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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JUNE 27, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 0-28562
VERILINK CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 94-2857548
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
145 BAYTECH DRIVE, SAN JOSE, CALIFORNIA
SAN JOSE, CALIFORNIA 95134
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(408) 945-1199
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $.01 PER SHARE
(TITLE OF CLASS)
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 the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendments to this Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates of
the Registrant, based on the closing sale price of the Common Stock on September
15, 1999, as reported by the Nasdaq National Market was $16,225,414. Shares of
Common Stock held by each officer and director and by each person who owns 5% or
more of the outstanding Common Stock have been excluded from this computation in
that such persons may be deemed to be affiliates. This determination of
affiliate status is not a conclusive determination for other purposes.
As of September 15, 1999, the registrant had outstanding 13,998,031 shares
of Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Parts of the following document are incorporated by reference in this
Annual Report on Form 10-K: the Proxy Statement for the Registrant's Annual
Meeting of Stockholders to be held November 16, 1999 (the "Proxy Statement"),
(Part III).
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PART I
ITEM 1. BUSINESS
OVERVIEW
Verilink Corporation (the "Company") develops, manufactures and markets
integrated access products and customer premise equipment products (CPE) for use
by telecommunications network service providers ("NSPs") and corporate end users
on wide area networks. Wide area networks ("WANs") are comprised of information
switching systems interconnected by long-distance digital transmission links,
which enable individuals, groups and businesses to exchange information
electronically. Verilink products provide seamless connectivity and interconnect
for multiple traffic types and implement efficient transmission links between
various network elements such as routers, and frame relay, ATM, and voice
switches. Verilink access systems bring value to digital transmission links by
providing efficient use of bandwidth, support for diverse applications, and
management of networks in a space saving, high-density platform. Corporations,
NSPs such as interexchange and local exchange carriers, internet service
providers ("ISPs"), and personal communications and cellular service providers
use Verilink integrated access products and customer premise equipment products
to serve their networking requirements. The CPE product line was significantly
expanded as a result of the TxPort, Inc. acquisition in November 1998.
CONSOLIDATION PLANS
On July 21, 1999 the Company announced its plans to substantially
consolidate its operations into its existing operations located in Huntsville,
Alabama. The goal of this plan is to reduce expenses and enable the Company to
achieve profitability at lower revenue levels. In connection with those plans
since the year end, the Company has entered into an agreement to outsource its
San Jose based manufacturing operations to a third party subcontract
manufacturer.
INDUSTRY BACKGROUND
Three fundamental forces are driving growth in the market for
telecommunications equipment. First, corporate and end-user demand for data,
voice, and video communication services continues to grow rapidly worldwide.
Second, the opening of overseas telecommunications markets due to deregulation
and the privatization of government-owned monopoly carriers, is permitting the
emergence of new carriers and is creating new market opportunities. Lastly, the
commercialization of new telecommunication technologies such as frame relay,
ATM, IP, xDSL, and various digital mobile communication technologies is enabling
the introduction of new kinds of telecommunication services at lower costs.
These three forces have contributed to the growing popularity of the Internet,
the need for higher bandwidth, and the widespread adoption of wireless
communication services.
The Internet
The Internet was originally conceived by academic and governmental
organizations for use in such applications as E-mail and file transfer. With the
invention of the easy to use web browser and the availability of low cost web
servers the Internet has become a global and commercial phenomenon. Today the
Internet is the universal public data network -- it does for data communication
what the public telephone network does for voice communication. Corporations use
the Internet to provide access to information resources and to connect on-line
with prospects, customers, business partners, and traveling employees. Consumers
increasingly are using the Internet to access information, perform routine
banking and brokerage transactions, and to purchase goods and services. As the
application for the Internet expands to mainstream business and consumer uses,
the need for Quality-of-Service (QOS) controls, security mechanisms, and other
virtual private networking capabilities will become critical.
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Higher bandwidth
Bandwidth refers to the information carrying capacity of a channel, and is
a key factor for determining the amount, quality, and speed of a particular
service available to a user. As the number of users that make use of corporate
and public networks continues to increase, the requirement for additional
bandwidth will grow. In addition, as the use of more data intensive applications
such as multimedia and video conferencing gains popularity, the total bandwidth
requirements of networks will grow at a faster rate. In order to keep pace with
this rapid rate of expansion in the carrying capacity of the WAN, NSPs and
corporate enterprises are employing new telecommunications access equipment,
technology and transmission facilities. With ever-increasing demands for
bandwidth, both service providers and corporate end users need to manage their
communication services and budgets more efficiently and cost effectively.
Equipment vendors who differentiate themselves by providing the ability to
manage networks more efficiently and cost effectively will be beneficiaries of
this trend toward higher bandwidth.
Wireless communication
Demand by mobile workers and consumers for wireless communication services
has experienced significant growth over the past several years. This growth has
been enabled by the availability of new low cost digital services and fueled by
intense competition among service providers. In addition, service providers who
must deliver new communication services to developing nations are increasingly
looking to wireless technology as the most cost-effective solution. These two
growth drivers have given rise to a multi-billion dollar wireless communications
industry. The Company expects that future growth in this market will come from a
further increase in the number of subscribers, an increase in the total minutes
of use, the increased implementation of wireless local loop systems in
developing nations, and the emergence of broadband access in developed nations.
Wireless communication services provide un-tethered access between the user and
the service provider's Point-of-Presence (POP). From the POP voice and data
traffic is then routed over specialized wireline transmission networks. In order
to provide the necessary capacity and geographic coverage to support
uninterrupted wireless access, multiple POP locations must be deployed and
interconnected. Telecom equipment specifically tailored to the rigorous demands
for reliability, scalability and network management will become critical to the
success of these large-scale deployments.
PRODUCTS
Access System 2000
Verilink's Access System 2000 ("AS2000") is a flexible network access and
management solution that provides cost-effective integrated access to a broad
range of network services. Access System 2000 products are installed at the
origination and termination points at which NSPs provide communications services
to their corporate customers. AS2000 systems provide transmission link
management, multiplexing, and inverse multiplexing functions for T1 (1.5 Mbps),
E1, multi-T1, multi-E1, and T3 (45 Mbps) access links. A key feature of the
Access System 2000 is its flexibility and adaptability made possible by a
modular architecture which allows customers to access new services or expanded
network capacity simply by configuring or changing out circuit cards. In a
single platform, the AS2000 combines the functions of a T1 CSU/DSU, E1 NTU,
inverse multiplexer, cross-connect, T3 DSU, TDM, automatic protection switch,
and a Simple Network Management Protocol (SNMP) management agent.
Access System 3000
The AS3000 system, first introduced in fiscal 1999, is designed to build on
the architecture of the successful AS2000 platform. System enhancements to the
AS2000 include a four-fold increase in switching capacity, support for voice
signals, and broadband multiplexing up to T3 rates. The AS3000 is targeted
toward Competitive Local Exchange Carriers (CLECs) who wish to offer customers
integrated access to voice and high-speed data network services.
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Access System 4000
The AS4000 is an integrated access cross-connect system that provides full
non-blocking DACS capability, channel bank functionality, and standard
interfaces including T1, SDSL, HDSL, analog voice and T3. The AS4000 is targeted
at carriers and enterprise networks that have access requirements for voice and
data applications over a wide array of WAN circuit types.
PRISM 3030/3060 Integrated Access Multiplexer
The PRISM 3030/3060 family of intelligent channel banks enables customers
to combine voice and data requirements into a single, multi-functional access
device. This allows them to decrease initial equipment deployment and ongoing
operational costs, while optimizing network and bandwidth efficiency, and
increase equipment density to save space in network closets. The PRISM 3030 and
3060 products are modular voice and data multiplexers, which allow voice and
data to be combined over a single T1 facility. The 3030/3060 products are
deployed as managed voice channel banks, and support FXS, FXO, and E&M
functionality with advanced signaling feature support and integral diagnostic
capabilities.
WANscope Frame Relay Performance Monitoring Probes
The WANscope family of access products is designed for use in Customer
Premise Equipment (CPE) or Customer Located Equipment (CLE) applications.
WANscope products feature the capability for NSPs or corporate enterprises to
constantly monitor and measure network performance for frame relay service,
today's predominant technology for enterprise WAN backbones. Constant vigilance
over network performance parameters such as loss, delay, and throughput enables
service providers and service users to enforce Service Level Agreements (SLAs),
and to proactively manage network capacity and congestion to avoid downtime and
eliminate waste.
CSU/DSU Circuit Management Products
Physical layer transmission standards form the foundation upon which all
advanced data services are based, including the Internet, frame relay service,
cell relay service, leased lines, and Integrated Services Digital Networks
(ISDN). Verilink's physical layer transmission devices convert standard data
interchange signals into formats appropriate for sending over carrier
facilities. Additionally, these devices provide physical layer performance
monitoring and diagnostic functions. Verilink transmission systems are produced
to carrier-grade standards of quality and are typically found deployed in
mission-critical applications used at bank, and other corporate enterprises.
Verilink offers a broad portfolio of products appropriate for a wide range
of applications in either modular systems, such as the 1051 and 1024
chassis-based products, or as stand-alone devices. Stand-alone devices include
the compact Lite family of products, and the PRISM 2000, 3000, and 4000 families
of data service/channel service unit (CSU/DSU) devices. Introduced in fiscal
1999, the FrameStart family of products enables network administrators to
rapidly deploy and test frame relay LAN-to-LAN or wide area networks at a
fraction of the cost of using full network probes.
SALES, MARKETING, AND CUSTOMER SUPPORT
Sales and Marketing
The Company sells its products and services to network service providers
and wireless equipment manufacturers primarily through a direct sales force
located in major U.S. metropolitan areas. A direct sales effort, supported by
sales engineers who provide customers with pre- and post-sale technical
assistance, allows the Company to gain a more in-depth knowledge of customers'
network access requirements. The Company believes this knowledge helps it to
build long-term relationships and alliances with key customers.
The Company sells its products and services to North American enterprises
primarily through indirect channels, which include distributors, systems
integrators (SIs), and value-added resellers (VARs). These include Alltel
Supply, Inc., Anixter Bro's, Inc., Graybar Electronic Co. Inc., ICOM Inc.,
Inter-Tel, Kent
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Datacomm, RE/COM Group Inc., and Sprint North Supply. With the addition of the
CPE product line acquired from TxPort, Inc. in November 1998, the Company
believes that sales through indirect channels will become increasingly more
important.
The Company believes that entry into international markets for advanced
digital network products will be enabled through strategic relationships and
in-country distribution channels that reach both enterprise and NSP customers.
To date, the Company has had minimal direct sales to international customers. In
addition to the specific sales efforts directed at network service providers,
the Company's marketing activities include participating in industry trade shows
and conferences, distribution of sales and product literature, media relations,
advertising in trade journals, direct mail and ongoing communications with
customers and industry analysts.
Customer Service and Support
The Company maintains 24-hour, 7-day a week telephone support for all of
its customers. The Company provides for a fee direct installation and service of
its products utilizing its own resources or resources available under a
Worldwide Equipment Support agreement with Vital Network Services Inc. The
Company provides training to its customers dealing with the installation,
operation and maintenance of the Company's products.
The Company also offers various levels of maintenance agreements to its
customers for a fee, which provide for on-site service in response to customer
reported difficulties.
RESEARCH AND DEVELOPMENT
The Company's research and development efforts are focused on developing
new products, core technologies and enhancements to existing products. During
the past year, product development activities have emphasized expansion of
features for the Access System 2000 product family, and on the introduction of
the Access System 3000 platform. Other developments included feature
enhancements to the PRISM family of intelligent channel banks, enhancements to
existing DSU/CSUs, and the introduction of new, lower-cost and feature rich
FrameStart and Lite families of DSU/CSUs. The Company's product development
strategy has focused on the development of modular software and hardware
products that can be integrated and adapted to the changing standards and
requirements of the communications and internetworking industries and on the
development of low-cost CPE devices that leverage advancements in hardware and
software technology.
During fiscal 1999, 1998 and 1997, total research and development
expenditures were $13.4 million, $12.5 million, and $9.4 million, respectively.
All research and development expenses are charged to expense as incurred.
The Company expects that it will continue to expend significant resources
for product development of specific applications such as voice, IP, network
management, xDSL and other performance monitoring services as well as to respond
to market demand and new service offerings from network service providers. See
"Factors Affecting Future Results -- Dependence on Recently Introduced Products
and Products Under Development".
MANUFACTURING AND QUALITY
The Company entered into arrangements in September 1999 with a contract
manufacturer to outsource substantially all of its San Jose-based procurement,
assembly, and system integration operations. This transition is expected to be
completed by the end of calendar year 1999. Under the terms of the agreement the
Company will maintain a bonded warehouse on the contractors premises from which
it will ship product directly to its customers.
The Company's manufacturing operations based in Huntsville, Alabama
primarily support the manufacturing of the former TxPort, Inc. product line and
consist primarily of material requirements planning, materials procurement and
final assembly, test and quality control of subassemblies and systems. The
Company performs virtually all aspects of its manufacturing process for the
former TxPort, Inc. products at its
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Huntsville facility, with the exception of surface mounted printed circuit board
assembly. The Company's current San Jose operations have been ISO 9001 certified
since 1993, while the Huntsville facilities completed their certification in
March 1999. ISO 9000 is an international quality certification process,
developed in the European Common Market and adopted by the United States as the
method by which companies can demonstrate the functionality of their quality
system. The Company obtained such certification through an independent third
party, with ongoing audits on a semi-annual basis.
COMPETITION
The market for telecommunications network access equipment is highly
competitive, and the Company expects competition to increase in the future. This
market is subject to rapid technological change, regulatory developments, and
new entrants. The market for integrated access devices such as the Access System
product line and for enterprise devices such as the PRISM, FrameStart, and Lite
product lines is subject to rapid change. The Company believes that the primary
competitive factors in this market are the development and rapid introduction of
new product features, price and performance, support for multiple types of
communications services, network management, reliability, and quality of
customer support. There can be no assurance that the Company's current products
and future products under development will be able to compete successfully with
respect to these or other factors. The Company's principal competition to date
for its current Access System 2000 and 3000 products has been from Digital Link
Corporation, Kentrox, a division of ADC Telecommunications and Larscom, Inc., a
subsidiary of Axel Johnson. In addition, the Company experiences substantial
competition with its enterprise access and network termination products from
companies in the computer networking market and other related markets. These
competitors include Premisys Communications, Inc., Newbridge Networks
Corporation, Telco Systems, Inc., a subsidiary of World Access Inc., Visual
Networks, Adtran, Inc., and Paradyne Inc. To the extent that current or
potential competitors can expand their current offerings to include products
that have functionality similar to the Company's products and planned products,
the Company's business, financial condition and results of operations could be
materially adversely affected.
The Company believes that the market for basic network termination products
is mature, but that the market for feature-enhanced network termination and
network access products continues to grow and expand, as more "capability" and
"intelligence" moves outward from the central office to the enterprise. The
Company believes that the principal competitive factors in this market are
price, feature sets, installed base and quality of customer support. In this
market, the Company primarily competes with Adtran, Digital Link, Kentrox,
Paradyne, Visual Networks and Larscom. There can be no assurance that such
companies or other competitors will not introduce new products that provide
greater functionality and/or at a lower price than the Company's like products.
In addition, advanced termination products are emerging which represent both new
market opportunities as well as a threat to the Company's current products.
Furthermore, basic line termination functions are increasingly being integrated
by competitors, such as Cisco and Nortel Networks, into other equipment such as
routers and switches. These include direct WAN interfaces in certain products,
which may erode the addressable market for separate network termination
products.
Many of the Company's current and potential competitors have substantially
greater technical, financial, manufacturing and marketing resources than the
Company. In addition, many of the Company's competitors have long-established
relationships with network service providers. There can be no assurance that the
Company will have the financial resources, technical expertise, manufacturing,
marketing, distribution and support capabilities to compete successfully in the
future. See "Factors Affecting Future Results -- Competition".
INTELLECTUAL PROPERTY AND OTHER PROPRIETARY RIGHTS
The Company relies upon a combination of patent, trade secret, copyright
and trademark laws and contractual restrictions to establish and protect
proprietary rights in its products and technologies. The Company has been issued
certain U.S. and Canadian patents with respect to limited aspects of its single
purpose network access technology. The Company has not obtained significant
patent protection for its Access System technology. There can be no assurance
that third parties have not or will not develop equivalent
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technologies or products without infringing the Company's patents or that the
Company's patents would be held valid and enforceable by a court having
jurisdiction over a dispute involving such patents. The Company has also entered
into confidentiality and invention assignment agreements with its employees and
independent contractors, and enters into non-disclosure agreements with its
suppliers, distributors and appropriate customers so as to limit access to and
disclosure of its proprietary information. There can be no assurance that these
statutory and contractual arrangements will deter misappropriation of the
Company's technologies or discourage independent third-party development of
similar technologies. In the event such arrangements are insufficient, the
Company's business, financial condition and results of operations could be
materially adversely affected. The laws of certain foreign countries in which
the Company's products are or may be developed, manufactured or sold may not
protect the Company's products or intellectual property 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 products more likely. See "Item
7. Management's Discussion and Analysis of Financial Conditions and Results of
Operations" and "Factors Affecting Future Results -- Limited Protection of
Intellectual Property".
The network access and telecommunications equipment industries are
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 exclusive patent, copyright, trademark and other intellectual
property rights to technologies that are important to the Company. The Company
has not conducted a formal patent search relating to the technology used in its
products, due in part to the high cost and limited benefits of a formal search.
In addition, since patent applications in the United States are not publicly
disclosed until the patent issues and foreign patent applications generally are
not publicly disclosed for at least a portion of the time that they are pending,
applications may have been filed which, if issued as patents, would relate to
the Company's products. Software comprises a substantial portion of the
technology in the Company's products. The scope of protection accorded to
patents covering software-related inventions is evolving and is subject to a
degree of uncertainty which may increase the risk and cost to the Company if the
Company discovers third party patents related to its software products or if
such patents are asserted against the Company in the future. Patents have been
granted recently on fundamental technologies in software, and patents may issue
which relate to fundamental technologies incorporated into the Company's
products. The Company may receive communications from third parties in the
future asserting that the Company's products infringe or may infringe the
proprietary rights of third parties. In its distribution agreements, the Company
typically agrees to indemnify its customers for all expenses or liabilities
resulting from claimed infringements of patents, trademarks or copyrights of
third parties. In the event of litigation to determine the validity of any
third-party claims, such litigation, whether or not determined in favor of the
Company, could result in significant expense to the Company and divert the
efforts of the Company's technical and management personnel from productive
tasks. In the event of an adverse ruling in such litigation, the Company might
be required to discontinue the use and sale of infringing products, expend
significant resources to develop non-infringing technology or obtain licenses
from third parties. There can be no assurance that licenses from third parties
would be available on acceptable terms, if at all. In the event of a successful
claim against the Company and the failure of the Company to develop or license a
substitute technology, the Company's business, financial condition and results
of operations would be materially adversely affected. See "Factors Affecting
Future Results -- Risk of Third Party Claims Infringement".
