SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to __________
Commission File Number 0-27266
-------
WESTELL TECHNOLOGIES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 36-3154957
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
750 N. COMMONS DRIVE, AURORA, IL 60504
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (630) 898-2500
NOT APPLICABLE
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check or mark whether the registrant (1) has filed all reports
required to be filed by Sections 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 whether the registrant is an accelerated filer as defined
be rule 12b-2 of the Act.
Yes X No
--- ---
The number of shares outstanding of each of the issuer's classes of common stock
are:
Class A Common Stock, $0.01 Par Value - 53,632,788 shares at July 21, 2004 Class
B Common Stock, $0.01 Par Value - 14,471,872 shares at July 21, 2004
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
FORM 10-Q
INDEX
PART I FINANCIAL INFORMATION: Page No.
--------
Item 1. Financial Statements
Condensed Consolidated Balance Sheets 3
- As of March 31, 2004 and June 30, 2004 (unaudited)
Condensed Consolidated Statements of Operations (unaudited) 4
- Three months ended June 30, 2003 and 2004
Condensed Consolidated Statements of Cash Flows (unaudited) 5
- Three months ended June 30, 2003 and 2004
Notes to the Condensed Consolidated Financial Statements
(unaudited) 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risks 14
Item 4. Controls and Procedures 15
PART II OTHER INFORMATION
Item 1. Legal Proceedings 15
Item 6. Exhibits and Reports on Form 8-K 15
SAFE HARBOR STATEMENT
Certain statements contained in this Quarterly Report of Form 10-Q regarding
matters that are not historical facts or that contain the words "believe",
"expect", "intend", "anticipate" or derivatives thereof, are forward looking
statements. Because such forward-looking statements include risks and
uncertainties, actual results may differ materially from those expressed in or
implied by such forward-looking statements. Factors that could cause actual
results to differ materially include, but are not limited to, those discussed
under "Risk Factors" set forth in Westell Technologies, Inc.'s Annual Report on
Form 10-K for the fiscal year ended March 31, 2004. Our actual results may
differ from these forward-looking statements. Westell Technologies, Inc.
undertakes no obligation to publicly update these forward-looking statements to
reflect events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
2
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
March 31, June 30,
2004 2004
--------------- ---------------
(unaudited)
(in thousands)
Current assets:
Cash and cash equivalents......................................... $11,241 $9,791
Accounts receivable (net of allowance of $662,000 and $686,000
respectively)..................................................... 23,807 22,998
Inventories....................................................... 16,075 18,211
Prepaid expenses and other current assets......................... 2,340 2,297
Intangibles, net.................................................. 1,455 1,814
Deferred income tax asset......................................... 7,200 5,194
--------------- ---------------
Total current assets.......................................... 62,118 60,305
--------------- ---------------
Property and equipment:
Machinery and equipment.......................................... 42,462 42,497
Office, computer and research equipment.......................... 23,414 23,543
Leasehold improvements........................................... 7,832 7,827
--------------- ---------------
73,708 73,867
Less accumulated depreciation and amortization.................... 56,099 57,880
---------------
---------------
Property and equipment, net...................................... 17,609 15,987
--------------- ---------------
Goodwill............................................................ 6,990 6,990
Intangibles, net.................................................... 5,499 5,136
Deferred income tax asset and other assets.......................... 37,565 37,467
---------------
---------------
Total assets.................................................. $ 129,781 $ 125,885
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................................. $14,163 $ 11,152
Accrued expenses.................................................. 10,105 10,052
Accrued compensation.............................................. 6,808 2,520
Current portion of long-term debt................................. 3,416 654
--------------- ---------------
Total current liabilities........................................ 34,492 24,378
Long-term debt...................................................... 326 216
Other long-term liabilities......................................... 1,179 1,979
--------------- ---------------
Total liabilities............................................. 35,997 26,573
Minority Interest 2,019 2,116
Stockholders' equity:
Class A common stock, par $0.01..................................... 532 536
Authorized - 109,000,000 shares
Issued and outstanding - 53,266,058 shares at March 31, 2004
and 53,631,988 shares at June 30, 2004
Class B common stock, par $0.01..................................... 147 147
Authorized - 25,000,000 shares
Issued and outstanding - 14,741,872 shares at March 31, 2004
and 14,741,872 shares at June 30, 2004
Preferred stock, par $0.01.......................................... -- --
Authorized - 1,000,000 shares
Issued and outstanding - none
Deferred compensation............................................... -- --
Additional paid-in capital.......................................... 378,390 380,481
Treasury stock at cost - 93,000 shares.............................. (247) (247)
Cumulative translation adjustment................................... (485) (436)
Accumulated deficit................................................. (286,572) (283,285)
--------------- ---------------
Total stockholders' equity.................................... 91,765 97,196
--------------- ---------------
Total liabilities and stockholders' equity.................. $ 129,781 $ 125,885
=============== ===============
The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.
