-line basis, and amounted to $8.7 million
for 2000 and approximately $1.4 million for the period of November 2, 1999
through December 31, 1999.
F-18
NOTE M -- COMMITMENTS AND CONTINGENCIES
The Company leases its office and manufacturing facilities together with
certain office equipment under operating lease agreements. Lease terms generally
range from one to ten years; certain building leases contain options for renewal
for additional periods and are subject to increases up to 10% every 24 months.
Total rent expense was $5.7 million, $4.0 million and $2.5 million for
2000, 1999 and 1998, respectively.
Minimum annual noncancelable lease commitments at December 31, 2000 are:
For the Years Ending December 31,
(thousands)
2001.............................................. $ 5,845
2002.............................................. 6,294
2003.............................................. 5,800
2004.............................................. 5,180
2005.............................................. 4,433
Thereafter........................................ 22,651
---------
$ 50,203
=========
NOTE N -- STOCK OPTIONS AND EMPLOYEE BENEFIT PLANS
The Company has various stock option plans with maximum terms of ten years
under which 36.9 million shares of the Company's Common Stock have been
authorized and reserved for issuance. The terms of options granted under these
option plans are determined at the time of grant, generally vest ratably over a
one- to five-year period, and in any case the option price may not be less than
the fair market value per share on the date of grant. Both incentive stock
options and nonstatutory stock options can be issued under the option plans.
The Company also has an Employee Stock Purchase Plan (ESPP), with a maximum
term of ten years, the latest of which expires in the year 2006, and under which
800,000 shares of the Company's Common Stock have been authorized and reserved
for issuance. Eligible employees may authorize payroll deductions of up to 10%
of their compensation to purchase shares of Common Stock at 85% of the lower of
the market price per share at the beginning or end of each six-month offering
period.
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" (SFAS 123), encourages but does not require companies
to record compensation cost for stock-based employee compensation plans at fair
value for awards granted subsequent to December 31, 1995. The Company has chosen
to continue to account for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," and related interpretations. Accordingly, no
compensation expense has been recognized for the Company's stock option and
purchase plans. Had compensation costs under these plans been determined based
upon the methodology prescribed under SFAS 123, the Company's net income (loss)
and diluted earnings (loss) per share would approximate the following proforma
amounts (in thousands, except per-share data):
F-19
As Reported Proforma
----------- ----------
Year Ended December 31, 2000:
Net income (loss)...................... $ 12,896 $ (7,737)
Earnings (Loss) per share (diluted).... 0.24 (0.13)
Year Ended December 31, 1999:
Net income (loss) ..................... $ 444 $ (11,864)
Earnings (Loss) per share (diluted).... 0.01 (0.22)
Year Ended December 31, 1998:
Net income............................. $ 39,209 $ 32,836
Earnings per share (diluted)........... 0.67 0.56
The effects of applying SFAS 123 in this proforma disclosure are not
indicative of future amounts, and additional awards in future years are
anticipated.
A summary of the status of the Company's stock options, as of December 31,
2000, 1999 and 1998, and the changes during the year ended on those dates are
presented below (shares in thousands):
2000 1999 1998
----------------------------------------------------------------------
Wgtd. Avg. Wgtd. Avg. Wgtd. Avg.
Shares Exer. Price Shares Exer. Price Shares Exer. Price
------ ----------- ------ ----------- ------ -----------
Outstanding at beginning of year.................. 10,949 $ 10.79 8,438 $ 8.90 8,298 $ 4.50
Granted - price equals fair value................. 4,769 30.70 4,932 12.07 1,959 20.25
Granted - price greater than fair value........... -- -- 123 16.44 340 17.71
Exercised......................................... 2,950 8.00 1,187 3.72 1,838 2.88
Cancelled......................................... 1,168 18.81 1,357 10.39 321 8.15
------ ------ -----
Outstanding at year-end........................... 11,600 18.88 10,949 10.79 8,438 8.90
====== ====== =====
Options exercisable at year-end................... 3,813 4,063 2,550
Options available for future grant................ 4,022 4,823 3,528
Weighted average fair value of options granted
during the year:
Exercise price equals fair value at grant date $ 21.42 $ 8.40 $ 13.92
Exercise price greater than fair value at
grant date................................... -- 10.88 11.85
The following table summarizes information about stock options outstanding at
December 31, 2000 (shares in thousands):
Options Outstanding Options Exercisable
------------------------------------- --------------------------
Wgtd. Avg.
Number Remaining Wgtd.Avg. Number Wgtd. Avg.