EMPLOYEES
As of June 27, 1999, the Company had approximately 310 employees worldwide,
of whom 85 were employed in engineering, 56 in sales, marketing and customer
service, 132 in manufacturing and 37 in general and administration. Of the
total, approximately 131 positions located in San Jose are expected to be either
eliminated or displaced to the Huntsville, Alabama location, as a result of the
Company's plan to consolidate its operations in Huntsville, Alabama and
outsource its San Jose manufacturing operations
Management believes that the future success of Verilink will depend in part
on its ability to attract and retain qualified employees, including management,
technical, and design personnel. In particular, the Company believes that it is
highly likely that all of its officers, with the exception of Graham Pattison,
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President and CEO, and Steve Turner, Vice President of the Huntsville Business
Unit, will not continue employment with the Company after the transition,
although to date, none has provided notice of termination. In addition, the
Company currently has numerous open positions in its Huntsville Alabama
location, particularly, engineering positions. Any lengthy delay in filling
these positions will impact the ability of the Company to transition the
business and will lead to delays in the introduction of various products
currently being developed, as well as the research and development associated
with potential new products. See "Item 7. Management's Discussion and Analysis
of Financial Conditions and Results of Operations" and "Factors Affecting Future
Results -- Dependence on Key Personnel".
BACKLOG
The Company manufactures its products based upon its forecast of customer
demand and typically builds finished products in advance of receiving firm
orders from its customers. Orders for the Company's products are generally
placed by customers on an as-needed basis and the Company has typically been
able to ship these products within 30 days after the customer submits a firm
purchase order. Because of the possibility of customer changes in delivery
schedules or cancellation of orders, the Company's backlog as of any particular
date may not be indicative of sales in any future period.
ITEM 2. PROPERTIES
The Company's headquarters and principal administrative and engineering
facility have been located in a building containing approximately 55,000 square
feet located in San Jose, California. During 1997, the Company moved its
manufacturing operations into a new 24,000 square foot facility located nearby
its headquarters building in San Jose, California. In September 1998, the
Company began leasing an additional 16,000 square feet of office space under a
must-take provision of the related lease and had guaranteed Baytech Associates
obligation on an additional 30,000 square feet of office space. In August 1999,
the Company reached an agreement that established a new lease rate under a
market rate adjustment provision of the headquarters building lease, and entered
into a new agreement for the manufacturing facility lease covering the 42,000
square feet of space that it occupied. The result of these market rate
adjustments was to substantially increase the Company's remaining lease
obligation. The Company leases these buildings through April 2001 and November
2001, respectively, from Baytech Associates, a partnership which is comprised of
Leigh S. Belden and Steven C. Taylor, Directors of the Company.
As a result of the Company's plans to consolidate its operations in
Hunstville, Alabama, the use of both of the facilities located in San Jose will
be discontinued by the end of the 1999 calendar year. The Company is in the
process of trying to sublease this space and has entered into discussions with
its landlord to explore settlement options for its remaining lease obligation.
The Company will move its principal administrative, engineering, and
marketing functions to its facility located in Huntsville, Alabama, in which the
Company leases approximately 49,000 square feet. Approximately 9,000 square feet
of this space is currently being subleased to another tenant, but will become
available for occupancy by the Company after December of 1999. The Company
occupies these buildings under leases that expire on various dates ranging from
December 2000 through March 2002.
The Company also leases approximately 49,000 square feet at the same
Huntsville location to support its manufacturing operations. Approximately,
18,000 square feet of this space is currently being subleased to another tenant,
but will be become available for occupancy by the Company after December 1999.
The Company leases these buildings under leases that expire on various dates
ranging from December 2000 through June 2001.
In addition, the Company has eight sales offices located in the U.S. and
Canada. These properties are occupied under operating leases that expire on
various dates through the year 2003, with options to renew in most instances.
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ITEM 3. LEGAL PROCEEDINGS
The Company is subject to a legal claim arising from an acquisition by
TxPort, Inc. prior to the acquisition of TxPort, Inc. by the Company. The
Company believes that it is indemnified against the claim by the seller of
TxPort, Inc. Management believes that the claim will be resolved without
material effect on the Company's financial position and results of operations.
The Company is not involved in any other material legal actions. From time
to time, however, the Company may be subject to claims and lawsuits arising in
the normal course of business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
A Special Meeting of Stockholders of the Company was held on June 22, 1999
(the "Special Meeting"). The voting of holders of record of 14,076,931 shares of
the Company's Common Stock outstanding as of the close of business on May 10,
1999 was solicited by proxy pursuant to Regulation 14A under the Securities
Exchange Act of 1934. The amendment to the Company's Stock Option Plan to
increase the number of shares for issuance from 5,050,000 to 6,050,000 shares
was ratified. The stockholder's vote was 6,055,865 shares voted FOR; 1,436,012
shares AGAINST; and 18,727 shares ABSTAINED from voting.
EXECUTIVE OFFICERS OF THE COMPANY
Information concerning executive officers of the Company is set forth
below:
Mr. Graham Pattison, age 49, joined the Company in April 1999 as President,
Chief Executive Officer and Director. From May 1998 until joining Verilink, Mr.
Pattison was Vice President and General Manager of new business ventures at
Motorola's new Internet and Networking Group (ING). From June 1996 to May 1998,
Mr. Pattison served as Vice President and General Manager of Motorola's Network
System Division (NSD). From November 1995 to June 1996, Mr. Pattison served as
Vice President of North American Distribution for Motorola. From November 1994
to November 1995, Mr. Pattison served as Vice President of International
Distribution for Motorola. From November 1991 to November 1994, Mr. Pattison
served as General Manager of Motorola's Europe Middle-East and Africa (EMEA)
Division. Mr. Pattison received a B.S. in Electrical Engineering and a M.S. in
Engineering Technology from Royal Melbourne Institute of Technology (RMIT),
Australia.
Mr. John C. Batty, age 44, joined the Company in May 1997 as Vice
President, Finance and Chief Financial Officer. From December 1992 until joining
Verilink, Mr. Batty was Vice President and Treasurer for VLSI Technology, Inc.,
a semiconductor manufacturer. From April 1991 to December 1992, Mr. Batty was
Director of Corporate Financial Planning for VLSI. Mr. Batty received a B.A. in
Economics from the University of New Hampshire, and a M.B.A. from the University
of Chicago.
Mr. Tom Flak, age 33, joined the Company in July 1997 as Director, Product
Marketing. In August 1998, Mr. Flak was promoted to the position of Vice
President of Marketing. From October 1992 until joining Verilink, Mr. Flak
worked in various marketing management, sales and engineering positions with
Network Equipment Technologies, a telecommunications equipment manufacturer.
From June 1989 to October 1992, Mr. Flak was a systems engineer with
Southwestern Bell Telephone Company. Mr. Flak received a B.S. in Electrical
Engineering from the University of Missouri at Rolla and a M.S. in Information
Networking from Carnegie-Mellon University.
Mr. Stephen G. Heinen, age 44, joined the Company in September 1998 as Vice
President, Engineering. From June 1987 until joining Verilink, Mr. Heinen held
various senior management positions within Northern Telecom (Nortel), including
Assistant Vice President of Technology for the Meridian 1 Business
Communications System, the leading Private Branch Exchange (PBX) worldwide.
Prior to 1987, Mr. Heinen was a member of the scientific staff at Bell Northern
Research, the research and development subsidiary of Northern Telecom. Mr.
Heinen received a B.S. in Computer Science from the University of California at
Santa Barbara.
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Mr. Henry L. Tinker, age 68, joined the Company in May 1991 as Vice
President, Operations. From May 1990 until joining Verilink, Mr. Tinker served
as an Operations Consultant to the Company. From May 1984 to May 1990, Mr.
Tinker was Vice President of a business group of Cipher Data Products, a tape
drive manufacturer. Mr. Tinker received a B.S. in Business Administration from
the University of California at Los Angeles.
Mr. Steve Turner, age 41, joined the Company in November, 1998 as Vice
President of the Company's Huntsville Strategic Business Unit. From August 1997
until joining the Company, Mr. Turner served as Vice President of Engineering
and Technology for TxPort, Inc. From November 1995 to August 1997, Mr. Turner
was Vice President of extended range products for Adtran, Inc. Prior to joining
Adtran, Mr. Turner served in various technical and management capacities with
Motorola's Information Systems Group. Mr. Turner received his B.S. in Electrical
Engineering from Louisiana Tech University and a M.S. in Electrical Engineering
from the University of Missouri.
Other than Henry L. Tinker, who is the father-in-law of Leigh S. Belden, a
director of the Company, there are no family relationships among any of the
directors or executive officers of the Company.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's Common Stock has been traded on the Nasdaq National Market
(Nasdaq) under the symbol "VRLK" since the Company's initial public offering of
Common Stock in June 1996. Prior to the initial public offering, there was no
established trading market for the Company's Common Stock. As of September 15,
1999, the Company had 139 shareholders of record and approximately 3,300
beneficial owners of shares held in street name. The following table shows the
high and low sale prices per share for the Common Stock as reported by Nasdaq
for the periods indicated:
FISCAL 1999 -- QUARTER ENDED JUNE 27 MARCH 28 DECEMBER 27 SEPTEMBER 27
---------------------------- ------- -------- ----------- ------------
Market Price: High............................. $ 3.25 $ 2.63 $3.88 $ 4.63
Low.............................. $ 3.06 $ 2.13 $3.63 $ 4.38
FISCAL 1998 -- QUARTER ENDED JUNE 28 MARCH 29 DECEMBER 28 SEPTEMBER 28
---------------------------- ------- -------- ----------- ------------
Market Price: High............................. $11.00 $11.00 $9.44 $13.00
Low.............................. $ 6.38 $ 5.56 $5.56 $ 8.75
The Company has never declared or paid dividends on its capital stock and
does not intend to pay dividends in the foreseeable future.
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ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data concerning the Company
for and as of the end of each of the years in the five year period ended June
27, 1999, are derived from the audited consolidated financial statements of the
Company. The selected financial data are qualified in their entirety by the more
detailed information and financial statements, including the notes thereto. The
financial statements of the Company as of June 27, 1999 and June 28, 1998, and
for each of the three years in the period ended June 27, 1999, and the report of
PricewaterhouseCoopers LLP thereon, are included elsewhere in this report.
FINANCIAL INFORMATION BY YEAR (UNAUDITED)
(THOUSANDS, EXCEPT PER SHARE AMOUNTS AND NUMBER OF EMPLOYEES)
1999 1998 1997 1996 1995
-------- ------- ------- ------- -------
Net sales............................... $ 59,553 $50,915 $57,170 $41,608 $31,447
Gross profit............................ $ 27,729 25,121 28,845 21,453 14,755
Income (loss) from operations........... $(14,901)(1) (3,745) 4,832 3,232 347
Net income (loss)....................... $(13,666) (1,071) 4,194 2,716 448
Net income (loss) per share -- basic.... $ (0.98) $ (0.08) $ 0.31 $ 0.27 $ 0.05
Net income (loss) per
share -- diluted...................... $ (0.98) $ (0.08) $ 0.29 $ 0.25 $ 0.04
Shares used to compute net income (loss)
per share -- basic.................... 13,929 13,742 13,324 10,224 9,519
Shares used to compute net income (loss)
per share -- diluted.................. 13,929 13,742 14,289 10,804 9,961
Research and development as a percentage
of sales.............................. 22.5% 24.5% 16.4% 17.5% 21.0%
Capital expenditures.................... $ 2,586 $ 2,752 $ 6,471 $ 958 $ 782
Cash and cash equivalents and short-term
investments........................... $ 18,476 $42,415 $39,050 $40,542 $ 3,243
Working capital......................... $ 25,960 $45,163 $46,217 $45,015 $ 5,695
Stockholders' equity.................... $ 40,139 $53,810 $53,767 $47,234 $ 7,433
Total assets............................ $ 54,281 $63,828 $60,687 $55,218 $12,617
Employees............................... 310 250 219 182 152
(1) Includes in-process research and development charge of $3,330 and
restructuring charge of $3,200.
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SUMMARIZED QUARTERLY FINANCIAL DATA (UNAUDITED)
The following table presents unaudited quarterly operating results for each
of the Company's last eight fiscal quarters. This information has been prepared
by the Company on a basis consistent with the Company's audited financial
statements and includes all adjustments, consisting of normal recurring
adjustments, that the Company considers necessary for a fair presentation of the
data.
FINANCIAL INFORMATION BY QUARTER (UNAUDITED)
(THOUSANDS, EXCEPT PER SHARE AMOUNTS)
3 MONTHS ENDED
--------------------------------------------------
FISCAL 1999 JUNE 27 MARCH 28 DECEMBER 27 SEPTEMBER 27
----------- ------- -------- ----------- ------------
Net sales..................................... $13,366 $12,003 $17,107 $17,078
Gross profit.................................. $ 5,695 $ 4,611 $ 8,654 $ 8,770
Income (loss) from operations................. $(2,891) $(8,925) $(3,637) $ 552
Net income (loss)............................. $(2,509) $(8,650) $(3,228) $ 722
Net income (loss) per share -- basic.......... $ (0.18) $ (0.62) $ (0.23) $ 0.05
Net income (loss) per share -- diluted........ $ (0.18) $ (0.62) $ (0.23) $ 0.05
Shares used to compute net income (loss) per
share -- basic.............................. 13,858 14,020 13,929 13,908
Shares used to compute net income (loss) per
share -- diluted............................ 13,858 14,020 13,929 14,244
3 MONTHS ENDED
--------------------------------------------------
FISCAL 1998 JUNE 28 MARCH 29 DECEMBER 28 SEPTEMBER 28
----------- ------- -------- ----------- ------------
Net sales..................................... $17,303 $14,081 $ 9,518 $10,013
Gross profit.................................. $ 8,758 $ 6,720 $ 4,639 $ 5,005
Income (loss) from operations................. $ 683 $ (953) $(1,903) $(1,572)
Net income (loss)............................. $ 903 $ (470) $ (875) $ (629)
Net income (loss) per share -- basic.......... $ 0.07 $ (0.03) $ (0.06) $ (0.05)
Net income (loss) per share -- diluted........ $ 0.06 $ (0.03) $ (0.06) $ (0.05)
Shares used to compute net income (loss) per
share -- basic.............................. 13,818 13,805 13,690 13,655
Shares used to compute net income (loss) per
share -- diluted............................ 14,284 13,805 13,690 13,655
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Management's Discussion and Analysis of Financial Condition and
Results of Operations ("MD&A") should be read in conjunction with the 1999
Consolidated Financial Statements and Notes thereto.
This MD&A contains forward-looking statements within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934. Actual results could differ materially from those projected in the
forward-looking statements as a result of the risk factors set forth herein,
including those set forth in "Factors Affecting Future Results" below.
The Company's fiscal year ends on the Sunday nearest June 30. Fiscal years
1999, 1998, and 1997 ended June 27, June 28, and June 29, respectively, and
consisted of 52 weeks. References to 1999, 1998, and 1997 shall be to the
respective fiscal year unless otherwise stated or the context otherwise
requires.
OVERVIEW
Verilink Corporation (the "Company") develops, manufactures and markets
integrated access products and customer premise equipment for telecommunications
network service providers ("NSPs") and corporate end users on wide area
networks. Verilink's integrated network access products are used by network
service providers such as interexchange and local exchange carriers, and
providers of Internet, personal communications and cellular services to provide
seamless connectivity and interconnect for multiple traffic types on wide area
networks ("WANs").
During the second quarter of fiscal 1999, the Company acquired TxPort, a
manufacturer of high speed voice, and data communications products, based in
Huntsville, Alabama for $10,000,000 in cash, which was funded by the Company's
working capital. Accordingly, the results of operations of TxPort, commencing
November 16, 1998, the date of acquisition, have been included with the
Company's results for fiscal 1999.
In July, 1999 the Company announced its plans to substantially consolidate
its operations into its existing operations located in Huntsville, Alabama. The
goal of this plan is to reduce expenses and enable the Company to achieve
profitability at lower revenue levels. In connection with those plans the
Company will also outsource its San Jose-based manufacturing operations to a
third party subcontract manufacturer.
During 1999, Verilink's Access System 2000 product line continued to
generate the majority of sales. Verilink designed the Access System 2000 with
modular hardware and software to enable its customers to access increased
network capacity and to adopt new communications services in a cost-effective
manner. The Access System 2000 provides integrated access to low speed services,
fractional T1/E1 services, and T1, E1, T3, and frame relay services. The Access
System 3000 was introduced in 1999 as an extension of the successful AS2000
platform and includes an increase in switching capacity, support for voice
signals and broadband multiplexing up to T3 rates. The Company has other
features under development that are intended to expand the number of services
the Access System products support.
The Company also sells single purpose network access devices for selected
applications. The acquisition of the former TxPort product line significantly
adds to the breadth of the Company's product portfolio in this area, and
contributed a significant percentage of the Company's total sales in the second
half of fiscal 1999.
The Company believes that period-to-period comparisons of its financial
results are not necessarily meaningful and should not be relied upon as an
indication of future performance. In addition, the Company's results of
operations may fluctuate from period-to-period in the future.
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RESULTS OF OPERATIONS
SALES
1999 1998 1997
------- ------- -------
(THOUSANDS)
Net sales............................................. $59,553 $50,915 $57,170
Percentage change from preceding year................. 17% (11)% 37%
Net sales for 1999 increased 17% to $59.6 million from 1998 net sales of
$50.9 million. The increase was solely attributable to the sales contribution of
products acquired from the TxPort acquisition that was completed in November
1998. Sales from these products represented approximately 20% of total year
sales, and 38% of the second half of the year sales. Net sales for 1998 were
$50.9 million representing a decrease of 11% from 1997 sales of $57.2 million.