3
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended
June 30,
---------------------------------------
2003 2004
---------------- ---------------
(unaudited)
(in thousands, except per share data)
---------------------------------------
Equipment revenue............................. $ 43,706 $ 44,920
Service revenue............................... 11,580 11,252
---------------- ---------------
Total revenues.............................. 55,286 56,172
Cost of equipment sales....................... 28,261 31,638
Cost of services.............................. 6,755 5,988
---------------- ---------------
Cost of goods sold.......................... 35,016 37,626
---------------- ---------------
Gross margin............................... 20,270 18,546
Operating expenses:
Sales and marketing......................... 5,426 5,352
Research and development.................... 4,435 3,574
General and administrative.................. 5,134 4,014
Intangible amortization..................... 364 364
---------------- ---------------
Total operating expenses.................. 15,359 13,304
---------------- ---------------
Operating income............................ 4,911 5,242
Other income, net............................. 156 361
Interest expense.............................. (359) (36)
---------------- ---------------
Income before minority interest and income taxes
4,708 5,567
Income taxes.................................. - 2,183
Minority interest............................. 111 97
---------------- ---------------
Net income.................................... $ 4,597 $ 3,287
================ ===============
Net income per common share:
Basic................................ $ 0.07 $ 0.05
================ ===============
Diluted.............................. $ 0.07 $ 0.05
================ ===============
Weighted average number of common shares outstanding:
Basic................................ 65,495 68,294
================ ===============
Diluted.............................. 69,014 70,975
================ ===============
The accompanying notes are an integral part of these Condensed Consolidated Financial Statements
4
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended
June 30,
-----------------------------------------
2003 2004
----------------- -----------------
(unaudited)
(in thousands)
Cash flows from operating activities:
Net income......................................................... $ 4,597 $ 3,287
Reconciliation of net income to net cash provided by
(used in) operating activities:
Capitalization of software development costs..................... -- (358)
Depreciation and amortization.................................... 2,469 2,275
Restructuring.................................................... (226) (163)
Deferred Taxes................................................... -- 2,006
Minority interest................................................ 111 97
Tax benefit received on stock option exercises................... -- 178
Changes in assets and liabilities:
Accounts receivable.............................................. (1,309) 859
Inventory........................................................ (817) (2,136)
Prepaid expenses and other current assets........................ 533 43
Other assets..................................................... 32 97
Accounts payable and accrued expenses............................ (62) (2,101)
Accrued compensation............................................. 510 (4,288)
----------------- -----------------
Net cash provided (used) in operating activities.............. 5,727 (204)
----------------- -----------------
Cash flows from investing activities:
Purchases of property and equipment.............................. (538) (294)
----------------- -----------------
Net cash used in investing activities......................... (538) (294)
----------------- -----------------
Cash flows from financing activities:
Net repayment under revolving promissory notes................... (3,616) --
Net repayment of long-term debt and leases payable............... (2,999) (2,875)
Proceeds from the issuance of common stock....................... 3,799 1,917
----------------- -----------------
Net cash used in financing activities......................... (2,816) (955)
----------------- -----------------
Effect of exchange rate changes on cash............................ 15 3
Net increase in cash.......................................... 2,388 (1,450)
Cash and cash equivalents, beginning of period..................... 11,474 11,241
----------------- -----------------
Cash and cash equivalents, end of period........................... $13,862 $ 9,791
================= =================
The accompanying notes are an integral part of these Condensed Consolidated Financial Statements
5
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
in the United States for complete financial statements. It is suggested that
these condensed consolidated financial statements be read in conjunction with
the consolidated financial statements and notes thereto included in the
Company's Annual Report on Form 10-K for the year ended March 31, 2004
In the opinion of management, the unaudited interim financial
statements included herein reflect all adjustments, consisting of normal
recurring adjustments, necessary to present fairly the Company's consolidated
financial position and the results of operations and cash flows at June 30, 2004
and for all periods presented. The results of operations for the three month
period ended June 30, 2004 are not necessarily indicative of the results that
may be expected for the fiscal year ending March 31, 2005 ("fiscal year 2005").