Outstanding Contractual Exercise Outstanding Exercise
Range of Exercise Price at 12/31/00 Life Price at 12/31/00 Price
- ------------------------ ----------- ----------- ---------- ----------- ---------
$ 0.75 to $ 3.07 340 4.07 $ 1.84 290 $ 1.67
3.13 to 4.66 1,477 5.42 4.02 1,075 3.96
4.69 to 10.88 2,105 7.96 9.56 786 8.83
11.25 to 19.59 2,081 8.05 15.19 689 15.40
20.22 to 30.81 3,735 8.46 23.33 793 22.59
31.31 to 45.75 1,520 9.55 37.20 132 38.51
48.00 to 52.19 342 9.38 49.66 48 50.25
------- ------
0.75 to 52.19 11,600 7.95 18.88 3,813 12.50
======= ======
F-20
The fair value of options granted during 2000, 1999 and 1998 is estimated
as $66.8 million, $24.7 million and $15.7 million, respectively, on the dates of
grant using the Black-Scholes option-pricing model with the following
assumptions: (i) dividend yield of 0%, (ii) expected volatility of 89%, 79% and
81%, respectively, for 2000, 1999 and 1998, (iii) weighted average risk-free
interest rates of 6.5%, 5.3% and 5.3% for 2000, 1999 and 1998, respectively,
(iv) weighted average expected option lives of 4.4, 5.1 and 5.1 years for 2000,
1999 and 1998, respectively, and (v) assumed forfeiture rate of 35%, 42% and 50%
for 2000, 1999 and 1998, respectively.
During 2000, 1999 and 1998, approximately 110,000, 198,000 and 103,000
shares, respectively, were purchased under the Company's ESPP at weighted
average exercise prices of $23.30, $10.27 and $13.94, respectively. At December
31, 2000, 1999 and 1998, there were approximately 119,000, 229,000 and 427,000
shares, respectively, available for future grants. The weighted average fair
values of ESPP shares granted in 2000, 1999 and 1998 were $14.27, $5.15 and
$7.37 per share, respectively.
The Company has a 401(k) tax-deferred savings plan under which eligible
employees may authorize from 2% to 12% of their compensation to be invested in
employee-elected investment funds managed by an independent trustee and under
which the Company may contribute matching funds of up to 50% of the employees'
payroll deductions. During 2000, 1999 and 1998, the Company's contributions
amounted to $2.4 million, $1.8 million and $654,000, respectively.
NOTE O -- EARNINGS PER SHARE
The following table provides a reconciliation of the numerators and
denominators of the basic and diluted per-share computations for the years ended
December 31, 2000, 1999 and 1998:
Net Income Shares Per-Share
(Numerator) (Denominator) Amount
-----------------------------------------------
For the Year Ended December 31, 2000: (thousands except per-share amounts)
Basic EPS........................................ $ 12,896 57,823 $ 0.22
Effect of Dilutive Securities - Stock
Options and Warrants........................ -- 6,300
-------- ------
Diluted EPS...................................... $ 12,896 64,123 $ 0.20
======== ====== ======
For the Year Ended December 31, 1999:
Basic EPS........................................ $ 444 54,931 $ 0.01
Effect of Dilutive Securities - Stock
Options and Warrants........................ -- 3,759
-------- ------
Diluted EPS...................................... $ 444 58,690 $ 0.01
======== ====== ======
For the Year Ended December 31, 1998:
Basic EPS........................................ $ 39,209 53,518 $ 0.73
Effect of Dilutive Securities - Stock
Options and Warrants........................ -- 5,190
-------- ------
Diluted EPS...................................... $ 39,209 58,708 $ 0.67
======== ====== =======
F-21
The computation of diluted number of shares excludes unexercised stock
options and warrants and potential shares issuable upon conversion of the
Company's convertible subordinated discount notes that are anti-dilutive. The
numbers of such shares excluded were 8.2 million, 11.5 million and 1.3 million
for the years ended December 31, 2000, 1999 and 1998, respectively.
There were no transactions subsequent to December 31, 2000, which, had they
occurred prior to January 1, 2001, would have changed materially the number of
shares in the basic or diluted earnings per share computations.
NOTE P -- Operating Segment Information
The Network Systems operating segment develops, markets and sells the
Company's Eagle STP products based on the Company's high capacity packet
switching platform; the IP7 Secure Gateway, an SS7/IP gateway for signaling in
converged networks, and other IP7 convergence products; and network systems
products resulting from the Company's acquisition of IEX, including ASi 4000
Service Control Point, an advanced database server used for the provisioning of
telephony applications, and VXi Media Gateway Controller, a controller for
converged networks. During 2000, the Company's business segments were
reorganized to include the Sentinel network surveillance system in the Network
Systems product segment. Prior periods have been restated to reflect this
reorganization.
The Network Diagnostics operating segment develops, markets and sells
diagnostic products, including MGTS, a diagnostic tool used primarily by
equipment suppliers for research and development, and i3000, a diagnostic tool
for converged and third generation wireless networks. The Japan Diagnostics
operating segment sells the Company's and third parties' diagnostic products to
customers in Japan.