The decline in net sales during 1998 was attributable primarily to a decline in
shipments to the Company's reseller and carrier customers that was partially
off-set by improved shipments to system integrators. The Company believes 1998
net sales were adversely affected in part by pending merger and consolidation
discussions among the Company's key customers resulting in delayed purchases.
During 1999, shipments of the Access System 2000 product line accounted for
approximately 67% of net sales compared to 86% during 1998 and 80% in 1997. The
sales contribution of the recently introduced AS3000 was negligible as a result
of its late introduction and as selling and customer testing cycles extended
beyond what had been anticipated.
The Company's business is characterized by the concentration of sales to a
limited number of key customers. Sales to the Company's top five customers
accounted for 57%, 64% and 67% of sales in 1999, 1998, and 1997, respectively.
The Company's largest customers in fiscal 1999 were MCIWorldCom, Nortel, Bell
Atlantic/NYNEX, Timeplex and Ericsson (formerly Qualcomm). See Note 1 of "Notes
to Consolidated Financial Statements" and "Factors Affecting Future
Results -- Customer Concentration".
The Company sells its products primarily in the United States through a
direct sales force and through a variety of resellers, including original
equipment manufacturers (OEMs), system integrators, value-added resellers (VARs)
and distributors. Sales to VARs and distributors accounted for approximately 19%
of sales in 1999, as compared to approximately 10% in 1998 and 18% in 1997. With
the addition of the former TxPort product line the importance of the channel is
expected to increase, as those products lend themselves more to an indirect
distribution model. To date, sales outside of North America have not been
significant. However, the Company intends to expand the marketing of its
products to markets outside of North America.
GROSS PROFIT
1999 1998 1997
------- ------- -------
(THOUSANDS)
Gross Profit.......................................... $27,729 $25,121 $28,845
Percentage of Sales................................... 46.6% 49.3% 50.5%
Gross profit, as a percentage of sales in 1999 was 46.6% as compared to
49.3% in 1998 and 50.5% in 1997. The decrease in gross profit margin in 1999 was
primarily due to significantly lower sales volume for the Company's San
Jose-based operations, particularly in the second half of the year, in
combination with the relatively fixed cost of maintaining manufacturing
operations in both California and Alabama. This lower sales volume was
accompanied by a reduction in unit volumes of normally high unit volume
products, and resulted in inefficiencies associated with producing a high mix of
products at lower volumes. The decrease in gross profit margin in 1998 was
primarily due to increased manufacturing overhead spending resulting from higher
labor and facility related costs at lower net sales levels. The increase in 1998
manufacturing overhead spending was offset in part by favorable direct material
costs. In future periods, the Company's gross profit will vary depending upon a
number of factors, including the cost of products manufactured at subcontract
facilities, the channels of distribution, the price of products sold,
discounting practices, the mix of products sold, price competition, increases in
material costs, and changes in other components of cost of sales. As the Company
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introduces new products, it is possible that such products may have lower gross
profit than other established products in high volume production. Accordingly,
gross profit as a percentage of sales may vary.
RESEARCH AND DEVELOPMENT
1999 1998 1997
------- ------- ------
(THOUSANDS)
Research and development............................... $13,391 $12,484 $9,373
Percentage of Sales.................................... 22.5% 24.5% 16.4%
Research and development expenses (R&D) increased to $13.4 million or 22.5%
of sales in 1999 compared to $12.5 million and $9.4 million or 24.5% and 16.4%
of sales for 1998 and 1997, respectively. The expense increase during 1999 is
due principally to the addition of expenses associated with the Huntsville
development organization beginning in November 1998, and to an increased rate of
development on the AS3000 product line during the first half of the fiscal year.
Although R & D expenses increased in absolute dollars, it decreased as a
percentage of sales due to higher sales volume in 1999 as compared to 1998. The
expense increase in 1998 was due principally to the use of outside consultants
and the addition of personnel associated with product development activities.
The increase in R&D expenses in 1998 as a percentage of sales was due to an
increase in spending at reduced sales levels. During 1998, the Company's new
product development efforts focused on advanced features for the Access System
2000 Platform, the Access System 3000 and development of the Node Manager
developed to provide node element management capabilities for all Access System
2000 and 3000 modules. The Company considers product development expenditures to
be critical to future sales and expects to continue to invest in this area,
while such expenditures as a percentage of sales may vary. There can be no
assurance that the Company's research and development efforts will result in
commercially successful new technology and products in the future, and those
efforts may be affected by other factors as noted below. See "Factors Affecting
Future Results -- Dependence on Recently Introduced Products and Products Under
Development".
SELLING, GENERAL AND ADMINISTRATIVE
1999 1998 1997
------- ------- -------
(THOUSANDS)
Selling, general and administrative................... $22,709 $16,382 $14,640
Percentage of sales................................... 38.1% 32.2% 25.6%
The Company's selling, general and administrative (SG & A) expenses
increased to $22.7 million in 1999, compared to $16.4 million in 1998 and $14.6
million in 1997. SG & A expenses increased as a percentage of sales to 38.1% in
1999 from 32.2% in 1998 due to the decline in revenues in the San Jose
operations combined with the overlap in SG & A functions in the Company's
California and Alabama operations. The increase in expense in 1999 was primarily
the result of the addition of expenses from the TxPort acquisition. Selling
expenses increased as a result of increased selling efforts and equipment
demonstration costs. Marketing expenses increased principally as a result of
incremental costs associated with the integration of sales collateral of TxPort
into a single company, more extensive trade show participation, and increases in
other promotional activities such as direct mail campaigns. General and
Administrative expenses also increased as a result of increases in staff
associated with the acquisition of TxPort and outside contract costs associated
with the implementation of the Company's ERP system. The increase in dollars
spent in 1998 was due to the increase in selling and marketing activities and
personnel related costs necessary to support the Company's infrastructure. These
expenses increased as a percentage of sales to 32.2% in 1998 from 25.6% in 1997
due to increased dollar spending between periods at reduced net sales levels.
The Company expects that general and administrative expenses will decline as a
result of its plans to consolidate its operations in Huntsville, Alabama.
However, there can be no assurance that the Company will be successful in its
efforts to reduce expenses. See "Factors Affecting Future
Results -- Restructuring Actions May Not Achieve Intended Results".
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ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT
Effective November 16, 1998, the Company completed its acquisition of
TxPort, Inc. ("TxPort") from Acme-Cleveland Corporation, by purchasing all the
outstanding shares of TxPort at a cost of $10,500,000. TxPort is a manufacturer
of high speed voice and data communications products.
The transaction was accounted for using the purchase method, and the
purchase price was allocated to the assets acquired, including core technology,
and liabilities assumed based on the estimated fair market values at the date of
acquisition.
At the time of the acquisition the Company was involved in research and
development projects in relation to three areas, enhancement and augmentation of
the CSU product line, enhancement and augmentation of the CSU/DSU product line
and development of packet and frame aware CSU/DSU products along with a virtual
private network product. The in-process research and development of $3.3
million, which was expensed at the acquisition date, represented the estimated
current fair market value of the research and development projects which had not
reached technological feasibility and had no alternative future uses at the date
of acquisition. The value of in-process research and development was determined
by estimating the expected cash flows from the projects once commercially
viable, discounting the net cash flows back to their present value and then
applying a percentage of completion. The net cash flows from the identified
projects were based on management estimates of revenues, cost of sales, research
and development costs, selling, general and administrative costs, and income
taxes from the project. The research and development costs included in the model
reflect costs to sustain the project, but exclude costs to bring the in-process
project to technological feasibility. The estimated revenues were based on
management projections for the projects. Projected gross margins reflect recent
historical performance of other Company products and are in line with industry
expectations. The estimated selling, general and administrative costs, and
research and development costs were estimated excluding synergies expected from
the acquisition.
The discount rate used in discounting the net cash flows from in-process
research and development is 35%. This discount rate reflects the uncertainties
surrounding the successful development of the in-process research and
development, market acceptance of the technology, the useful life of such
technology, the profitability levels of such technology and the uncertainty of
technological advances that could potentially impact the estimates described
above.
The percent of completion for the three project areas was determined by
comparing both effort expected and research and development costs incurred as of
November 1998, to the remaining effort to be expended and research and
development costs to be incurred, based on management's estimates, to bring the
projects to technological feasibility. Based on these comparison management
estimated the three project areas to be approximately 55%, 35%, and 60% complete
as of the date of acquisition. The projects were substantially completed by June
1999. The effort and costs required to complete the projects approximated the
estimates made by management at the date of acquisition.
Recent actions and comments from the Securities and Exchange Commission
have indicated that they are reviewing the current valuation methodology of
purchased in-process research and development relating to acquisitions. The
Commission is concerned that some companies are writing off more of the value of
an acquisition than is appropriate. The Company believes that it is in
compliance with all of the rules and related guidance as they currently exist.
However, there can be no assurance that the Commission will not seek to reduce
the amount of purchased in-process research and development previously expensed
by the Company. This would result in the restatement of previously filed
financial statements of the Company and could have a material negative impact on
the financial results for the period subsequent to the acquisition.
The results of the operations acquired have been included with those of the
Company from the date of acquisition. Intangible assets have been recorded and
are being amortized over estimated useful lives between three and ten years.
RESTRUCTURING CHARGE
In March 1999, the Company announced and implemented a restructuring of the
business to streamline operations and eliminate redundant functions by
consolidating manufacturing operations, combining sales and
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marketing functions, and restructuring research and development activities.
Included as a part of the restructuring activities was the retirement of the
Company's two founders. The Company incurred a pretax restructuring charge of
$3,200,000. See Note 3 of "Notes to Consolidated Financial Statements" for
further details of the restructuring charge. Approximately $2,930,000 of the
restructuring charge was cash in nature and paid out of the Company's working
capital.
In connection with the Company's plans to substantially consolidate its
operations into its existing operations located in Huntsville, Alabama, and
outsource its San Jose manufacturing operations, the Company expects that
approximately 131 positions located in San Jose will be either eliminated or
displaced to Huntsville, Alabama. In addition, the Company expects to incur a
charge in the first quarter of fiscal 2000 related to the early termination of
its lease obligations, the separation of employees, and the write down of
impaired assets.
INTEREST AND OTHER INCOME, NET
Interest and other income, net declined to $1.2 million from $2.1 million
in 1998 as a result of substantially lower invested cash balances. Interest and
other income, net remained relatively unchanged between 1998 and 1997 at
approximately $2.0.
PROVISION FOR/BENEFIT FROM INCOME TAXES
In fiscal 1999, the Company recorded no benefit from income taxes due to
continued operating losses and the uncertainty of realization of the Company's
net deferred tax assets. In fiscal 1998, the Company recorded a benefit from
income taxes of $608,000, representing an effective tax rate of 36%, compared to
an effective tax rate of 39% in fiscal 1997. This benefit was based on available
net operating loss carryback capacity. As of June 27, 1999, the Company had
fully utilized its available carryback capacity.
LIQUIDITY AND CAPITAL RESOURCES
At June 27, 1999 the Company's principal sources of liquidity included
$18.5 million of cash, cash equivalents, and short-term investments.
During 1999, the Company used $7.2 million of net cash in operating
activities; a $12.4 million change from the $5.2 million of net cash provided by
operating activities in 1998. During 1997 the Company generated $3.7 million in
net cash from operating activities. Accounts receivable increased $3.2 million
to $9.2 million at June 27, 1999 from $6.0 million at June 28, 1998. This was
due to the acquisition of TxPort Inc., less linearity in shipments in the fourth
quarter of fiscal 1999 than in 1998 and a $1.3 million advance billing made to a
customer at its request. Accounts receivable at June 28, 1998 decreased by $2.5
million as compared to June 29, 1997 reflecting an improvement in the linearity
of shipments during the fourth quarter of 1998 over the prior year. Inventories
increased $2.0 million to $6.9 million at June 27, 1999 from $4.9 million at
June 28, 1998. This increase was due to the acquisition of TxPort Inc. and lower
sales volume in the fourth quarter of 1999 than expected. In 1999, total current
liabilities increased by $4.1 million due mainly to the liabilities assumed in
connection with the acquisition of TxPort, Inc. In 1998, accounts payable and
accrued expenses increased $2.9 million, reflecting increased procurement
activities and accruals for outside consultants and service providers.
Net cash used in investing activities was $2.1 million in 1999 compared to
a use of $26.4 million and $8.9 million in 1998, and 1997 respectively. The net
cash used in investing activities in 1999 resulted primarily from the maturity
of $14.5 in short-term investments offset by $10.5 million in cash used for the
acquisition of TxPort, Inc., $2.6 million of capital equipment and $3.6 million
of notes receivable from a director. The net cash used in investing activities
in 1998 and 1997 was primarily the result of greater purchases of short-term
investments, and purchases of property and equipment. The Company estimates that
total budgeted capital expenditures in fiscal 2000 will approximate $3.0 million
and will include expenditures for IT infrastructure, and design tools.
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Net cash used in financing activities was $100,000 in 1999 as compared to
net cash provided by financing activities of $933,000 in 1998 and $1.3 million
in 1997. The use of cash in 1999 was primarily attributable to the Company's
repurchase of $937,000 of its Common Stock offset by the proceeds from the
exercise of stock options and the Employee Stock Purchase Plan.
On February 18, 1999, the Board of Directors authorized the Company's
management to systematically repurchase up to 1,000,000 shares of the Company's
Common Stock. As of June 27, 1999, the Company had purchased 284,500 shares at a
cost of $937,000.
The Company believes that its cash and investment balances and anticipated
cash flows from operations will be adequate to finance current operations,
anticipated investments and capital expenditures for at least the next twelve
months. However, the Company continues to investigate the possibility of
generating financial resources through committed credit agreements, technology
or manufacturing partnerships, equipment financing, and offerings of debt and
equity securities.
YEAR 2000 READINESS
The year 2000 presents concerns, which are widespread and complex. If
computer, information or telecommunication systems do not correctly recognize
date information when the year changes to 2000, there could be an adverse impact
on the Company's operations. The Company has evaluated and continues to evaluate
its year 2000 risk as it exists in four areas: information technology
infrastructure, including reviewing what actions are necessary to bring all
software tools used internally to year 2000 compliance; information systems used
by the Company's suppliers; potential warranty and year 2000 claims from the
Company's customers; and the potential impact of reduced spending by customers
or potential customers on telecommunication network solutions as a result of
devoting a substantial portion of their information system spending to resolve
year 2000 compliance issues.
The Company evaluated its information technology infrastructure for year
2000 compliance, which included reviewing what actions were required to make all
software systems used internally year 2000 compliant. The Company purchased and
implemented an enterprise resource planning solution (ERP) which has been
determined to be year 2000 compliant. It is the Company's intent for all
software systems and tools that are identified as non-compliant to be either
upgraded or replaced. For the non-compliant systems identified to date, the cost
to bring the systems to year 2000 compliance is not expected to be material to
the Company's operating results. However, if implementation of replacement
systems and tools is delayed, or if significant new non-compliance issues are
identified, the Company's results of operations, business and financial
condition could be materially adversely affected.
The Company contacted its key suppliers to determine that the suppliers
operations and the products and services they provide are year 2000 compliant.
Responses have generally indicated substantial remediation, or documented plans
to remediate the year 2000 issue. Some have given written certification of
internal and product compliance. Substantially all key suppliers have indicated
compliance of their product or service. In the event that any of the Company's
key suppliers does not successfully and timely achieve year 2000 compliance, the
Company's business, financial condition and results of operations could be
adversely affected.
All of the Company's products were reviewed for compliance to year 2000
guidelines. This process included a complete and thorough testing of current
products as well as inclusion of year 2000 requirements in specifications for
future product releases. Based on this review, the Company believes its current
product shipments are year 2000 compliant and that neither performance nor
functionality are affected by dates prior to, during, and after the year 2000
and that the year 2000 is recognized as a leap year. However, as all customer
events cannot be anticipated, the Company may see an increase in product
warranty and other claims. In the event that any of the Company's products
ultimately are not year 2000 compliant, or there are customer claims made
against the Company, the Company's business, financial condition and results of
operations could be adversely affected.
Costs. The total cost to address the Year 2000 issue has not been and is
not expected to be material to the Company's financial condition. The Company is
using both internal and external resources to reprogram,
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or replace, and test its software for Year 2000 modifications. The Company does
not separately track internal costs incurred on the Year 2000 Project, which
principally includes payroll and related costs for Information Management
employees that are being expensed as incurred. These costs will be funded
through operating cash flows.
Risks. The Company believes, based on currently available information, that
it will be able to properly manage its total Year 2000 exposure. There can be no
assurance, however, that the Company will be successful in its efforts, or that
the computer systems of other companies on which the Company relies will be able
to be modified in a timely manner. Additionally, there can be no assurance that
a failure to modify such systems by another company, or modifications that are
incompatible with the Company's systems, would not have a material adverse
effect on the Company's business, financial condition, or results of operations.
Contingency Plans. The Company has formulated contingency plans in those
areas where year 2000 non-compliance could have a material adverse effect on the
Company's business, financial condition and results of operations. However, the
Company has not developed a contingency plan to address every potential year
2000 non-compliance situation that may be present when the year changes to 2000.
EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants
issued Statement of Position No. 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use." SOP No. 98-1 requires entities
to capitalize costs related to internal-use software once specified criteria
have been met. The Company will adopt SOP No. 98-1 for fiscal year 2000.
In June, 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." SFAS No. 133 establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities. The Company will adopt
SFAS No. 133 for fiscal year 2001. However, since the Company currently does not
hold any derivative instruments and does not engage in hedging activities, the
Company does not expect the adoption of SFAS No. 133 to have a material impact
on its results of operations, financial position or cash flows.
FACTORS AFFECTING FUTURE RESULTS
As described by the following factors, past financial performance should
not be considered to be a reliable indicator of future performance, and
investors should not use historical trends to anticipate results or trends in
future periods.