NOTE 2. COMPUTATION OF INCOME PER SHARE
The computation of basic earnings per share is computed using the
weighted average number of common shares outstanding during the period. Diluted
earnings per share includes the number of additional common shares that would
have been outstanding if the dilutive potential common shares had been issued.
The following table sets forth the computation of basic and diluted earnings per
share:
Three months ended June 30,
------------------------------
Dollars in thousands, except per share amounts 2003 2004
-------------- ------------
BASIC EARNINGS PER SHARE:
Net income $ 4,597 $ 3,287
Average basic shares outstanding 65,495 68,294
Basic net income per share $ 0.07 $ 0.05
DILUTED EARNINGS PER SHARE:
Net income $ 4,597 $ 3,287
Average basic shares outstanding 65,495 68,294
Effect of dilutive securities: stock options 3,519 2,681
and warrants
-------------- ------------
Average diluted shares outstanding 69,014 70,975
-------------- ------------
Diluted net income per share $ 0.07 $ 0.05
NOTE 3. RESTRUCTURING CHARGE
The Company recognized a restructuring charge of $6.3 million in fiscal
year 2002. These charges included personnel, facility and certain development
contract costs. The purpose of the fiscal 2002 restructuring plan was to
decrease costs primarily by a workforce reduction of approximately 200 employees
and to realign the Company's cost structure with the Company's anticipated
business outlook. During fiscal year 2003, a portion of a leased facility
previously vacated was sublet resulting in a reversal of $0.9 million of
facility lease costs accrued in fiscal 2002. As of March 31, 2004 all of these
restructuring costs had been paid.
6
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
The Company recognized a net restructuring expense of $1.7 million in
fiscal 2003 consisting of a charge of $2.6 million offset by the $0.9 million
described above. This charge included personnel and facility costs related
primarily to the closing of a Conference Plus, Inc. facility and personnel and
facility charges at Westell Limited. Approximately 25 employees were impacted by
these reorganizations. As of June 30, 2004, the Company paid approximately $1.5
million of these accrued restructuring costs leaving a balance of $1.1 million.
The Company recognized a restructuring expense of $698,000 in fiscal
2004. This restructuring resulted from realigning the product focus at Westell
Limited which caused a workforce reduction of approximately 14 employees. None
of these costs had been paid as of June 30, 2004.
The Company's restructuring accrual balances and activity are presented
in the following table:
Paid in the
quarter
Balance ended Balance
(in thousands) March 31, June 30, June 30,
2004 2004 2004
- -------------------------------------------------------------------------------
Employee Costs....................... $ 698 $ -- $ 698
Legal, facility & Other Costs........ 1,231 163 1,068
- -------------------------------------------------------------------------------
Total................................ $ 1,929 $163 $ 1,766
===============================================================================
NOTE 4. INTERIM SEGMENT INFORMATION
Westell's reportable segments are strategic business units that offer
different products and services. They are managed separately because each
business requires different technology and market strategies. They consist of:
1) A telecommunications equipment manufacturer of broadband products, and
2) A multi-point telecommunications service bureau specializing in audio
teleconferencing, multi-point video conferencing, broadcast fax and
multimedia teleconference services.
Performance of these segments is evaluated utilizing revenue, operating
income and total asset measurements. The accounting policies of the segments are
the same as those for Westell Technologies, Inc. Segment information for the
three-month periods ended June 30, 2003 and 2004, are as follows:
Telecom Telecom Consolidated
(in thousands) Equipment Services Total
---------- ------------ ----------
Three months ended June 30, 2003
Revenues........................ $ 43,706 $ 11,580 $ 55,286
Operating income ............... 3,671 1,240 4,911
Depreciation and amortization... 1,429 1,040 2,469
Total assets.................... 94,224 17,164 111,388
Three months ended June 30, 2004
Revenues........................ $ 44,920 $ 11,252 $ 56,172
Operating income ............... 3,639 1,603 5,242
Depreciation and amortization... 1,316 959 2,275
Total assets.................... 108,292 17,593 125,885
7
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Reconciliation of Operating income for the reportable segments to
income before income taxes and minority interest:
Three Months Ended
June 30,
-------------------------------
(in thousands) 2003 2004
------------ -----------
Operating income ........................... $ 4,911 $ 5,242
Other income, net........................... 156 361
Interest expense............................ (359) (36)
------------ -----------
Income before income taxes and minority
interest....................................