At the end of 2000, the IEX Call Center business was renamed Contact Center
in order to reflect the products' evolution to support multimedia contact
centers. The Contact Center operating segment develops, markets and sells
software-based solutions for call centers, including TotalView Workforce
Management and TotalNet Call Routing.
Transfers between operating segments are made at prices reflecting market
conditions. The allocation of revenues from external customers by geographical
area is determined by the destination of the sale.
F-22
The Company's operating segments and geographical information are as follows (in
thousands):
Operating Segments
Net Sales
----------------------------------------------
2000 1999 1998
------------ ----------- -----------
Network Systems............................ $ 219,892 $ 148,814 $ 121,897
Network Diagnostics........................ 44,847 36,177 35,578
Contact Center............................. 32,344 21,128 --
Japan Diagnostics.......................... 26,513 21,890 21,981
Intercompany Eliminations.................. (9,262) (1,941) (2,787)
------------ ----------- -----------
Total net sales.......................... $ 314,334 $ 226,068 $ 176,669
============ =========== ===========
Operating Income
----------------------------------------------
2000 1999 1998
------------ ----------- -----------
Network Systems(1)......................... $ 64,364 $ 38,552 $ 49,256
Network Diagnostics(2)..................... 9,112 4,921 6,008
Contact Center............................. 12,088 9,068 --
Japan Diagnostics.......................... 2,515 2,352 4,342
Intercompany Eliminations.................. (2,424) 114 283
General Corporate(3)....................... (54,886) (43,801) (8,951)
------------ ----------- ----------
Total operating income................... $ 30,769 $ 11,206 $ 50,938
============ =========== ==========
- -------------
1 Network Systems operating segment includes charges in 2000 of $2,880 for the
write-down of inventory related to the IEX network switch product line (See
Note H), and $2,332 to record an allowance for doubtful accounts related to a
bankruptcy filing by a certain customer (See Note D).
2 Network Diagnostics operating segment reflects the $1,800 restructuring
charge recorded in 1999 (See Note F).
3 General Corporate includes a non-recurring charge of $750 in connection with
the settlement of a legal dispute in 2000, acquisition-related charges and
amortization of $31,520 and $28,970 for 2000 and 1999 respectively, and a
benefit of $1,663 for the settlement of an insurance claim for 1998.
Enterprise Wide Disclosures
The following table sets forth, for the periods indicated, revenues from
external customers by principal product line (in thousands):
2000 1999 1998
------------ ----------- ----------
Network Systems............................ $ 219,554 $ 148,745 $ 121,897
Network Diagnostics........................ 62,436 56,195 54,772
Contact Center............................. 32,344 21,128 --
------------ ----------- ----------
Total revenues from external customers... $ 314,334 $ 226,068 $ 176,669
============ =========== ==========
The following table sets forth, for the periods indicated, revenues from
external customers by geographic territory (in thousands):
2000 1999 1998
------------ ----------- ----------
North America.............................. $ 233,694 $ 173,590 $ 121,288
Japan...................................... 25,663 22,034 21,981
Europe..................................... 33,509 9,717 7,738
Rest of World.............................. 31,468 20,727 25,662
------------ ----------- ----------
Total revenues from external customers... $ 314,334 $ 226,068 $ 176,669
============ =========== ==========
F-23
The following table sets forth, for the periods indicated, long-lived
assets by geographic area in which the Company holds assets (in thousands):
2000 1999 1998
------------ ----------- ----------
United States.............................. $ 138,393 $ 160,109 $ 12,348
Japan...................................... 1,024 1,175 1,216
Other...................................... 331 385 51
------------ ----------- ----------
Total Assets............................. $ 139,748 $ 161,669 $ 13,615
============ =========== ==========
There were no customers accounting for 10% or more of revenues in 2000, 1999 and
1998.
NOTE Q -- COMMON STOCK
Warrants: At December 31, 2000 and 1999, the Company had warrants
outstanding to purchase an aggregate of 195,000 and 319,000 shares respectively,
of its Common Stock, as more fully discussed below.
In July 1997, the Company issued warrants to purchase a total of 360,000
shares of its Common Stock to five directors and one corporate officer at $14.08
per share. These warrants vest and become exercisable in 12 equal quarterly
installments beginning on September 30, 1997. During 2000, warrants to purchase
124,000 shares were exercised, and warrants to purchase 195,000 shares were
outstanding at December 31, 2000. During 1999, none of these warrants were
exercised and warrants to purchase 319,000 were outstanding at December 31,
1999.
Restricted Stock: In February 1998, the Company granted a restricted stock
award of 30,000 shares of its Common Stock to a director and corporate officer
in connection with the commencement of his employment. The restricted shares
vest in five equal annual installments beginning in February 1999. This award
was valued at $607,000, which is being recognized as stock-based compensation
expense over the term of the award.