This Report on Form 10-K contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended, including statements
using terminology such as "may," "will," "expects," "plans," "anticipates,"
"estimates," "potential," or "continue," or the negative thereof or other
comparable terminology regarding beliefs, plans, expectations or intentions
regarding the future. Forward-looking statements include statements in (i) Item
1 regarding the Company's plans to substantially consolidate its operations and
outsource its manufacturing operations (the "Restructuring"); the goals,
intended benefits and success of the Restructuring, particularly the goal of
reducing expenses; continued growth of the market for communications services;
the emergence of new communications carriers; the creation of new market
opportunities; the introduction of new telecommunications services; the growing
popularity and use of the Internet; the need for virtual private networking
capabilities becoming critical; the growth in the requirement for additional
bandwidth; the employment of new telecommunications equipment, technology and
facilities; the beneficiaries of the trend toward higher bandwidth; developing
nations increasingly looking to wireless technology; future growth in the
wireless communications industry, particularly in terms of number of
subscribers, minutes used, implementation of new systems and the emergence of
broadband access; the Company's expected expenditures on product development;
the timing of the completion of the Company's outsourcing plan; the growth of
the market for feature-enhanced network termination and access products; and the
members of the Companies senior management team who will or will not be
continuing with the Company or transitioning to the Company's Huntsville
operations and (ii) Item 7
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regarding the goals and success of the Restructuring plan; product features
under development; the expected decline selling, general and administrative
expenses; evaluation and resolution of the Year 2000 problems; expenses
associated with the Year 2000 problem; total budgeted capital expenditures; and
the adequacy of the Company's cash position for the next twelve months. These
forward-looking statements involve risks and uncertainties, and it is important
to note that Verilink's actual results could differ materially from those in
such forward-looking statements. Among the factors that could cause actual
results to differ materially are the factors detailed below as well as the other
factors set forth in Item 1 and Item 7 hereof. All forward-looking statements
and risk factors included in this document are made as of the date hereof, based
on information available to Verilink as of the date hereof, and Verilink assumes
no obligation to update any forward-looking statement or risk factor. You should
consult the risk factors listed from time to time in the Company's Reports on
Form 10-Q and the Company's Annual Report to Stockholders.
Restructuring Actions May Not Achieve Intended Results. The Company
announced in July 1999 its plans to substantially consolidate its operations in
Huntsville, Alabama in order to strengthen its business and improve its results
from operations. These actions are intended to streamline the Company's
operations, reduce operating costs, and enable the Company to achieve
profitability at lower revenue levels. Delay or difficulty in implementing these
actions, or market factors could reduce the anticipated benefit of these
actions. The Company's revenues, operating results, and financial condition,
could be adversely affected by the Company's ability to manage effectively the
transition to Huntsville, to continually improve new product development
processes, and to outsource a substantial portion of its manufacturing
activities. In particular, there is a risk that the company may be unable to
efficiently manage its operations due to the high likelihood of departures of
members of its senior management team and the inherent complexities included in
managing operations in both Alabama and California. Moreover, the Company's
plans to outsource a substantial portion of its manufacturing activities exposes
it to a number of risks including reduced control over manufacturing and
delivery schedules, quality control and costs. The failure by the Company to
overcome these risks and achieve the intended results from its restructuring
actions would have a significant adverse affect on the Company's business and
results of operations, particularly in light of the Company's recent
disappointing operating results.
Customer Concentration. A small number of customers continue to account for
a majority of the Company's sales. In September 1998, MCI and WorldCom completed
their merger and now operate under the same name MCIWorldCom. Percentages of
total revenue have been restated for fiscal 1999 and prior years as if the
merger had been in effect for all periods presented. Similarly, in May, 1999,
Ericsson completed its acquisition of Qualcomm's terrestrial Code Division
Multiple Access (CDMA) wireless infrastructure business. Percentages of total
revenue for Ericsson have been restated for fiscal 1999 and prior years as if
the acquisition had been in effect for all periods presented. In fiscal 1999,
sales to MCIWorldCom, Nortel, and Ericsson accounted for 27%, 17%, and 5% of the
Company's sales respectively and sales to the Company's top five customers
accounted for 57% of the Company's sales. In fiscal 1998, sales to MCIWorldCom,
Nortel, and Ericsson accounted for 31%, 20%, and 12% of the Company's sales,
respectively, and sales to the Company's top five customers accounted for 64% of
the Company's sales. In fiscal 1997, MCIWorldCom, Nortel and Ericsson accounted
for 33%, 22%, and 9% of the Company's sales, respectively, and the Company's top
five customers accounted for 67% of the Company's sales. Other than MCIWorldCom,
Nortel, and Ericsson, no customer accounted for more than 10% of the Company's
sales in fiscal years 1999, 1998, or 1997. There can be no assurance that the
Company's current customers will continue to place orders with the Company, that
orders by existing customers will continue at the levels of previous periods, or
that the Company will be able to obtain orders from new customers. Certain
customers of the Company have been or may be acquired by other existing
customers. The impact of such acquisitions on sales to such customers is
uncertain, but there can be no assurance that such acquisitions will not result
in a reduction in sales to those customers. In addition, such acquisitions could
have in the past and could in the future, result in further concentration of the
Company's customers. The Company has in the past experienced significant
declines in sales it believes were in part related to orders being delayed or
cancelled as a result of pending acquisitions relating to its customers. There
can be no assurance future merger and acquisition activity among the customers
will not have a similar adverse affect on the Company's sales and results of
operations. The Company's customers are typically not
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contractually obligated to purchase any quantity of products in any particular
period. Product sales to major customers have varied widely from period to
period. In some cases, major customers have abruptly terminated purchases of the
Company's products. Loss of, or a material reduction in orders by, one or more
of the Company's major customers would materially adversely affect the Company's
business, financial condition and results of operations. See "Competition" and
"Fluctuations in Quarterly Operating Results".
Dependence on Contract Manufacturers. The Company entered into arrangements
with a single contract manufacturer to outsource substantially all of the
Company's San Jose-based manufacturing operations, including its procurement,
assembly, and system integration operations. During 1999, a majority of the
Company's revenues were generated by products manufactured by its operations
located in California. There can be no assurance that this contract manufacturer
will be able to meet the Company's future requirements for manufactured
products, or that such independent contractor will not experience quality
problems in manufacturing the Company's products. The inability of the Company's
contract manufacturer to provide the Company with adequate supplies of high
quality products could have a material adverse effect on the Company's business,
financial condition, and results of operations. The loss of any of the Company's
contract manufacturers could cause a delay in the Company's ability to fulfill
orders while the Company identifies a replacement manufacturer. Such an event
could have a material adverse effect on the Company's business, financial
condition, and results of operations.
Dependence on Key Personnel. The Company's future success will depend to a
large extent on the continued contributions of its executive officers and key
management, sales and technical personnel. The Company is a party to agreements
with certain of its executive officers to help ensure the officer's continual
service to the Company in the event of a change-in-control. Each of the
Company's executive officers, and key management, sales and technical personnel
would be difficult to replace. As a result of the Company's plans to consolidate
its operations in Huntsville, Alabama, the Company believes that it is highly
likely that all of its officers, with the exception of Graham Pattison,
President and CEO, and Steve Turner, Vice President of the Huntsville Business
Unit, will not continue employment with the Company after the transition,
although to date, none has provided notice of termination and therefore, these
positions will need to be replaced with either existing personnel from
Huntsville or with new managers. The loss of the services of one or more of the
Company's executive officers or key personnel, or the inability to continue to
attract qualified personnel could delay product development cycles or otherwise
have a material adverse effect on the Company's business, financial condition
and results of operations. See "Management of Growth".
Management of Growth. The Company has recently experienced growth in the
scope of its operations as a result of its recent acquisition. To manage
potential future growth effectively, the Company must improve its operational,
financial and management information systems and must hire, train, motivate and
manage its employees. The future success of the Company also will depend on its
ability to increase its customer support capability and to attract and retain
qualified technical, marketing and management personnel, for whom competition is
intense. In particular, the current availability of qualified personnel is quite
limited, and competition among companies for such personnel is intense. The
Company is currently attempting to hire a number of executive management,
product marketing and engineering personnel and has experienced delays in
filling such positions and expects to experience continued difficulty in filling
its needs for qualified personnel. There can be no assurance that the Company
will be able to effectively achieve or manage any such growth, and failure to do
so could delay product development and introduction cycles or otherwise have a
material adverse effect on the Company's business, financial condition and
results of operations. See "Dependence on Key Personnel".
Dependence on Component Availability and Key Suppliers. Under the
outsourcing plan, the Company will generally rely upon a contract manufacturer
to buy component parts that are incorporated into board assemblies used in its
products. On-time delivery of the Company's products depends upon the
availability of components and subsystems used in its products. Currently, the
Company depends upon and in the future, third party sub-contractors will depend
upon suppliers to manufacture, assemble and deliver components in a timely and
satisfactory manner. The Company has historically obtained several components
and licenses certain embedded software from single or limited sources. There can
be no assurance that these suppliers will continue to be able and willing to
meet the Company and third party sub-contractors requirements for any such
components. The
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Company and third party sub-contractors generally do not have any long-term
contracts with such suppliers, other than software vendors. Any significant
interruption in the supply of, or degradation in the quality of, any such item
could have a material adverse effect on the Company's results of operations. Any
loss in a key supplier, increase in required lead times, increase in prices of
component parts, interruption in the supply of any of these components, or the
inability of the Company or its third party sub-contractor to procure these
components from alternative sources at acceptable prices and within a reasonable
time, could have a material adverse effect upon the Company's business,
financial condition and results of operations.
Purchase orders from the Company's customers frequently require delivery
quickly after placement of the order. As the Company does not maintain
significant component inventories, delay in shipment by a supplier could lead to
lost sales. The Company uses internal forecasts to determine its general
materials and components requirements. Lead times for materials and components
may vary significantly, and depend on factors such as specific supplier
performance, contract terms and general market demand for components. If orders
vary from forecasts, the Company may experience excess or inadequate inventory
of certain materials and components, and suppliers may demand longer lead times,
higher prices, or termination of contracts. From time to time, the Company has
experienced shortages and allocations of certain components, resulting in delays
in fulfillment of customer orders. Such shortages and allocations may occur in
the future, and could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Fluctuations in Quarterly
Operating Results".
Fluctuations in Quarterly Operating Results. The Company's sales are
subject to quarterly and annual fluctuations due to a number of factors
resulting in more variability and less predictability in the Company's
quarter-to-quarter sales and operating results. For example, sales to
MCIWorldCom, Nortel, and Ericsson have varied between quarters by as much as
$4.0 million and delayed orders by these customers substantially negatively
impacted the Company's third and fourth quarter results in 1999. Most of the
Company's sales are in the form of large orders with short delivery times. The
Company's ability to affect and judge the timing of individual customer orders
is limited. The Company has experienced large fluctuations in sales from
quarter-to-quarter due to a wide variety of factors, such as delay, cancellation
or acceleration of customer projects, and other factors discussed below. The
Company's sales for a given quarter may depend to a significant degree upon
planned product shipments to a single customer, often related to specific
equipment deployment projects. The Company has experienced both acceleration and
slowdown in orders related to such projects, causing changes in the sales level
of a given quarter relative to both the preceding and subsequent quarters.
Delays or lost sales can be caused by other factors beyond the Company's
control, including late deliveries by the third party subcontractors the Company
is using to outsource its manufacturing operations as well as by other vendors
of components used in a customer's system, changes in implementation priorities,
slower than anticipated growth in demand for the services that the Company's
products support and delays in obtaining regulatory approvals for new services
and products. Delays and lost sales have occurred in the past and may occur in
the future. Operating results in recent periods have been adversely affected by
delays in receipt of significant purchase orders from customers. The Company
believes that recent period sales have been adversely impacted by merger
activities at some of its top customers. In addition, the Company has in the
past experienced delays as a result of the need to modify its products to comply
with unique customer specifications. These and similar delays or lost sales
could materially adversely affect the Company's business, financial condition
and results of operations. See "Customer Concentration" and "Dependence on
Component Availability and Key Suppliers".
The Company's backlog at the beginning of each quarter typically is not
sufficient to achieve expected sales for that quarter. To achieve its sales
objectives, the Company is dependent upon obtaining orders in a quarter for
shipment in that quarter. Furthermore, the Company's agreements with its
customers typically provide that they may change delivery schedules and cancel
orders within specified timeframes, typically up to 30 days prior to the
scheduled shipment date, without significant penalty. The Company's customers
have in the past built, and may in the future build, significant inventory in
order to facilitate more rapid deployment of anticipated major projects or for
other reasons. Decisions by such customers to reduce their inventory levels
could lead to reductions in purchases from the Company. These reductions, in
turn, could cause fluctuations in
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the Company's operating results and could have an adverse effect on the
Company's business, financial condition and results of operations in the periods
in which the inventory is reduced.
The Company's industry is characterized by declining prices of existing
products, and therefore continual improvement of manufacturing efficiencies and
introduction of new products and enhancements to existing products are required
to maintain gross margins. In response to customer demands or competitive
pressures, or to pursue new product or market opportunities, the Company may
take certain pricing or marketing actions, such as price reductions, volume
discounts, or provision of services at below-market rates. These actions could
materially and adversely affect the Company's operating results.
Operating results may also fluctuate due to factors such as the timing of
new product announcements and introductions by the Company, its major customers
or its competitors, delays in new product introductions by the Company, market
acceptance of new or enhanced versions of the Company's products, changes in the
product or customer mix of sales, changes in the level of operating expenses,
competitive pricing pressures, the gain or loss of significant customers,
increased research and development and sales and marketing expenses associated
with new product introductions, and general economic conditions. All of the
above factors are difficult for the Company to forecast, and these or other
factors can materially adversely affect the Company's business, financial
condition and results of operations for one quarter or a series of quarters. The
Company's expense levels are based in part on its expectations regarding future
sales and are fixed in the short term to a large extent. Therefore, the Company
may be unable to adjust spending in a timely manner to compensate for any
unexpected shortfall in sales. Any significant decline in demand relative to the
Company's expectations or any material delay of customer orders could have a
material adverse effect on the Company's business, financial condition and
results of operations. There can be no assurance that the Company will be able
to sustain profitability on a quarterly or annual basis. In addition, the
Company has had, and in some future quarter may have operating results below the
expectations of public market analysts and investors. In such event, the price
of the Company's common stock would likely be materially and adversely affected.
See "Potential Volatility of Stock Price".
The Company's products are covered by warranties and the Company is subject
to contractual commitments concerning its products. If unexpected circumstances
arise such that the product does not perform as intended and the Company is not
successful in resolving product quality or performance issues, there could be an
adverse effect on the Company's business, financial condition and results of
operations. In particular, during the fourth quarter, the Company was notified
by one of its major customers of an intermittent problem involving one of its
products that is installed in the field. The Company believes it has identified
a firmware fix for this problem and may be required to share in the expense
associated with this upgrade.
Potential Volatility of Stock Price. The trading price of the Company's
common stock could be subject to wide fluctuations in response to
quarter-to-quarter variations in operating results, announcements of
technological innovations or new products by the Company or its competitors,
developments with respect to patents or proprietary rights, general conditions
in the telecommunication network access and equipment industries, changes in
earnings estimates by analysts, or other events or factors. In addition, the
stock market has experienced extreme price and volume fluctuations, which have
particularly affected the market prices of many technology companies and which
have often been unrelated to the operating performance of such companies.
Company-specific factors or broad market fluctuations may materially adversely
affect the market price of the Company's common stock. The Company has
experienced significant fluctuations in its stock price and share trading volume
since its initial public offering in June 1996. There is no assurance that such
fluctuations will not continue.
Dependence on Recently Introduced Products and Products Under
Development. The Company's future results of operations are highly dependent on
market acceptance of existing and future applications for both the Company's
Access System 2000 and the Access System 3000 product lines. The Access System
2000 product line represented approximately 67% of sales in fiscal 1999, 86% of
sales in fiscal 1998 and 80% of sales in fiscal 1997. Market acceptance of both
the Company's current and future product lines is dependent on a number of
factors, not all of which are in the Company's control, including the continued
growth in the use of
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bandwidth intensive applications, continued deployment of new telecommunications
services, market acceptance of integrated access devices in general, the
availability and price of competing products and technologies, and the success
of the Company's sales efforts. Failure of the Company's products to achieve
market acceptance would have a material adverse effect on the Company's
business, financial condition and results of operations. Failure to introduce
new products in a timely manner could cause companies to purchase products from
competitors and have a material adverse effect on the Company's business,
financial condition and results of operations. Due to a variety of factors, the
Company may experience delays in developing its planned products. New products
may require additional development work, enhancement, testing or further
refinement before the Company can make them commercially available. The Company
has in the past experienced delays in the introduction of new products, product
applications and enhancements due to a variety of internal factors, such as
reallocation of priorities, difficulty in hiring sufficient qualified personnel
and unforeseen technical obstacles, as well as changes in customer requirements.
Such delays have deferred the receipt of revenue from the products involved. If
the Company's products have performance, reliability or quality shortcomings,
then the Company may experience reduced orders, higher manufacturing costs,
delays in collecting accounts receivable and additional warranty and service
expenses.
Risks Associated with the Acquisition of TxPort. In addition to risks
described below under "Risks Associated With Potential Acquisitions," the
Company faces significant risks associated with its recent acquisition of TxPort
and related reduction in workforce associated with the acquisition. There can be
no assurance that the Company will realize the desired benefits of this
acquisition. In order to successfully integrate TxPort, the Company must, among
other things, continue to attract and retain key personnel, integrate the
acquired products and technology from engineering, sales and marketing
perspectives, and consolidate functions and facilities. Difficulties encountered
in the integration may have a material adverse effect on the Company's business,
financial condition and results of operations.
The Company applied the purchase method of accounting in connection with
its acquisition of TxPort, resulting in a charge to be taken in each of the next
three to ten years for the amortization of intangible assets.
Risks Associated with Year 2000. There can be no assurances that the
Company's current products do not contain undetected errors or defects
associated with year 2000 date functions that may result in material costs or
liabilities to the Company. In addition, there can be no assurances that the
Company's current products do not contain undetected errors or defects
associated with year 2000 date functions that may result in material costs to
the Company. Moreover, the Company's products directly and indirectly interact
with a large number of other hardware and software systems could contain defects
associated with the year 2000 date. The Company is unable to predict to what
extent its business may be affected if its software or the systems that operate
in conjunction with its products experience a material year 2000 related
failure. Any year 2000 defect in the Company's products or the software and
hardware systems with which the Company's products operate could expose the
Company to litigation that could have a material adverse impact on the Company.
The risks of such litigation may be particularly acute due to the
mission-critical applications for which the Company's products are used. Some
commentators have stated that a significant amount of litigation will arise out
of year 2000 compliance issues, and the Company is aware of a growing number of
lawsuits against other software vendors. Because of the unprecedented nature of
such litigation, it is uncertain whether or to what extent the Company may be
affected by it.