$ 4,708 $ 5,567
============ ===========
NOTE 5. COMPREHENSIVE INCOME
The disclosure of comprehensive income, which encompasses net income
and foreign currency translation adjustments, is as follows:
Three Months Ended June 30,
-------------------------------
(in thousands) 2003 2004
------------ -----------
Net income.................................. $ 4,597 $ 3,287
Other comprehensive income
Foreign currency translation adjustment (105) 49
------------ -----------
Comprehensive income........................ $ 4,492 $ 3,336
============ ===========
NOTE 6. INVENTORIES
The components of inventories are as follows:
March 31, June 30,
------------- ------------
(in thousands) 2004 2004
------------- ------------
Raw material ............................... $ 12,374 $ 17,032
Work in process............................. 14 63
Finished goods.............................. 8,051 5,196
Reserve for excess and obsolete inventory
and net realizable value............. (4,364) (4,080)
------------- ------------
$ 16,075 $ 18,211
============= ============
8
WESTELL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 7. STOCK OPTIONS
The Company has elected to follow Accounting Principle Board Opinion
No. 25 "Accounting for Stock Issued to Employees" (APB No. 25) and related
interpretations in accounting for its employee stock options and awards. Under
APB No. 25, employee stock options are valued using the intrinsic method, and no
compensation expense is recognized since the exercise price of the options
equals or is greater than the fair market value of the underlying stock as of
the date of the grant. The following table shows the effect on net income and
income per share if the Company had applied the fair value recognition
provisions of FASB Statement NO. 123, "Accounting for Stock Based Compensation."
Three months ended June
30,
-------------------------
(in thousands, except per-share amounts) 2003 2004
----------- -----------
Net income, as reported ......................................................... $ 4,597 $ 3,287
Stock-based employee compensation expense included in reported net earnings, net
of related tax effects...................................................... -- --
Total stock-based employee compensation expense determined under fair value
based method for all awards, net of related tax effects ..................... (902) (967)
----------- -----------
Pro forma net income............................................................. $ 3,695 $ 2,320
Earnings per common share:
As reported................................................................. $ 0.07 $ 0.05
Pro forma ................................................................... $ 0.06 $ 0.03
Earnings per common share, assuming dilution:
As reported ................................................................. $ 0.07 $ 0.05
Pro forma ................................................................... $ 0.05 $ 0.03
The fair value of each option is estimated on the date of grant using
the Black-Scholes option pricing model. The estimate assumes, among other
things, a risk-free interest rate of 2.8%, no dividend yield, expected
volatility of 98% and an expected life of 7 years.
NOTE 8. NEW ACCOUNTING PRONOUNCEMENTS
None
NOTE 9. SUBSEQUENT EVENT
The Company entered into an agreement with Enginuity Communications
Corporation (Enginuity) on July 1, 2004. Under the agreement, the Company agreed
to sell to Enginuity the Company's Data Station Termination Product lines and
specified fixed assets for $2 million. The Company received $2 million in cash
and provided an unconditional guarantee in the amount of $1.62 million relating
to an Enginuity note payable to a third party lender used to finance this
agreement. This guarantee will stay in place until the note is paid in full. The
Company must pay all amounts due under the note payable upon demand from the
lender.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
- -------------------------------------------------------------------------------
OF OPERATION
- ------------
OVERVIEW
The Company is comprised of two segments: equipment sales and
teleconference services. The equipment manufacturing segment consists of two
product lines: Customer Networking Equipment (CNE) products and Network Service
Access (NSA) products. The CNE product line includes broadband and digital
subscriber line (DSL) technology products that allow the transport of high-speed
data over the local loop and enable telecommunications companies to provide
broadband services over existing copper infrastructure. The Company's NSA
product line consists of manageable and non-manageable T1 transmission
equipment, associated mountings and special service plugs for the legacy copper
telephone network. Westell realizes the majority of its revenues from the North
American market.
The Company's service segment is comprised of a 91.5% owned subsidiary,
Conference Plus, Inc. Conference Plus provides audio, video, and web
conferencing services. Businesses and individuals use these services to hold
voice, video or web conferences with many people at the same time. Conference
Plus sells its services directly to large customers, including Fortune 1000
companies, and serves other customers indirectly through its private reseller
program.