F-24
NOTE R -- Quarterly Financial Summary (Unaudited)
Quarters
For the Years Ended December 31, First Second Third Fourth
---------------------------------------------------------------
(thousands, except per-share data)
2000
Revenues ............................................. $ 60,062 $ 74,148 $83,755 $96,369
Gross profit ......................................... 37,769 46,594 53,912 57,923
Income (Loss) before provision for income
taxes ................................................ (213) 5,790 12,230 11,815
Net income (loss) .................................... (1,802) 2,036 6,158 6,504
Earnings (Loss) per share:
Basic ........................................... $ (0.03) $ 0.04 $ 0.11 $ 0.11
Diluted ......................................... (0.03) 0.03 0.10 0.10
1999
Revenues ............................................. $ 32,685 $ 51,728 $64,743 $76,912
Gross profit ......................................... 21,336 32,256 39,301 49,389
Income (Loss) before provision for income
taxes ................................................ 768 (4,624) 4,030 10,055
Net income (loss) .................................... 492 (6,136) 920 5,168
Earnings (Loss) per share:
Basic ........................................... $ 0.01 $ (0.11) $ 0.02 $ 0.09
Diluted ......................................... 0.01 (0.11) 0.02 0.09
Tekelec typically operates with a limited backlog, and most of its revenues
in each quarter result from orders received in that quarter. Further, Tekelec
typically generates a significant portion of its revenues for each quarter in
the last month of the quarter. Tekelec establishes its expenditure levels based
on its expectations as to future revenues, and if revenue levels were to fall
below expectations this would cause expenses to be disproportionately high.
Therefore, a drop in near-term demand would significantly affect revenues,
causing a disproportionate reduction in profits or even losses in a quarter.
Tekelec's quarterly operating results may fluctuate as a result of a number of
factors, including general economic and political conditions (such as recessions
in the U.S., Japan and Europe), capital spending patterns of Tekelec's
customers, increased competition, variations in the mix of sales, fluctuation in
proportion of foreign sales, and announcements of new products by Tekelec or its
competitors.
F-25
REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE
TO THE SHAREHOLDERS AND BOARD OF DIRECTORS OF TEKELEC
Our audits of the consolidated financial statements referred to in our
report dated March 28, 2001 appearing in the Annual Report to Shareholders of
Tekelec, Inc. (which report and consolidated financial statements are included
in this Annual Report on Form 10-K) also included an audit of the financial
statement schedule appearing on page S-2 of this Form 10-K. In our opinion, this
financial statement schedule presents fairly, in all material respects, the
information set forth therein when read in conjunction with the related
consolidated financial statements.
/s/ PricewaterhouseCoopers LLP
Woodland Hills, California
March 28, 2001
S-1
TEKELEC
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
Column A Column B Column C Column D Column E
- -----------------------------------------------------------------------------------------------------------------
Additions
Balance at Charged to Charged to Deductions Balance at
Beginning Costs and Other and other End of
Description of Period Expenses Accounts Adjustments Period
- -----------------------------------------------------------------------------------------------------------------
(thousands)
Year ended December 31, 1998:
- -----------------------------
Allowance for doubtful accounts $ 469 $ 475 $ -- $ 181 $ 763
Product warranty ............... 1,220 2,388 -- 1,261 2,347
Inventory provision ............ 1,340 1,021 -- 621 1,740
Deferred tax valuation allowance 2,248 -- -- 2,248 --
Year ended December 31, 1999:
- -----------------------------
Allowance for doubtful accounts $ 763 $ 265 $495 $ 45 $1,478
Product warranty ............... 2,343 1,395 -- 985 2,753
Inventory provision ............ 1,740 760 -- 328 2,172
Year ended December 31, 2000:
- -----------------------------
Allowance for doubtful accounts $1,478 $2,968 $ -- $ 159 $4,287
Product warranty ............... 2,753 1,986 -- 1,305 3,434
Inventory provision ............ 2,172 4,393 -- 3,590 2,975
S-2
EXHIBIT INDEX
Sequentially
Exhibit Numbered
Number Description Page
- ------ ----------- ------------
10.10 First Amendment dated May 27, 1999, Second
Amendment dated October 1, 1999, Third Amendment
dated November 30, 1999, and Fourth Amendment dated
July 19, 2000 to Lease Agreement dated as of
November 6, 1998 between the Registrant and Weeks
Realty, L.P. .......................................
10.12 Lease Agreement as of July 19, 2000 between the
Registrant and Duke Construction Limited
Partnership ........................................
21.1 Subsidiaries of the Registrant......................
23.1 Consent of PricewaterhouseCoopers LLP...............