The Company could also experience serious unanticipated negative
consequences caused by undetected year 2000 defects in its internal systems,
including third party software and hardware products. Internal systems are
primarily composed of third-party software and third-party hardware which
contain embedded software and the Company's own software products. For example,
the Company could experience a (i) corruption of data contained in the Company's
internal information systems or a (ii) failure of hardware, software, or other
information technology systems, causing an interruption or failure of normal
business operations. Any such events could have a material adverse impact on the
Company. In addition, the Company could experience serious unanticipated
negative consequences caused by the failure of services or products provided by
third parties that are critical to the continued day-to-day operations of the
Company, such as electrical power, telecommunications services, and shipping
services (particularly outside of countries such as
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the United States where year 2000 remediation has progressed the furthest),
which consequences could have a material adverse effect on the Company's
business operations.
In addition, a widely-predicted freeze in deployment of new communications
systems by large corporations in the second half of calendar year 1999 related
to remediation of the Y2K problem could result in an unusual fluctuation of
orders, in which an unusually large number of orders are received in the middle
of 2000, followed by an unusual decrease in orders in subsequent quarters.
Enterprise Resource Planning (ERP). The Company went live in March 1999
with an upgrade to its enterprise-wide database and information management
systems, based principally on software from Oracle. This change in systems and
processes was substantial, and involved significant outside contract resources
to implement. Due to the relative immaturity of this system implementation and
the need to move it to Huntsville, Alabama, problems with the system, due to
software or configuration problems, or lack of trained personnel could cause
delays in order processing, shipments of products, and in the accumulation and
analysis of financial data. There can be no assurance that these problems, if
they occur, will not have an adverse effect on the Company's business, financial
condition, and results from operations.
Competition. The market for telecommunications network access equipment is
highly competitive, and the Company expects competition to increase in the
future. This market is subject to rapid technological change, regulatory
developments, and new entrants. The market for integrated access devices such as
the Company's Access System product line is subject to rapid change. The Company
believes that the primary competitive factors in this market are the development
and rapid introduction of new product features, price and performance, support
for multiple types of communications services, network management, reliability,
and quality of customer support. There can be no assurance that the Company's
current products and future products under development will be able to compete
successfully with respect to these or other factors. The Company's principal
competition to date for its current Access System 2000 products has been from
Digital Link Corporation, Kentrox, a division of ADC Telecommunications and
Larscom, Inc., a subsidiary of Axel Johnson. In addition, the Company expects
substantial competition from companies in the computer networking market and
other related markets such as Newbridge Networks Corporation, Telco Systems,
Inc., a division of World Access, Inc., Visual Networks Inc., and Adtran, Inc.
To the extent that current or potential competitors can expand their current
offerings to include products that have functionality similar to the Company's
products and planned products, the Company's business, financial condition and
results of operations could be materially adversely affected.
The Company believes that the market for basic network termination products
is mature and that the principal competitive factors in this market are price,
installed base and quality of customer support. In this market, the Company
primarily competes with Adtran, Digital Link, Kentrox, Paradyne and Larscom.
There can be no assurance that such companies or other competitors will not
introduce new products that provide greater functionality and/or at a lower
price than the Company's like products. In addition, advanced termination
products are emerging which represent both new market opportunities as well as a
threat to current products. Furthermore, basic line termination functions are
increasingly being integrated by competitors, such as Cisco and Nortel Networks,
into other equipment such as routers and switches. These include direct WAN
interfaces in certain products, eroding the addressable market for separate
network termination products.
Many of the Company's current and potential competitors have substantially
greater technical, financial, manufacturing and marketing resources than the
Company. In addition, many of the Company's competitors have long-established
relationships with network service providers. There can be no assurance that the
Company will have the financial resources, technical expertise, manufacturing,
marketing, distribution and support capabilities to compete successfully in the
future.
Rapid Technological Change. The network access and telecommunications
equipment markets are characterized by rapidly changing technologies and
frequent new product introductions. The rapid development of new technologies
increases the risk that current or new competitors could develop products that
would reduce the competitiveness of the Company's products. The Company's
success will depend to a substantial degree upon its ability to respond to
changes in technology and customer requirements. This will require the timely
selection, development and marketing of new products and enhancements on a
cost-effective basis. The
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development of new, technologically advanced products is a complex and uncertain
process, requiring high levels of innovation. The development of new products
for the WAN access market requires competence in the general areas of telephony,
data networking, network management and wireless telephony as well as specific
technologies such as DSL, ISDN, Frame Relay, ATM and IP. Furthermore, the
communications industry is characterized by the need to design products which
meet industry standards for safety, emissions and network interconnection. With
new and emerging technologies and service offerings from network service
providers, such standards are often changing or unavailable. As a result, there
is a potential for product development delays due to the need for compliance
with new or modified standards. The introduction of new and enhanced products
also requires that the Company manage transitions from older products in order
to minimize disruptions in customer orders, avoid excess inventory of old
products and ensure that adequate supplies of new products can be delivered to
meet customer orders. There can be no assurance that the Company will be
successful in developing, introducing or managing the transition to new or
enhanced products, or that any such products will be responsive to technological
changes or will gain market acceptance. The Company's business, financial
condition and results of operations would be materially adversely affected if
the Company were to be unsuccessful, or to incur significant delays in
developing and introducing such new products or enhancements. See "Dependence on
Recently Introduced Products and Products under Development".
Compliance with Regulations and Evolving Industry Standards. The market for
the Company's products is characterized by the need to meet a significant number
of communications regulations and standards, some of which are evolving as new
technologies are deployed. In the United States, the Company's products must
comply with various regulations defined by the Federal Communications Commission
and standards established by Underwriters Laboratories and Bell Communications
Research. For some public carrier services, installed equipment does not fully
comply with current industry standards, and this noncompliance must be addressed
in the design of the Company's products. Standards for new services such as
frame relay, performance monitoring services and ATM are still evolving. 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 the Company's products,
which could have a material adverse effect on the Company's business, financial
condition and results of operations.
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
telecommunications products that support such services. Tariff rates, whether
determined by network service providers or in response to regulatory directives,
may affect the cost effectiveness of deploying communication services. Such
policies also affect demand for telecommunications equipment, including the
Company's products.
Risks Associated With Potential Acquisitions. An important element of the
Company's strategy is to review acquisition prospects that would compliment its
existing product offerings, augment its market coverage, enhance its
technological capabilities or offer growth opportunities. Future acquisitions by
the Company could result in potentially dilutive issuance of equity securities,
use of cash and/or the incurring of debt and the assumption of contingent
liabilities, any of which could have a material adverse effect on the Company's
business and operating results and/or the price of the Company's common stock.
Acquisitions entail numerous risks, including difficulties in the assimilation
of acquired operations, technologies and products, diversion of management's
attention from other business concerns, risks of entering markets in which the
Company has limited or no prior experience and potential loss of key employees
of acquired organizations. The Company's management has limited prior experience
in assimilating acquired organizations. No assurance can be given as to the
ability of the Company to successfully integrate any businesses, products,
technologies or personnel that might be acquired in the future, and the failure
of the Company to do so could have a material adverse effect on the Company's
business and operating results.
Risks Associated With Entry into International Markets. The Company to date
has had minimal direct sales to customers outside of North America. The Company
has little experience in the European and Far
26
27
Eastern markets, but intends to expand sales of its products outside of North
America and to enter certain international markets, which will require
significant management attention and financial resources. Conducting business
outside of North America is subject to certain risks, including longer payment
cycles, unexpected changes in regulatory requirements and tariffs, difficulties
in staffing and managing foreign operations, greater difficulty in accounts
receivable collection and potentially adverse tax consequences. To the extent
any Company sales are denominated in foreign currency, the Company's sales and
results of operations may also be directly affected by fluctuations in foreign
currency exchange rates. In order to sell its products internationally, the
Company must meet standards established by telecommunications authorities in
various countries, as well as recommendations of the Consultative Committee on
International Telegraph and Telephony. A delay in obtaining, or the failure to
obtain, certification of its products in countries outside the United States
could delay or preclude the Company's marketing and sales efforts in such
countries, which could have a material adverse effect on the Company's business,
financial condition and results of operations.
Risk of Third Party Claims of Infringement. The network access and
telecommunications equipment industries are 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 exclusive patent,
copyright, trademark and other intellectual property rights to technologies that
are important to the Company. The Company has not conducted a formal patent
search relating to the technology used in its products, due in part to the high
cost and limited benefits of a formal search. In addition, since patent
applications in the United States are not publicly disclosed until the related
patent is issued and foreign patent applications generally are not publicly
disclosed for at least a portion of the time that they are pending, applications
may have been filed which, if issued as patents, could relate to the Company's
products. Software comprises a substantial portion of the technology in the
Company's products. The scope of protection accorded to patents covering
software-related inventions is evolving and is subject to a degree of
uncertainty which may increase the risk and cost to the Company if the Company
discovers third party patents related to its software products or if such
patents are asserted against the Company in the future. Patents have been
granted recently on fundamental technologies in software, and patents may be
issued which relate to fundamental technologies incorporated into the Company's
products. The Company has received and may receive in the future communications
from third parties asserting that the Company's products infringe or may
infringe the proprietary rights of third parties. In its distribution
agreements, the Company typically agrees to indemnify its customers for any
expenses or liabilities resulting from claimed infringements of patents,
trademarks or copyrights of third parties. In the event of litigation to
determine the validity of any third-party claims, such litigation, whether or
not determined in favor of the Company, could result in significant expense to
the Company and divert the efforts of the Company's technical and management
personnel from productive tasks. In the event of an adverse ruling in such
litigation, the Company might be required to discontinue the use and sale of
infringing products, expend significant resources to develop non-infringing
technology or obtain licenses from third parties. There can be no assurance that
licenses from third parties would be available on acceptable terms, if at all.
In the event of a successful claim against the Company and the failure of the
Company to develop or license a substitute technology, the Company's business,
financial condition and results of operations would be materially adversely
affected.
Limited Protection of Intellectual Property. The Company relies upon a
combination of patent, trade secret, copyright and trademark laws and
contractual restrictions to establish and protect proprietary rights in its
products and technologies. The Company has been issued certain U.S. and Canadian
patents with respect to limited aspects of its single purpose network access
technology. The Company has not obtained significant patent protection for its
Access System technology. There can be no assurance that third parties have not
or will not develop equivalent technologies or products without infringing the
Company's patents or that the Company's patents would be held valid and
enforceable by a court having jurisdiction over a dispute involving such
patents. The Company has also entered into confidentiality and invention
assignment agreements with its employees and independent contractors, and enters
into non-disclosure agreements with its suppliers, distributors and appropriate
customers so as to limit access to and disclosure of its proprietary
information. There can be no assurance that these statutory and contractual
arrangements will deter misappropriation of the Company's technologies or
discourage independent third-party development of similar technologies. In the
event such arrangements are insufficient, the Company's business, financial
condition and results of operations
27
28
could be materially adversely affected. The laws of certain foreign countries in
which the Company's products are or may be developed, manufactured or sold may
not protect the Company's products or intellectual property 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 products more likely.
Antitakeover Effects of Certain Charter Provisions. The Company's Board of
Directors has the authority to issue up to 1,000,000 shares of Preferred Stock
and to determine the price, rights, preferences and privileges of those shares
without any further vote or action by the stockholders. The rights of the
holders of common stock will be subject to, and may be adversely affected by,
the rights of the holders of any Preferred Stock that may be issued in the
future. The issuance of shares of Preferred Stock, while potentially providing
desirable flexibility in connection with possible acquisitions and other
corporate purposes, could have the effect of making it more difficult for a
third party to acquire a majority of the outstanding voting stock of the
Company. The Company has no present intention to issue shares of Preferred
Stock. In addition, the Company is subject to the anti-takeover provisions of
Section 203 of the Delaware General Corporation Law, which will prohibit the
Company from engaging in a "business combination" with an "interested
stockholder" for a period of three years after the date of the transaction in
which the person became an interested stockholder, unless the business
combination is approved in a prescribed manner. The application of Section 203
also could have the effect of delaying or preventing a change of control of the
Company. Furthermore, certain provisions of the Company's Amended and Restated
Certificate of Incorporation, including provisions that provide for the Board of
Directors to be divided into three classes to serve for staggered three-year
terms, may have the effect of delaying or preventing a change of control of the
Company, which could adversely affect the market price of the Company's common
stock.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
At June 27, 1999, the Company's investment portfolio consisted of fixed
income securities of $11.6 million. See Note 5 of "Notes to Consolidated
Financial Statements". These securities, like all fixed income instruments, are
subject to interest rate risk and will decline in value if market interest rates
increase. If market interest rates were to increase immediately and uniformly by
10% from levels as of June 27, 1999, the decline in the fair value of the
portfolio would not be material. Additionally, the Company has the ability to
hold its fixed income investments until maturity and therefore, the Company
would not expect to recognize such an adverse impact in income or cash flows.
The Company invests cash balances in excess of operating requirements in
short-term securities, generally with maturities of 90 days or less. The Company
believes that the effect, if any, of reasonably possible near-term changes in
interest rates on the Company's financial position, results of operations and
cash flows would not be material.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The chart entitled "Financial Information by Quarter (Unaudited)" contained
in Item 6 of Part II hereof is hereby incorporated by reference into this Item 8
of Part II of this form 10-K.
28
29
VERILINK CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
AND FINANCIAL STATEMENT SCHEDULE
CONSOLIDATED FINANCIAL STATEMENTS INCLUDED IN ITEM 8:
PAGE
----
Report of Independent Accountants........................... 30
Consolidated Balance Sheets as of June 27, 1999 and June 28,
1998...................................................... 31
Consolidated Statements of Operations for each of the three
years in the period ended
June 27, 1999............................................. 32
Consolidated Statements of Cash Flows for each of the three
years in the period ended
June 27, 1999............................................. 33
Consolidated Statements of Stockholders' Equity for each of
the three years in the period ended June 27, 1999......... 34
Notes to Consolidated Financial Statements.................. 35
Schedule for each of the three years in the period ended
June 27, 1999 included in Item 14(a):
II -- Valuation and Qualifying Accounts and Reserves...... 53
Schedules other than those listed above have been omitted since the
required information is not present or not present in amounts sufficient to
require submission of the schedule, or because the information required is
included in the consolidated financial statements or the notes thereto.
29
30
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of Verilink Corporation
In our opinion, the consolidated financial statements listed in the
accompanying index present fairly, in all material respects, the financial
position of Verilink Corporation and its subsidiaries at June 27, 1999 and June
28, 1998, and the results of their operations and their cash flows for each of
the three years in the period ended June 27, 1999, in conformity with generally
accepted accounting principles. 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 generally accepted auditing
standards, 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 the opinion expressed above.
/s/ PricewaterhouseCoopers LLP
- ---------------------------------------------------------
PricewaterhouseCoopers LLP
San Jose, California
July 21, 1999, except as to
Note 9 which is as
of September 22, 1999
30
31
VERILINK CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
ASSETS
JUNE 27, JUNE 28,
1999 1998
-------- --------
Current assets:
Cash and cash equivalents................................. $ 6,365 $16,304
Restricted cash........................................... 515 --
Short-term investments.................................... 11,596 26,111
Accounts receivable, net of allowances of $205 and $62.... 9,161 5,992
Inventories............................................... 6,864 4,900
Notes receivable.......................................... 3,561 --
Deferred tax assets....................................... -- 1,532
Other current assets...................................... 2,040 342
------- -------
Total current assets.............................. 40,102 55,181
Property and equipment, net................................. 7,706 7,047
Deferred tax assets......................................... -- 436
Goodwill and other intangible assets........................ 5,337 --
Other assets................................................ 1,136 1,164
------- -------
$54,281 $63,828
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 2,818 $ 2,527
Accrued expenses.......................................... 11,324 6,747
Income taxes payable...................................... -- 744
------- -------
Total liabilities................................. 14,142 10,018
------- -------
Commitments and contingencies (Note 10)
Stockholders' equity:
Preferred Stock, $0.01 par value, 1,000,000 shares
authorized; no shares issued and outstanding........... -- --
Common Stock, $0.01 par value; 40,000,000 shares
authorized; 14,113,398 and 13,821,649 shares issued and
outstanding............................................ 141 138
Additional paid-in capital................................ 45,935 45,143
Notes receivable from stockholders........................ (1,288) (1,260)
Treasury stock; 3,637,210 shares and 3,352,710 shares of
Common Stock at cost................................... (8,257) (7,320)
Deferred compensation related to stock options............ (101) (266)
Retained earnings......................................... 3,709 17,375
------- -------
Total stockholders' equity........................ 40,139 53,810
------- -------
$54,281 $63,828
======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
31
32
VERILINK CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
THREE YEARS ENDED JUNE 27,
------------------------------
1999 1998 1997
-------- ------- -------
Net sales................................................... $ 59,553 $50,915 $57,170
Cost of sales............................................... 31,824 25,794 28,325
-------- ------- -------
Gross profit................................................ 27,729 25,121 28,845
-------- ------- -------
Operating expenses:
Research and development.................................. 13,391 12,484 9,373
Selling, general and administrative....................... 22,709 16,382 14,640
In-process research and development charge related to
acquisition............................................ 3,330 -- --
Restructuring charge...................................... 3,200 -- --
-------- ------- -------
Total operating expenses.......................... 42,630 28,866 24,013
-------- ------- -------
Income (loss) from operations............................... (14,901) (3,745) 4,832
Interest and other income, net.............................. 1,235 2,066 2,043
-------- ------- -------
Income (loss) before income taxes........................... (13,666) (1,679) 6,875
Provision for (benefit from) income taxes................... -- (608) 2,681
-------- ------- -------
Net income (loss)........................................... $(13,666) $(1,071) $ 4,194
======== ======= =======
Net income (loss) per share:
Basic..................................................... $ (0.98) $ (0.08) $ 0.31
======== ======= =======
Diluted................................................... $ (0.98) $ (0.08) $ 0.29
======== ======= =======
Weighted average common shares:
Basic..................................................... 13,929 13,742 13,324
======== ======= =======
Diluted................................................... 13,929 13,742 14,289
======== ======= =======
The accompanying notes are an integral part of these consolidated financial
statements.