The equipment segment of the Company's business consists of two product
lines, offering a broad range of products that facilitate the broadband
transmission of high-speed digital and analog data between a telephone company's
central office and end-user customers. These two product lines are:
o Customer Networking Equipment (CNE): Westell's family of broadband products
enable the transport of high-speed data over existing local telephone lines
and allow telecommunications companies to provide broadband services using
their current copper infrastructure. The Company's broadband products also
enable residential, small business and Small Office Home Office (SOHO)
users to network multiple computers, telephones and other devices to access
the Internet. Digital Subscriber Lines (DSL) products make up the majority
of the revenue in this product group.
o Network Service Access (NSA): Westell's NSA product family consists of
manageable and non-manageable T1 transmission equipment for telephone
services, and an array of mounting products used for connecting telephone
wires and cables, and special service plugs. The T1 transmission equipment
termed Network Interface Units (NIU) and the associated NIU mounting
products make up the majority of revenue from this product group.
Below is a table that compares equipment and service revenues for the
quarter ended June 30, 2003 with the quarter ended June 30, 2004 by product
line.
Three months ended June 30,
---------------------------------------------
(in thousands) 2003 % 2004 %
--------------------- ----------------------
CNE.................... $30,160 54.6% $31,803 56.6%
NSA.................... 13,546 24.5% 13,117 23.4%
-------------- --------------
Total equipment........ 43,706 79.1% 44,920 80.0%
Services............... 11,580 20.9% 11,252 20.0%
-------------- --------------
Total revenues......... $55,286 $56,172
============== ==============
The prices for the products within each market group vary based upon
volume, customer specifications and other criteria and are subject to change due
to competition among telecommunications manufacturers. Increasing competition,
in terms of the number of entrants and their size, and increasing size of the
Company's customers because of past mergers, continues to exert downward
pressure on prices for the Company's products.
The Company reached profitability and positive cash flow from operations for the
first time as a public company in fiscal 2003. In fiscal 2004, the Company
improved its profitability primarily due to gains achieved from volume
efficiencies, productivity improvements and favorable component pricing in the
CNE product line of the equipment segment of the business. The Company continues
to experience pricing pressures in both product segments. The transition to
higher speed digital transmission services continued to negatively impact the
NSA product line of the equipment segment.
10
The Company's customer base is comprised primarily of the Regional Bell
Operating Companies (RBOCs), independent domestic local exchange carriers and
public telephone administrations located outside the U.S. Due to the stringent
quality specifications of its customers and the regulated environment in which
its customers operate, the Company must undergo lengthy approval and procurement
processes prior to selling its products. Accordingly, the Company must make
significant upfront investments in product and market development prior to
actual commencement of sales of new products. In addition, to remain
competitive, the Company must continue to invest in new product development and
invest in targeted sales and marketing efforts to cover new product lines.
The Company expects to continue to evaluate new product opportunities
and engage in extensive research and development activities. The Company is
focusing on expanding its product offerings in the equipment segment from basic
high speed broadband to more sophisticated applications such as networking,
wireless and managed services. This will require the Company to continue to
invest in research and development and sales and marketing, which could
adversely affect short-term results of operations. In view of the Company's
reliance on the DSL market for revenues and the unpredictability of orders and
pricing pressures, 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. Revenues from NSA products such as NIUs
have declined in recent years as telephone companies continue to move to
networks that deliver higher speed digital transmission services. Failure to
increase revenues from new products, whether due to lack of market acceptance,
competition, technological change or otherwise, would have a material adverse
effect on the Company's business and results of operations.
In the equipment segment, the Company is focusing on new product
opportunities in the DSL wireless gateway, voice/media-over-IP, managed
services, and vertical applications. The Company has introduced new products
including UltralineTM, ProLineTM, VersaLinkTM , TrilinkTMand EnvoyTM which are
targeted at the home networking small office/home office (SOHO) and small
business market. The Company is also focusing on expanding existing and new
products into the international market through its subsidiary Westell Ltd. The
Company expects these new products and markets to produce revenue starting in
the second half of fiscal year 2005.
The Company's revenue and earnings per share in the June 2004 quarter
were lower than revenue and earnings per share in the quarter ended March 31,
2004. The Company expects revenue and earnings per share for the quarter ending
September 30, 2004 to again be lower than revenue and earnings per share in the
March 31, 2004 quarter. The Company anticipates that revenue should begin to
increase from the March 31, 2004 quarter in the quarter ending December 31,
2004. The Company's customers continue to expect growth in the broadband market
that the Company's CNE products serve. More users are subscribing to DSL
services and some currently using DSL technology desire new DSL technology as
the older modems cannot deliver new applications such as music, photo sharing,
movies and games that require higher broadband speed. The NSA market continues
to decline as the transition to high-speed digital service continues. The
Company's goal is to increase market share in mountings and NIUs in the NSA
market. The Company continues to evaluate less strategic products and transition
them to partners. The Company is investing in new products in the NSA product
line that complement the broadband market products such as PowerSpan which
support the deployment of VoIP in residential markets.