32
33
VERILINK CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
THREE YEARS ENDED JUNE 27,
-------------------------------
1999 1998 1997
-------- -------- -------
Cash flows from operating activities:
Net income (loss)......................................... $(13,666) $ (1,071) $ 4,194
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization.......................... 3,419 2,312 1,394
Deferred income taxes.................................. 1,968 (395) (145)
Tax benefit from exercise of stock options............. -- 271 897
Deferred compensation related to stock options......... 165 95 261
Accrued interest on notes receivable from
stockholders......................................... (63) (174) (71)
In-process research and development.................... 3,330 -- --
Changes in assets and liabilities net of effects of
acquisition of TxPort, Inc.:
Accounts receivable.................................. (537) 2,470 (2,280)
Inventories.......................................... (254) (447) 499
Other assets......................................... (1,688) (964) 42
Accounts payable..................................... (662) 1,269 (941)
Accrued expenses..................................... 1,547 1,667 135
Income taxes payable................................. (744) 162 (258)
-------- -------- -------
Net cash provided by (used in) operating
activities...................................... (7,185) 5,195 3,727
-------- -------- -------
Cash flows from investing activities:
Purchase of property and equipment........................ (2,586) (2,752) (6,471)
Sale (purchase) of short-term investments................. 14,515 (23,668) (2,454)
Issuance of loan to director.............................. (3,561) -- --
Acquisition of TxPort, Inc................................ (10,500) -- --
-------- -------- -------
Net cash provided by (used in) investing
activities...................................... (2,132) (26,420) (8,925)
-------- -------- -------
Cash flows from financing activities:
Proceeds from issuance of Common Stock, net............... 795 933 797
Repurchase of Common Stock................................ (937) -- --
Proceeds from repayment of notes receivable from
stockholders........................................... 35 -- 455
-------- -------- -------
Net cash provided by (used in) financing
activities...................................... (107) 933 1,252
-------- -------- -------
Net decrease in cash and cash equivalents................... (9,424) (20,292) (3,946)
Cash and cash equivalents and restricted cash at beginning
of year................................................... 16,304 36,596 40,542
-------- -------- -------
Cash and cash equivalents and restricted cash at end of
year...................................................... $ 6,880 $ 16,304 $36,596
======== ======== =======
Supplemental disclosures:
Cash paid for (refund from) income taxes.................. $ (307) $ 92 $ 2,042
The accompanying notes are an integral part of these consolidated financial
statements.
33
34
VERILINK CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
DEFERRED
NOTES COMPENSATION
COMMON STOCK ADDITIONAL RECEIVABLE RELATED
------------------- PAID-IN FROM TREASURY TO STOCK RETAINED
SHARES AMOUNT CAPITAL STOCKHOLDERS STOCK OPTIONS EARNINGS TOTAL
---------- ------ ---------- ------------ -------- ------------ -------- --------
Balance at June 30, 1996........ 13,122,833 $131 $42,432 $(1,445) $(7,320) $(816) $ 14,252 $ 47,234
Issuance of Common Stock under
stock plans................... 463,453 5 817 (25) -- -- -- 797
Amortization of deferred
compensation................ -- -- -- -- -- 261 -- 261
Reversal of deferred
compensation related to
forfeited stock options....... -- -- (205) -- -- 205 -- --
Accrued interest on notes
receivable from
stockholders.................. -- -- -- (71) -- -- -- (71)
Repayment of notes receivable
from stockholders............. -- -- -- 455 -- -- -- 455
Tax benefit of stock options.... -- -- 897 -- -- -- -- 897
Net income...................... -- -- -- -- -- -- 4,194 4,194
---------- ---- ------- ------- ------- ----- -------- --------
Balance at June 29, 1997........ 13,586,286 136 43,941 (1,086) (7,320) (350) 18,446 53,767
Issuance of Common Stock under
stock plans................... 235,363 2 931 -- -- -- -- 933
Amortization of deferred
compensation.................. -- -- -- -- -- 84 -- 84
Accrued interest on notes
receivable from
stockholders.................. -- -- -- (174) -- -- -- (174)
Tax benefit of stock options.... -- -- 271 -- -- -- -- 271
Net loss........................ -- -- -- -- -- -- (1,071) (1,071)
---------- ---- ------- ------- ------- ----- -------- --------
Balance at June 28, 1998........ 13,821,649 138 45,143 (1,260) (7,320) (266) 17,375 53,810
Issuance of Common Stock under
stock plans................... 291,749 3 792 -- -- -- -- 795
Purchase of treasury stock...... -- -- -- -- (937) -- -- (937)
Amortization of deferred
compensation.................. -- -- -- -- -- 165 -- 165
Accrued interest on notes
receivable from
stockholders.................. -- -- -- (63) -- -- -- (63)
Repayment of notes receivable
from stockholders............. -- -- -- 35 -- -- -- 35
Net loss........................ -- -- -- -- -- -- (13,666) (13,666)
---------- ---- ------- ------- ------- ----- -------- --------
Balance at June 27, 1999........ 14,113,398 $141 $45,935 $(1,288) $(8,257) $(101) $ 3,709 $ 40,139
========== ==== ======= ======= ======= ===== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
34
35
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE YEARS ENDED JUNE 27, 1999
NOTE 1 -- THE COMPANY AND A SUMMARY OF ITS SIGNIFICANT ACCOUNTING POLICIES:
THE COMPANY
Verilink Corporation (the "Company"), a Delaware Corporation, was
incorporated in 1982. The Company develops, manufactures and markets integrated
access products and customer premise equipment products (CPE) for use by
telecommunications network service providers ("NSPs") and corporate end users on
wide area networks. The Company's integrated network access and customer premise
equipment products are used by network service providers such as interexchange
and local exchange carriers, and providers of Internet, personal communications
and cellular services to provide seamless connectivity and interconnect for
multiple traffic types on wide area networks ("WANs").
MANAGEMENT ESTIMATES AND ASSUMPTIONS
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries in the United Kingdom and Barbados. All
significant intercompany accounts and transactions have been eliminated.
The Company's fiscal year ends on the Sunday nearest June 30. Fiscal 1999,
1998 and 1997 ended June 27, June 28, and June 29 respectively, and consisted of
52 weeks. References to 1999, 1998, and 1997 shall be to the respective fiscal
year unless otherwise stated or the context otherwise requires.
FOREIGN CURRENCY
The functional currency of the Company's foreign subsidiaries is the local
currency. The balance sheet accounts are translated into United States dollars
at the exchange rate prevailing at the balance sheet date. Revenues, costs and
expenses are translated into United States dollars at average rates for the
period. Gains and losses resulting from translation are accumulated as a
component of stockholders' equity and to date have not been material. Net gains
and losses resulting from foreign exchange transactions are included in the
consolidated statements of operations and were not significant during any of the
periods presented.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid instruments with a maturity of
three months or less when purchased to be cash equivalents.
SHORT-TERM INVESTMENTS
The Company classifies its investment securities as available for sale.
Realized gains or losses are determined on the specific identification method
and are reflected in income. Net unrealized gains or losses are recorded
directly in stockholders' equity except those unrealized losses which are deemed
to be other than temporary which are reflected in the statements of operations.
No such losses were recorded during any of the periods presented.
35
36
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
INVENTORIES
Inventories are stated at the lower of cost, determined using the first-in,
first-out method, or market.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method over the estimated useful lives of the assets,
generally two to five years. Leasehold improvements are amortized using the
straight-line method over the lesser of the estimated useful lives of the assets
or the remaining lease term.
REVENUE RECOGNITION
The Company recognizes a sale when the product has been shipped, no
material vendor or post-contract support obligations remain outstanding, except
as provided by a separate service agreement, and collection of the resulting
receivable is probable. The Company accrues related product return reserves,
warranty and royalty expenses at the time of sale. The Company extends limited
product return and price protection rights to certain distributors and
resellers. Such rights are generally limited to a certain percentage of sales
over a prior six-month period. The Company warrants its products for a five-year
period.
The following table summarizes the percentage of total sales for customers
accounting for more than 10% of the Company's sales:
THREE YEARS ENDED JUNE 27,
---------------------------
1999 1998 1997
----- ----- -----
Nortel, Inc................................................. 17% 20% 22%
MCIWorldCom(*).............................................. 27% 31% 33%
Ericsson(**)................................................ -- 12% --
- ---------------
(*) In September 1998, MCI and WorldCom completed their merger and now operate
under the name MCIWorldCom. Percentages of total revenue have been restated
for 1999 and prior years as if the merger had been in effect for all
periods presented.
(**) In May 1999, Ericsson completed its acquisition of Qualcomm's terrestrial
Code Division Multiple Access wireless infrastructure business. Percentages
of total revenue have been restated for fiscal 1999 and prior years as if
the acquisition had been in effect for all periods presented.
CONCENTRATIONS OF CREDIT RISK
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist primarily of cash and cash equivalents,
short-term investments and accounts receivable. The Company limits the amount of
investment exposure to any one financial institution and financial instrument.
The Company's trade accounts receivables are derived from sales to customers
primarily in North America. The Company performs credit evaluations of its
customers' financial condition and, generally, requires no collateral from its
customers. The Company maintains reserves for potential credit losses based upon
the expected collectibility of the accounts receivable. Historically such losses
have been immaterial.
36
37
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
The following table summarizes accounts receivable from customers
comprising 10% or more of the gross accounts receivable balance as of the dates
indicated:
JUNE 27, JUNE 28, JUNE 29,
1999 1998 1997
-------- -------- --------
Nortel Networks......................................... 12% 26% 34%
MCIWorldCom(*).......................................... 16% 26% 32%
Ericsson(**)............................................ -- 19% --
- ---------------
(*) In September 1998, MCI and WorldCom completed their merger and now operate
under the name MCIWorldCom. Percentages of total revenue have been restated
for 1999 and prior years as if the merger had been in effect for all
periods presented.
(**) In May 1999, Ericsson completed its acquisition of Qualcomm's terrestrial
Code Division Multiple Access wireless infrastructure business. Percentages
of total revenue have been restated for fiscal 1999 and prior years as if
the acquisition had been in effect for all periods presented.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred.
SOFTWARE DEVELOPMENT COSTS
Software development costs are included in research and development and are
expensed as incurred. Statement of Financial Accounting Standards No. 86
requires the capitalization of certain software development costs incurred
subsequent to the date technological feasibility is established, which the
Company defines as the completion of a working model, and prior to the date the
product is generally available for sale. To date, the period between achieving
technological feasibility and the general availability of such software has been
short and software development costs qualifying for capitalization have been
insignificant. Accordingly, the Company has not capitalized any software
development costs.
INCOME TAXES
A deferred income tax liability or asset, net of valuation allowance, is
established for the expected future tax consequences resulting from the
differences between the financial reporting and income tax bases of the
Company's assets and liabilities and from tax credit carryforwards.
STOCK-BASED COMPENSATION
The Company accounts for stock-based awards to employees using the
intrinsic value method in accordance with Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" ("APB 25"), as permitted
under the provisions of SFAS No. 123, "Accounting for Stock-Based Compensation"
("SFAS 123"). Under APB 25, if the exercise price of the Company's employee
stock options equals the market price of the underlying stock on the date of
grant, no compensation expense is recognized.
37
38
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
EARNINGS PER SHARE
Basic net income (loss) per share is computed by dividing net income (loss)
available to common stockholders (numerator) by the weighted average number of
common shares outstanding (denominator) during the period. Diluted net income
(loss) per share gives effect to all dilutive potential common shares
outstanding during a period. In computing diluted net income (loss) per share,
the average price of the Company's Common Stock for the period is used in
determining the number of shares assumed to be purchased from exercise of stock
options. Following is a reconciliation of the numerators and denominators of the
basic and diluted net income (loss) per share for the years ended June 27, 1999,
June 28, 1998, and June 29, 1997.
1999 1998 1997
-------- ------- -------
Net income (loss) as reported [numerator]............ $(13,666) $(1,071) $ 4,194
-------- ------- -------
Shares calculation [denominator]:
Weighted shares outstanding -- Basic................. 13,929 13,742 13,324
Effect of dilutive securities:
Potential common stock from the exercise of stock
options............................................ -- -- 965
-------- ------- -------
Weighted shares outstanding -- Diluted............... 13,929 13,742 14,289
======== ======= =======
Basic net income (loss) per share.................... $ (0.98) $ (0.08) $ 0.31
======== ======= =======
Diluted net income (loss) per share.................. $ (0.98) $ (0.08) $ 0.29
======== ======= =======
Options to purchase 2,855,405, 1,833,134 and 606,676 shares of common stock
were outstanding at June 27, 1999, June 28, 1998 and June 29, 1997 respectively,
but were not included in the computation of diluted net income (loss) per share
because inclusion of such options would have been antidilutive.
COMPREHENSIVE INCOME (LOSS)
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" ("SFAS 130") during fiscal 1999. FAS 130
establishes standards for reporting comprehensive income and its components in a
financial statement that is displayed with the same prominence as other
financial statements. Comprehensive income, as defined, includes all changes in
equity (net assets) during a period from non-owner sources. Examples of items to
be included in comprehensive income, which are excluded from net income, include
foreign currency translation adjustments and unrealized gain/loss on
available-for-sale securities. The Company's reported net income (loss)
approximates its comprehensive net income (loss) for each of the periods
presented.
SEGMENT INFORMATION
During fiscal 1999, the Company adopted Statement of Financial Accounting
Standards No. 131, "Disclosures About Segments of an Enterprise and Related
Information" ("SFAS 131"). This statement establishes standards for the way
companies report information about operating segments in annual financial
statements. It also establishes standards for related disclosures about products
and services, geographic areas, and major customers. The Company is organized
and operates as one operating segment and is engaged in the development,
manufacture and marketing of integrated access products for telecommunications
network service providers and corporate end users. The Company also operates in
one geographic area, the United States.
38
39
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative
Instruments and Hedging Activities," which will be effective for fiscal years
beginning after June 15, 2000. SFAS 133 establishes new standards of accounting
and reporting for derivative instruments and hedging activities. SFAS 133
requires that all derivatives be recognized at fair value in the statement of
financial position, and that the corresponding gains or losses be reported
either in the statement of operations or as a component of comprehensive income,
depending on the type of hedging relationship that exists. The Company currently
does not hold derivative instruments or engage in hedging activities.
In March 1998, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position ("SOP") 98-1, "Accounting for the Cost of
Computer Software Developed or Obtained for Internal Use ("SOP 98-1"). SOP 98-1
is effective for financial statements for years beginning after December 15,
1998. SOP 98-1 provides guidance over accounting for computer software developed
or obtained for internal use including the requirement to capitalize specified
costs and amortization of such costs. The adoption of this standard will not
have a material impact on the Company's results of operations, financial
position or cash flows.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of cash, cash equivalents, short-term investments and
other current assets and liabilities such as accounts receivable, accounts
payable, and accrued liabilities, as presented in the financial statements,
approximate fair value based on the short-term nature of these instruments.
GOODWILL AND OTHER PURCHASED INTANGIBLES
Goodwill, representing the excess of purchase price and acquisition costs
over the fair value of net assets of businesses acquired, and other purchased
intangibles are amortized on a straight-line basis over the estimated economic
lives, which range from three to ten years. Amortization expense relating to
goodwill and other intangible assets was $896,000 for 1999. No amortization
expense with respect to goodwill and other intangible assets was recognized in
1998 and 1997.
LONG-TERM ASSETS
The Company periodically reviews the recoverability of long-term assets
whenever events or changes in circumstances indicate that the carrying amount of
an asset might not be recoverable.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the fiscal
1999 financial statement presentation.
NOTE 2 -- ACQUISITIONS:
On November 16, 1998, the Company acquired TxPort, Inc. ("TxPort") from
Acme-Cleveland Corporation by purchasing all the outstanding shares of TxPort at
a cost of $10,500,000. TxPort is a manufacturer of high-speed voice and data
communications products.
The transaction was accounted for using the purchase method, and the
purchase price was allocated to the assets acquired, including core technology,
and liabilities assumed based on the estimated fair market values at the date of
acquisition. The in-process research and development, which was expensed at the
39
40
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
acquisition date, represented the estimated current fair market value of
specified technologies which had not reached technological feasibility and had
no alternative future uses at the date of acquisition.
At the time of the acquisition the Company was involved in research and
development projects in relation to three areas, enhancement and augmentation of
the CSU product line, enhancement and augmentation of the CSU/DSU product line
and development of packet and frame aware CSU/DSU products along with a virtual
private network product. The in-process research and development of $3.3
million, which was expensed at the acquisition date, represented the estimated
current fair market value of the research and development projects which had not
reached technological feasibility and had no alternative future uses at the date
of acquisition. The value of in-process research and development was determined
by estimating the expected cash flows from the projects once commercially
viable, discounting the net cash flows back to their present value and then
applying a percentage of completion. The net cash flows from the identified
projects were based on management estimates of revenues, cost of sales, research
and development costs, selling, general and administrative costs, and income
taxes from the project. The research and development costs included in the model
reflect costs to sustain the project, but exclude costs to bring the in-process
project to technological feasibility. The estimated revenues were based on
management projections for the projects. Projected gross margins reflect recent
historical performance of other Company products and are in line with industry
expectations. The estimated selling, general and administrative costs, and
research and development costs were estimated excluding synergies expected from
the acquisition.
The discount rate used in discounting the net cash flows from in-process
research and development is 35%. This discount rate reflects the uncertainties
surrounding the successful development of the in-process research and
development, market acceptance of the technology, the useful life of such
technology, the profitability levels of such technology and the uncertainty of
technological advances that could potentially impact the estimates described
above.
The percent of completion for the three project areas was determined by
comparing both effort expected and research and development costs incurred as of
November 1998, to the remaining effort to be expended and research and
development costs to be incurred, based on management's estimates, to bring the
projects to technological feasibility. Based on these comparisons management
estimated the three project areas to be approximately 55%, 35%, and 60% complete
as of the date of acquisition. The projects were substantially completed by June
1999. The effort and costs required to complete the projects approximated the
estimates made by management at the date of acquisition.
Recent actions and comments from the Securities and Exchange Commission
have indicated that they are reviewing the current valuation methodology of
purchased in-process research and development relating to acquisitions. The
Commission is concerned that some companies are writing off more of the value of
an acquisition than is appropriate. The Company believes that it is in
compliance with all of the rules and related guidance as they currently exist.
However, there can be no assurance that the Commission will not seek to reduce
the amount of purchased in-process research and development previously expensed
by the Company. This would result in the restatement of previously filed
financial statements of the Company and could have a material negative impact on
the financial results for the period subsequent to the acquisition.
The results of the operations of TxPort have been included with those of
the Company from the date of acquisition. Intangible assets have been recorded
as other assets, and are being amortized over the estimated
40
41
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
useful lives ranging from three to ten years. The allocation of the purchase
price was as follows (in thousands):
In-process research and development........................ $ 3,330
Intangible assets.......................................... 5,960
Accounts receivable........................................ 2,632
Inventories................................................ 1,710
Other assets............................................... 10
Property and equipment..................................... 841
Liabilities assumed........................................ (3,983)
-------
Total............................................ $10,500
=======
The total purchase price is as follows:
Cash payment............................................... $10,000
Other expenses............................................. 500
-------
Total............................................ $10,500
=======
The following unaudited pro forma financial information is presented to
give effect to the purchase as if the transaction had occurred as of the
beginning of each of the periods presented. The pro forma information gives
effect to certain adjustments, including amortization of goodwill and other
intangibles, based on the value allocated to the assets acquired. In-process
research and development costs of $3,330,000, which were written off immediately
after the purchase was completed, and all non-recurring and related party
transactions have been excluded from the results for both periods presented.
The pro forma information is presented for illustrative purposes only and
does not purport to be indicative of the operating results that would have
occurred had the acquisition been effected for the periods indicated nor is it
indicative of the future operating results of the Company.
YEAR ENDED
------------------------------
JUNE 27, 1999 JUNE 28, 1998
------------- -------------
(IN THOUSANDS, EXCEPT
PER SHARE AMOUNTS)
Pro forma net sales........................................ $ 67,413 $75,136
Pro forma net income (loss)................................ $(11,396) $ 70
Pro forma net income (loss) per share -- Basic............. $ (0.82) $ 0.01
Pro forma net income (loss) per share -- Diluted........... $ (0.82) $ 0.01
Shares used in per share computation -- Basic.............. 13,929 13,742
Shares used in per share computation -- Diluted............ 13,929 14,223
41
42
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
NOTE 3 -- RESTRUCTURING CHARGE:
In March 1999, the Company recorded a pretax restructuring charge of
$3,200,000 in connection with the streamlining of its operations and the
elimination of redundant functions. The action included consolidating certain
manufacturing activities, combining sales and marketing functions, and
integrating certain research and development activities. This resulted in a
reduction in workforce of approximately 52 employees, or 13% of the Company's
total workforce. The components of the restructuring charge, activity during
fiscal 1999 and the remaining accrual at June 27, 1999 are as follows:
RESTRUCTURING RESERVE
(IN THOUSANDS)
REDUCTION IN OTHER
WORKFORCE COSTS TOTAL
------------ ----- ------
Restructuring charge................................... $2,916 $284 $3,200
Fiscal 1999 activity................................... (2,571) (282) (2,853)
------ ---- ------
Ending accrual......................................... $ 345 $ 2 $ 347
====== ==== ======
The charge for reduction in workforce includes severance, related medical
benefits and other termination benefits or obligations to employees. The
workforce reductions were in the sales, marketing, engineering and operations
functions and impacted employees in both California and Alabama.
The charge for other restructuring costs primarily relates to the reserve
of employee loans who were part of the reduction in workforce. Other than
payment of ongoing non-salary employee benefit costs, the restructuring
activities were substantially completed as of June 27, 1999. The balance of the
restructuring accrual is included in accrued expenses on the consolidated
balance sheet and is anticipated to be paid within nine months.
NOTE 4 -- BALANCE SHEET COMPONENTS:
JUNE 27, JUNE 28,
1999 1998
-------- --------
INVENTORIES:
Raw materials............................................. $ 3,453 $ 2,313
Work-in-process........................................... 1,309 926
Finished goods............................................ 2,102 1,661
-------- -------
$ 6,864 $ 4,900
======== =======
PROPERTY AND EQUIPMENT:
Furniture, fixtures and office equipment.................. $ 11,105 $ 7,734
Machinery and equipment................................... 5,517 5,564
Leasehold improvements.................................... 2,894 2,791
-------- -------
19,516 16,089
Less: Accumulated depreciation and amortization........... (11,810) (9,042)
-------- -------
$ 7,706 $ 7,047
======== =======
ACCRUED EXPENSES:
Compensation and related benefits......................... $ 2,631 $ 1,968
Warranty.................................................. 1,877 634
Other..................................................... 6,816 4,145
-------- -------
$ 11,324 $ 6,747
======== =======
42
43
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
NOTE 5 -- RESTRICTED CASH AND SHORT-TERM INVESTMENTS:
As of June 27, 1999, the Company had restricted cash in the form of
certificates of deposit, in the amount of $515,000. The cash is restricted as it
relates to a guarantee provided by the Company to a bank to secure a director's
borrowings from that bank. The Company's short-term investments consist
primarily of municipal and corporate bonds, and auction rate preferred stock and
are stated at fair value in the accompanying balance sheet.
NOTE 6 -- COMMON STOCK:
During fiscal 1999, the Company repurchased 284,500 shares of Common Stock
at prices ranging from $2.56 to $3.84 per share.
NOTE 7 -- INCOME TAXES:
The provision (benefit) for income taxes consists of the following (in
thousands):
THREE YEARS ENDED JUNE 27,
--------------------------
1999 1998 1997
------- ----- ------
Current:
Federal................................................ $ -- $(313) $2,528
State.................................................. -- 100 298
------- ----- ------
-- (213) 2,826
------- ----- ------
Deferred:
Federal................................................ -- (283) (200)
State.................................................. -- (112) 55
------- ----- ------
-- (395) (145)
------- ----- ------
$ -- $(608) $2,681
======= ===== ======
The tax provision reconciles to the amount computed by multiplying income
before tax by the U.S. federal statutory rate of 34% as follows:
THREE YEARS ENDED JUNE 27,
----------------------------
1999 1998 1997
------- ------- ------
Provision at statutory rate................................. (34.0)% (34.0)% 34.0%
State taxes, net of federal benefit......................... -- 3.9 5.1
Change in valuation allowance............................... 25.1 -- --
Credits..................................................... (1.9) (2.7) (2.6)
In-process research and development......................... 8.3 -- --
Goodwill amortization....................................... 1.5 -- --
Other....................................................... 1.0 (3.4) 2.5
----- ----- ----
0.0% (36.2)% 39.0%
===== ===== ====
43
44
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
Deferred tax assets comprise the following (in thousands):
JUNE 27, JUNE 28,
1999 1998
-------- --------
Net operating loss.......................................... $ 1,124 $ --
Credit carryforwards........................................ 479 222
Inventory reserves.......................................... 773 451
Warranty.................................................... 514 263
Other reserves and accruals................................. 1,476 417
Depreciation................................................ 116 369
Other....................................................... 97 246
------- ------
Total deferred tax assets................................... 4,579 1,968
Valuation allowance......................................... (4,579) --
------- ------
Net deferred tax assets..................................... $ -- $1,968
======= ======
At June 27, 1999, the Company established a full valuation allowance
against its deferred tax assets. Prior to June 27, 1999, the Company believed
that, based upon available objective evidence, it was more likely than not that
its deferred tax assets would be realized based on available carryback capacity.
As of June 27, 1999, management believes that due to the Company's recent
history of losses, it is now more likely than not that the deferred tax assets
will not be realized.
During 1999, the valuation allowance increased by $1,155,000 for deferred
tax assets of an acquired business for which uncertainty exists surrounding the
realization of such assets. The valuation allowance will be used to reduce costs
in excess of net assets of the acquired company when any portion of the related
deferred tax assets is recognized.
At June 27, 1999, the Company had net operating loss carryforwards of
approximately $2,600,000 for federal income tax purposes, which expire in the
year 2019, and $1,600,000 for state income tax purposes, which expire in 2005.
The Company also had credit carryforwards of $400,000 available to offset future
income which expire in 2006 through 2019.
The Tax Reform Act of 1996 limits the use of net operating losses in
certain situations where changes occur in the stock ownership of a company. The
availability and timing of net operating losses carried forward to offset the
taxable income may be limited due to the occurrence of certain events, including
change of ownership.
NOTE 8 -- EMPLOYEE BENEFIT PLANS:
The 1993 Amended and Restated Stock Option Plan (the "1993 Plan") was
approved by the Board of Directors in March 1993. During fiscal 1996, the 1989
Directors Stock Option Plan (the "1989 Plan") was terminated and all options
outstanding and available for grant under the 1989 Plan were incorporated into
the 1993 Plan. As of June 27, 1999, a total of 6,050,000 shares of Common Stock
had been reserved for issuance under the 1993 Plan to eligible employees,
officers, directors, independent contractors and consultants upon the exercise
of incentive stock options ("ISOs") and nonqualified stock options ("NSOs").
Options granted under the 1993 Plan are for periods not to exceed ten years and
must be issued at prices not less than 100% and 85% for ISOs and NSOs,
respectively, of the fair market value of the stock on the date of grant.
Options granted under the 1993 Plan are exercisable immediately and generally
vest over a four-year period, provided that the optionee remains continuously
employed by the Company. Upon cessation of employment for any reason, the
Company has the option to repurchase all unvested shares of Common Stock issued
upon exercise of an option at a repurchase price equal to the exercise price of
such shares. Options granted to stockholders
44
45
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
who own greater than 10% of the outstanding stock are for periods not to exceed
five years and must be issued at prices not less than 110% of the fair market
value of the stock on the date of grant.
The following summarizes stock option activity under the Company's 1993
Plan:
WEIGHTED
SHARES AVERAGE
AVAILABLE OPTIONS EXERCISE
FOR GRANT OUTSTANDING PRICE
---------- ----------- --------
BALANCE AT JUNE 30, 1996......................... 701,751 1,327,876 $ 2.00
Approved....................................... 750,000 -- --
Granted........................................ (1,450,913) 1,450,913 17.01
Exercised...................................... -- (429,698) 0.67
Canceled....................................... 777,415 (777,415) 20.68
---------- ----------
BALANCE AT JUNE 29, 1997......................... 778,253 1,571,676 6.98
Granted........................................ (608,650) 608,650 7.39
Exercised...................................... -- (119,332) 1.44
Canceled....................................... 227,860 (227,860) 7.12
---------- ----------
BALANCE AT JUNE 28, 1998......................... 397,463 1,833,134 7.46
Approved....................................... 2,000,000 -- --
Granted........................................ (2,198,519) 2,198,519 4.03
Exercised...................................... -- (117,489) 1.03
Canceled....................................... 1,058,759 (1,058,759) 8.15
---------- ----------
BALANCE AT JUNE 27, 1999......................... 1,257,703 2,855,405 $ 4.83
========== ==========
On June 11, 1997, the Company canceled options to purchase 346,000 shares
of Common Stock with exercise prices ranging from $16.13 to $36.13 previously
granted to employees, and reissued all such options at an exercise price of
$10.38, the fair market value of the stock on such date. The reissued options
have a ten year term and vest over four years from the date of reissuance.
The following table summarizes information concerning outstanding and
vested stock options as of June 27, 1999:
OPTIONS OUTSTANDING OPTIONS VESTED
----------------------------------------- ------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
RANGE OF NUMBER REMAINING EXERCISE NUMBER EXERCISE
EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE PRICE VESTED PRICE
- --------------- ----------- ---------------- -------- ------- --------
$0.50 - $ 0.88... 192,759 5.81 $0.82 168,699 $0.82
$2.88 - $ 4.50... 1,407,586 9.38 3.63 113,077 3.50
$5.00 - $ 6.00... 627,275 7.90 5.54 231,834 5.69
$6.06 - $ 6.75... 164,500 8.04 6.53 87,541 6.60
$6.88 - $10.38... 463,285 7.95 8.55 284,853 8.64
--------- -------
$0.50 - $10.38... 2,855,405 8.50 4.83 886,004 5.52
========= =======
1996 EMPLOYEE STOCK PURCHASE PLAN
In April 1996, the Company adopted an Employee Stock Purchase Plan (the
"Purchase Plan") under which 500,000 shares of Common Stock have been reserved
for issuance. The Purchase Plan permits eligible employees to purchase Common
Stock through periodic payroll deductions of up to 10% of their annual
compensation. The Purchase Plan provides for successive offering periods with a
maximum duration of
45
46
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
24 months. Each offering period is divided into two consecutive semi-annual
purchase periods. The price at which Common Stock is purchased under the
Purchase Plan is equal to 85% of the fair value of the Common Stock on the first
day of the offering period, or the last day of the purchase period, whichever is
lower. During fiscal 1999, 1998 and 1997, a total of 174,260, 116,031 and 33,755
shares of Common Stock were issued under the Purchase Plan at an average
purchase price of $3.88, $6.39 and $12.65, respectively.
ESTIMATED FAIR VALUE AWARDS UNDER THE COMPANY'S STOCK PLANS
The weighted average estimated grant date fair value, as defined by SFAS
123, of options granted during fiscal 1999, 1998 and 1997 under the Company's
stock option plan was $1.79, $3.17 and $6.17, respectively. The weighted average
estimated grant date fair value of Common Stock issued pursuant to the Company's
employee stock purchase plan during fiscal 1999, 1998 and 1997 was $2.30, $1.91,
and $3.89, respectively. The estimated grant date fair values disclosed by the
Company are calculated using the Black-Scholes model. The Black-Scholes model,
as well as other currently accepted option valuation models, was developed to
estimate the fair value of freely tradable, fully transferable options without
vesting restrictions, which significantly differ from the Company's stock option
awards. These models also require highly subjective assumptions, including
future stock price volatility and expected time until exercise, which greatly
affect the calculated grant date fair value.
The following weighted average assumptions are included in the estimated
grant date fair value calculations for the Company's stock option and purchase
awards:
1999 1998 1997
---- ---- ----
STOCK OPTION PLAN:
Expected dividend yield................................... 0.0% 0.0% 0.0%
Expected stock price volatility........................... 73% 70% 61%
Risk free interest rate................................... 4.80% 5.58% 6.07%
Expected life (years)..................................... 2.40 2.32 2.55
STOCK PURCHASE PLAN:
Expected dividend yield................................... 0.0% 0.0% 0.0%
Expected stock price volatility........................... 73% 70% 61%
Risk free interest rate................................... 4.69% 5.31% 5.36%
Expected life (years)..................................... 0.50 0.50 0.50
PRO FORMA NET INCOME (LOSS) AND NET INCOME (LOSS) PER SHARE
Had the Company recorded compensation based on the estimated grant date
fair value, as defined by SFAS 123, for awards granted under its stock option
plan and stock purchase plan, the Company's net income (loss) and net income
(loss) per share would have been reduced to the pro forma amounts below for the
years ended June 27, 1999, June 28, 1998, and June 29, 1997 (in thousands,
except per share amounts):
1999 1998 1997
-------- ------- ------
Net income (loss) as reported......................... $(13,666) $(1,071) $4,194
Pro forma net income (loss)........................... $(14,719) $(2,753) $2,716
Basic net income (loss) per share as reported......... $ (0.98) $ (0.08) $ 0.31
Diluted net income (loss) per share as reported....... $ (0.98) $ (0.08) $ 0.29
Pro forma basic net income (loss) per share........... $ (1.06) $ (0.20) $ 0.20
Pro forma diluted net income (loss) per share......... $ (1.06) $ (0.20) $ 0.19
46
47
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
The pro forma effect on net income (loss) and net income (loss) per share
is not representative of the pro forma effect on net income (loss) in future
years because it does not take into consideration pro forma compensation expense
related to grants made prior to 1996.
The Company has recorded compensation expense for the difference between
the grant price and deemed fair market value of the Company's Common Stock for
options granted in January and February 1996. Such compensation expense was
$165,000, $84,000, and $261,000 for fiscal 1999, 1998 and 1997, respectively,
and will aggregate approximately $968,000 over the vesting period of four years.
Awards under the Company's profit sharing plan are based on achieving
targeted levels of profitability. The Company provided for awards of $35,000 in
fiscal 1998. No expense was incurred under the plan in fiscal 1999 and fiscal
1997.
NOTE 9 -- RELATED PARTY TRANSACTIONS:
The Company leases its principal headquarters facility and its
manufacturing facility from Baytech Associates ("Baytech") under operating
leases which expire in April 2001 and November 2001, respectively. Baytech is
owned by two stockholders who hold an aggregate of 37% of the Company's Common
Stock and who are also directors of the Company. In September 1998, the Company
began occupying an additional 16,000 square feet of space at 161 Nortech Drive
leased from Baytech in accordance with an agreement that was being negotiated.
The Company agreed to loan Baytech funds for leasehold improvements and rent
obligations at 161 Nortech Drive in consideration of certain lease concessions
made by Baytech to the Company. As of June 27, 1999, $418,000 had been borrowed
by Baytech against this facility. The loan to Baytech is evidenced by a
promissory note bearing interest at 8% and will be payable out of the net lease
proceeds received by Baytech from leasing a portion of the Nortech building. In
August 1999, Verilink formalized its agreement with Baytech by entering into an
arms length sublease covering the entire 42,000 square feet of manufacturing
space it occupies at 161 Nortech Drive. In addition, Baytech will begin paying
down the promissory note based upon the difference between the lease rate the
Company had been paying and the new lease rate, until the outstanding balance is
paid in full. The sublease between the Company and Baytech expires on November
30, 2001. During fiscal 1999, 1998 and 1997, rent expense totaled $690,000,
$428,000 and $428,000, respectively.
During fiscal 1997, the Company entered into an agreement with RISC
Communication Network Systems ("RC Network") which provided for the performance
of research and development services by RC Network on behalf of the Company. RC
Network is owned in part by Baytech Associates and a former director of the
Company. During fiscal 1999, 1998 and 1997, the Company paid $99,000, $1,260,000
and $98,000, respectively to RC Network for research and development services.
Included in other assets as of June 27, 1999 and June 28, 1998 are advances
of $502,000 due from certain former officers of the Company. These advances bear
interest at varying rates up to 7.5%, with various maturities to August 2002.
The Company paid approximately $50,000 and $110,000 to an outside director
during fiscal 1999 and 1997, respectively and $240,000 to two of its outside
directors during fiscal 1998 for consulting services.
In September 1993, the Company issued 1,600,000 shares of Common Stock to
one of its principal stockholders and 100,000 shares to one of its officers in
exchange for notes totaling $800,000 and $50,000, respectively. The issued
shares of Common Stock secured the notes. During fiscal 1997, the $50,000 note
was repaid. In February 1998 the maturity of the $800,000 note which bears
interest at 5% per annum was extended to September 1999, and the security
interest was reduced to 130,398 shares. As of June 27, 1999, $1,061,000 of
principal and interest was outstanding.
47
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VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
In September 1998, the Company approved a loan facility of up to $1.0
million to a principal stockholder and director in return for a note that bears
interest at 6% per annum and that had a maturity date of December 31, 1998. In
January 1999 the maturity on this note was extended to December 1999. As of June
27, 1999, $986,000 of principal and interest was outstanding.
In February 1999 the Company approved an additional loan facility of up to
$3.0 million to the same principal stockholder and director in return for a note
that bears interest at 6% per annum and that had a maturity date of March 1,
2000. In addition, all or a portion of the aforementioned facility may be made
available through guarantees by the Company of third party loans. As of June 27,
1999, $2,575,000 of principal and interest was outstanding, and $515,000 had
been pledged as security to a bank to secure a director's borrowing from that
bank. This facility is secured by an interest in Baytech Associates.
In September 1999 the Company entered into a note modification agreement
that resulted in a modification of the repayment terms of the September 1993
note, the September 1998 note, and the February 1999 note, and increased
security held by the Company to 1.8 million shares of Common Stock. The
amendment requires repayments on two of the notes to commence in September 2000
and to continue through maturity in March 2002. The agreement also requires
repayment of principal and interest on the $1.0 million September 1998 note by
June 2000.
During the period of November 1995 through February 1996, the Company made
loans totaling $577,000 to certain executives, employees and directors pursuant
to the Company's 1993 Stock Option Plan. During fiscal 1997 and 1999, a total of
$405,000 and $35,000, respectively, of such loans was repaid. The remaining
loans outstanding are secured by 134,000 shares of the Company's Common Stock
and other real and personal property, mature on dates ranging from November 2000
to February 2001 and bear interest at 5% per annum. Principal plus accrued
interest is repayable at maturity.
NOTE 10 -- COMMITMENTS AND CONTINGENCIES:
The Company leases its headquarters facility under a non-cancelable
operating lease that expires on April 2001 and November 2001.
The Company also leases buildings in Huntsville, Alabama under
non-cancelable operating leases that expire on various dates ranging from
December 2000 through June 2002.
Future minimum lease payments under all non-cancelable operating leases
with terms in excess of one year and future minimum sublease rental receipts
under non-cancelable operating leases are as follows (in thousands):
OPERATING SUBLEASE
FISCAL YEAR, LEASES INCOME
------------ --------- --------
2000............................................ $ 2,382 $ 122
2001............................................ 1,952 --
2002............................................ 496 --
2003............................................ 11 --
--------- --------
Total minimum lease payments.................... $ 4,841 $ 122
========= ========
48
49
VERILINK CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE YEARS ENDED JUNE 27, 1999
Rent expense under all non-cancelable operating leases totaled $1,391,000,
$873,000 and $797,000 for fiscal 1999, 1998 and 1997, respectively.
The Company is subject to a legal claim arising from an acquisition by
TxPort, Inc. prior to the acquisition of TxPort, Inc. by the Company. The
Company believes that it is indemnified against the claim by the seller of
TxPort, Inc. Management believes that the claim will be resolved without
material effect on the Company's financial position and results of operations.
NOTE 11 -- SUBSEQUENT EVENTS:
On July 21, 1999, the Company announced its plans to consolidate its San
Jose operations with its facilities in Huntsville, Alabama, and outsource its
San Jose-based manufacturing operations. The Company expects to record a
restructuring charge in the first quarter of fiscal year 2000 related to this
action.
49
50
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not Applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors appearing under the caption "Election of
Directors" in the Proxy Statement is hereby incorporated by reference.
Information regarding executive officers is incorporated herein by
reference from Part I hereof under the heading "Executive Officers of the
Company" immediately following Item 4 in Part I hereof.
Information regarding compliance with Section 16(a) of the Securities Act
of 1934, as amended, is hereby incorporated by reference to the Company's Proxy
Statement.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference to the
Company's Proxy Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) 1. FINANCIAL STATEMENTS
The financial statements (including the notes thereto) listed in the Index
to Consolidated Financial Statements and Financial Statement Schedule (set forth
in Item 8 of Part II of this Form 10-K) are filed within this Annual Report on
Form 10-K.
2. FINANCIAL STATEMENT SCHEDULE
The financial statement schedule listed in the Index to Consolidated
Financial Statements and Financial Statement Schedule (set forth in Item 8 of
Part II of this Form 10-K) is filed as part of this Annual Report on Form 10-K.
3. EXHIBITS
The exhibits listed under Item 14(c) hereof are filed as part of this
Annual Report on Form 10-K.
(b) REPORTS ON FORM 8-K
No reports on form 8-K were filed during the quarter ended June 27, 1999.
50
51
(c) EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
3.1 Registrant's Amended and Restated Certificate of
Incorporation.(1)
3.2 Registrant's Amended and Restated Bylaws.(1)
4.1 Reference is made to Exhibits 3.1 and 3.2.
10.2 Form of Indemnification Agreement between the Registrant and
each of its executive officers and directors.(1)
10.3* Employment Agreement between the Registrant and Leigh S.
Belden dated as of April 16, 1986.(1)
10.4* Employment Agreement between the Registrant and Steven C.
Taylor dated as of April 16, 1986.(1)
10.7 Common Stock Purchase Agreement and Promissory Note between
the Registrant and Leigh S. Belden each dated as of
September 16, 1993.(1)
10.8 Promissory Notes of Timothy G. Conley in favor of the
Registrant dated as of November 16, 1995 and January 2,
1996.(1)
10.9 Promissory Note of James G. Regel in favor of the Registrant
dated as of January 1, 1996.(1)
10.11 Promissory Note of Howard Oringer in favor of the Registrant
dated as of January 2, 1996.(1)
10.12 Lease Agreement between the Registrant and Baytech
Associates, a California general partnership, dated February
27, 1986, and Memorandum of Lease Modification dated January
22, 1987.(1)
10.13+ Software License Agreement between the Registrant and
Integrated Systems, Inc. dated January 27, 1993, as
amended.(1)
10.14* Registrant's Amended and Restated 1993 Stock Option Plan,
including forms of agreements thereunder.(1)
10.15* Form of Registrant's 1996 Employee Stock Purchase Plan,
including forms of agreements thereunder.(1)
10.16* Promissory Note of Robert F. Griffith in favor of the
Registrant dated as of August 27, 1997.(2)
10.17* Change of Control Severance Benefits Agreements.(3)
10.18 Guarantee of lease obligation between the Registrant and
Baytech Associates, a California general partnership, dated
September 30, 1996.(4)
10.19 Amended Common Stock Purchase Agreement and Promissory Note
between the Registrant and Leigh S. Belden, dated as of
February 10, 1998.(4)
10.20 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated June 30, 1994.(4)
10.21 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated February 21, 1996.(4)
10.22 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated May 23, 1996.(4)
10.23 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated June 4, 1997.(4)
10.24 Loan facility dated September 1, 1998, provided by the
Registrant to Leigh S. Belden.(4)
10.25 Agreements with Civic Bank: Assignment of Deposit Account,
Corporate Resolution to Guarantee and Corporate Resolution
to Grant Collateral.(5)
10.26 Loan facility dated January 1, 1999 provided by the
Registrant to Leigh S. Belden.(5)
10.27 Promissory Note of Baytech Associates in favor of the
Registrant dated February 9, 1999.(5)
10.28* Employment Agreement between the Registrant and Graham
Pattison dated March 22, 1999.(6)
10.29 Retirement Agreement between the Registrant and Leigh S.
Belden dated April 9, 1999.(6)
10.30 Retirement Agreement between the Registrant and Steve S.
Taylor dated April 9, 1999.(6)
51
52
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
10.31 Severance Agreement between the Registrant and Stephen M.
Tennis dated April 9, 1999.(6)
10.32 Severance Agreement between the Registrant and John C. Batty
dated July 19, 1999.(7)
10.33 Severance Agreement between the Registrant and Thomas A.
Flak dated August 20, 1999.(7)
10.34 Severance Agreement between the Registrant and Stephen G.
Heinen dated July 19, 1999.(7)
10.35 Severance Agreement between the Registrant and Henry L.
Tinker dated July 19, 1999.(7)
10.36+ Purchase Agreement between the Registrant and Wellex
Corporation.(7)
10.37 Lease Agreement between the Registrant and Industrial
Properties of the South for 9668 Highway 20 West, dated July
23, 1993.(7)
10.38 Lease Agreement between the Registrant and Industrial
Properties of the South for 127 Jetplex Circle, dated July
23, 1993.(7)
10.39 Lease Agreement between the Registrant and Industrial
Properties of the South for 129 Jetplex Circle, dated
January 19, 1995.(7)
10.40 Promissory Note Modification Agreement of Leigh S. Belden
dated September 22, 1999.(7)
10.41 Lease Agreement between the Registrant and Baytech
Associates, a California general partnership, effective May
1, 1999.(7)
10.42 Sublease Agreement between the Registrant and Baytech
Associates, a California general partnership, dated August
1999.(7)
10.43 Bonus Agreement between the Registrant and Graham G.
Pattison dated September 21, 1999.
23.1 Consent of PricewaterhouseCoopers LLP.(7)
27.1 Financial Data Schedule.(7)
- ---------------
(1) Incorporated by reference to identically numbered Exhibit to the Company's
Registration Statement on Form S-1 (Commission File No. 333-4010), which
became effective on June 10, 1996.
(2) Incorporated by reference to identically numbered exhibit filed in response
to Item 14(a), "Exhibits," of Registrant's Report on Form 10-K for the
fiscal year ended June 29, 1997.
(3) Incorporated by reference to identically numbered exhibit filed in response
to Item 6(a), "Exhibits and Reports on Form 8-K," for the quarterly period
ended December 28, 1997.
(4) Incorporated by reference to identically numbered exhibit filed in response
to Item 14(a), "Exhibits," of Registrant's Report on Form 10-K for the
fiscal year ended June 28, 1998.
(5) Incorporated by reference to identically numbered exhibit filed in response
to Item 6(a), "Exhibits and Reports on Form 8-K" for the quarterly period
ended December 27, 1998.
(6) Incorporated by reference to identically numbered exhibit filed in response
to Item 6(a), "Exhibits and Reports on Form 8-K" for the quarterly period
ended March 28, 1999.
(7) Filed herewith.
* Management contracts or compensatory plans or arrangements.
+ Confidential treatment granted as to portions of this exhibit.
52
53
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
(IN THOUSANDS)
BALANCE AT ASSUMED ON ADDITIONS DEDUCTIONS BALANCE AT
BEGINNING THE ACQUISITION CHARGED TO FROM END
OF YEAR OF TXPORT, INC. INCOME RESERVES OF YEAR
---------- --------------- ---------- ---------- ----------
Inventory Reserves
Year ended June 27, 1999............... $1,088 $1,450 $1,783 $(961) $3,360
Year ended June 28, 1998............... $ 923 $ -- $ 165 $ -- $1,088
Year ended June 29, 1997............... $ 658 $ -- $ 265 $ -- $ 923
Allowance for Doubtful Accounts
Year ended June 27, 1999............... $ 62 $ 143 $ -- $ -- $ 205
Year ended June 28, 1998............... $ 76 $ -- $ -- $ 14 $ 62
Year ended June 29, 1997............... $ 76 $ -- $ -- $ -- $ 76
53
54
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.
Verilink Corporation
September 27, 1999 By: /s/ GRAHAM G. PATTISON
------------------------------------
Graham G. Pattison
President, Chief Executive Officer
and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ GRAHAM G. PATTISON President, Chief Executive September 27, 1999
- ----------------------------------------------------- Officer and Director
Graham G. Pattison (Principal Executive
Officer)
/s/ JOHN C. BATTY Vice President, Finance and September 27, 1999
- ----------------------------------------------------- Chief Financial Officer
John C. Batty (Principal Financial and
Accounting Officer)
/s/ HOWARD ORINGER Chairman of the Board of September 27, 1999
- ----------------------------------------------------- Directors
Howard Oringer
/s/ STEVEN C. TAYLOR Vice Chairman of the Board September 27, 1999
- ----------------------------------------------------- of Directors
Steven C. Taylor
/s/ LEIGH S. BELDEN Director September 27, 1999
- -----------------------------------------------------
Leigh S. Belden
/s/ JOHN MAJOR Director September 27, 1999
- -----------------------------------------------------
John Major
/s/ JOHN A. MCGUIRE Director September 27, 1999
- -----------------------------------------------------
John A. McGuire
55
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
3.1 Registrant's Amended and Restated Certificate of
Incorporation.(1)
3.2 Registrant's Amended and Restated Bylaws.(1)
4.1 Reference is made to Exhibits 3.1 and 3.2.
10.2 Form of Indemnification Agreement between the Registrant and
each of its executive officers and directors.(1)
10.3* Employment Agreement between the Registrant and Leigh S.
Belden dated as of April 16, 1986.(1)
10.4* Employment Agreement between the Registrant and Steven C.
Taylor dated as of April 16, 1986.(1)
10.7 Common Stock Purchase Agreement and Promissory Note between
the Registrant and Leigh S. Belden each dated as of
September 16, 1993.(1)
10.8 Promissory Notes of Timothy G. Conley in favor of the
Registrant dated as of November 16, 1995 and January 2,
1996.(1)
10.9 Promissory Note of James G. Regel in favor of the Registrant
dated as of January 1, 1996.(1)
10.11 Promissory Note of Howard Oringer in favor of the Registrant
dated as of January 2, 1996.(1)
10.12 Lease Agreement between the Registrant and Baytech
Associates, a California general partnership, dated February
27, 1986, and Memorandum of Lease Modification dated January
22, 1987.(1)
10.13+ Software License Agreement between the Registrant and
Integrated Systems, Inc. dated January 27, 1993, as
amended.(1)
10.14* Registrant's Amended and Restated 1993 Stock Option Plan,
including forms of agreements thereunder.(1)
10.15* Form of Registrant's 1996 Employee Stock Purchase Plan,
including forms of agreements thereunder.(1)
10.16* Promissory Note of Robert F. Griffith in favor of the
Registrant dated as of August 27, 1997.(2)
10.17* Change of Control Severance Benefits Agreements.(3)
10.18 Guarantee of lease obligation between the Registrant and
Baytech Associates, a California general partnership, dated
September 30, 1996.(4)
10.19 Amended Common Stock Purchase Agreement and Promissory Note
between the Registrant and Leigh S. Belden, dated as of
February 10, 1998.(4)
10.20 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated June 30, 1994.(4)
10.21 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated February 21, 1996.(4)
10.22 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated May 23, 1996.(4)
10.23 Promissory Note of Stephen M. Tennis in favor of the
Registrant dated June 4, 1997.(4)
10.24 Loan facility dated September 1, 1998, provided by the
Registrant to Leigh S. Belden.(4)
10.25 Agreements with Civic Bank: Assignment of Deposit Account,
Corporate Resolution to Guarantee and Corporate Resolution
to Grant Collateral.(5)
10.26 Loan facility dated January 1, 1999 provided by the
Registrant to Leigh S. Belden.(5)
10.27 Promissory Note of Baytech Associates in favor of the
Registrant dated February 9, 1999.(5)
10.28* Employment Agreement between the Registrant and Graham
Pattison dated March 22, 1999.(6)
10.29 Retirement Agreement between the Registrant and Leigh S.
Belden dated April 9, 1999.(6)
10.30 Retirement Agreement between the Registrant and Steve S.
Taylor dated April 9, 1999.(6)
56
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
10.31 Severance Agreement between the Registrant and Stephen M.
Tennis dated April 9, 1999.(6)
10.32 Severance Agreement between the Registrant and John C. Batty
dated July 19, 1999.(7)
10.33 Severance Agreement between the Registrant and Thomas A.
Flak dated August 20, 1999.(7)
10.34 Severance Agreement between the Registrant and Stephen G.
Heinen dated July 19, 1999.(7)
10.35 Severance Agreement between the Registrant and Henry L.
Tinker dated July 19, 1999.(7)
10.36+ Purchase Agreement between the Registrant and Wellex
Corporation.(7)
10.37 Lease Agreement between the Registrant and Industrial
Properties of the South for 9668 Highway 20 West, dated July
23, 1993.(7)
10.38 Lease Agreement between the Registrant and Industrial
Properties of the South for 127 Jetplex Circle, dated July
23, 1993.(7)
10.39 Lease Agreement between the Registrant and Industrial
Properties of the South for 129 Jetplex Circle, dated
January 19, 1995.(7)
10.40 Promissory Note Modification Agreement of Leigh S. Belden
dated September 22, 1999.(7)
10.41 Lease Agreement between the Registrant and Baytech
Associates, a California general partnership, effective May
1, 1999.(7)
10.42 Sublease Agreement between the Registrant and Baytech
Associates, a California general partnership, dated August
1999.(7)
10.43 Bonus Agreement between the Registrant and Graham G.
Pattison dated September 21, 1999.
23.1 Consent of PricewaterhouseCoopers LLP.(7)
27.1 Financial Data Schedule.(7)
- ---------------
(1) Incorporated by reference to identically numbered Exhibit to the Company's
Registration Statement on Form S-1 (Commission File No. 333-4010), which
became effective on June 10, 1996.
(2) Incorporated by reference to identically numbered exhibit filed in response
to Item 14(a), "Exhibits," of Registrant's Report on Form 10-K for the
fiscal year ended June 29, 1997.
(3) Incorporated by reference to identically numbered exhibit filed in response
to Item 6(a), "Exhibits and Reports on Form 8-K," for the quarterly period
ended December 28, 1997.
(4) Incorporated by reference to identically numbered exhibit filed in response
to Item 14(a), "Exhibits," of Registrant's Report on Form 10-K for the
fiscal year ended June 28, 1998.
(5) Incorporated by reference to identically numbered exhibit filed in response
to Item 6(a), "Exhibits and Reports on Form 8-K" for the quarterly period
ended December 27, 1998.
(6) Incorporated by reference to identically numbered exhibit filed in response
to Item 6(a), "Exhibits and Reports on Form 8-K" for the quarterly period
ended March 28, 1999.
(7) Filed herewith.
* Management contracts or compensatory plans or arrangements.
+ Confidential treatment granted as to portions of this exhibit.