Revenues. The Company's revenues increased 1.6% from $55.3 million in the three
months ended June 30, 2003 to $56.2 million in the three months ended June 30,
2004. This revenue increase was due to increased equipment revenue of $1.2
million and was offset in part by a decrease in teleconference service revenue
of $328,000. The increased equipment revenue was due primarily to increased
sales of the Company's broadband products which in the quarter ended June 30,
2004, increased to $31.8 million compared to $30.2 million in the same quarter
one year ago. The increase in revenues from broadband products is due primarily
to 268,000 higher unit volume offset in part by 30% price reductions. Revenue
from the Company's NSA products in the equipment segment decreased from $13.5
million in the three months ended June 30, 2003 to $13.1 million in the three
months ended June 30, 2004. NSA product revenue in the June 30, 2004 quarter
includes an $883,000 contractual settlement from a customer. The overall
decrease in NSA product revenue is due to reduced demand resulting from the
migration by telephone companies to high-speed digital transmission products.
The decrease in revenue in the services segment is attributable a shift to lower
priced conference call services at the Company's Conference Plus, Inc.
subsidiary.
11
Gross Margin. Overall gross margin as a percentage of revenue decreased from
36.7% in the three months ended June 30, 2003 to 33.0% in the three months ended
June 30, 2004. Margin in the equipment segment decreased from 35.3% in the three
month period ended June 30, 2003 to 29.6% in the three months ended June 30,
2004. The June 30, 2004 margin includes the $833,000 contractual settlement
mentioned above. This decrease in equipment segment gross margin percentage is
due to price reductions in broadband products. Teleconference service gross
margin increased from 41.7% in the three months ended June 30, 2003 to 46.8% in
the three months ended June 30, 2004. This increase in service segment gross
margin percent is due to reduced long distance costs. The Company believes
continued pricing pressures and continued reduction of NSA sales affecting its
equipment segment could continue to adversely impact margins in the future. It
is the Company's strategy to offset the effects of these anticipated price
reductions with continued cost reductions and introducing new products that have
higher sales prices and margins.
Sales and Marketing. Sales and marketing expense were unchanged at $5.4 million
in the three months ended June 30, 2003 and June 30, 2004. Sales and marketing
expenses decreased as a percentage of revenues from 9.8% in the three months
ended June 30, 2003 to 9.5% in the three months ended June 30, 2004. The
equipment segment sales and marketing expenses decreased by $200,000 resulting
primarily from $272,000 in expense recorded for annual bonus and profit sharing
plans in the three months ended June 30, 2003. No bonus or profit sharing was
recorded in the three months ended June 30, 2004 due to the Company's estimated
annual performance does not meet the bonus plan criteria. The fiscal 2005 bonus
criteria requires a higher level of profit than in fiscal 2004. Sales and
marketing expenses increase by $200,000 in Company's services segment. This
increase was primarily a result of more employees at Conference Plus. The
Company believes that sales and marketing expense in the future will continue to
be a significant percent of revenue and will be required to expand its product
lines, bring new products to market and service customers. The Company is
planning to increase sales and marketing expense in the equipment segment of the
business to sell its CNE equipment in Europe.
Research and Development. Research and development expenses decreased 19.4%,
from $4.4 million in the three months ended June 30, 2003 to $3.6 million in the
three months ended June 30, 2004. Research and development expenses also
decreased as a percentage of revenues from 8.0% in the three months ended June
30, 2003 to 6.4% in the three months ended June 30, 2004. The decrease in
research and development expense is primarily a result of $394,000 in expense
recorded for annual bonus and profit sharing plans in the Company's equipment
segment in the three months ended June 30, 2003. No bonus or profit sharing was
recorded in the three months ended June 30, 2004 because of failure to meet
bonus plan criteria. In addition, the Company capitalized $358,000 of
engineering expenses as an intangible asset for EnvoyTM software in the three
months ended June 30, 2004. The Company believes that research and development
expenses will increase in fiscal year 2005 as the Company continues to expand
its product offerings to include networking, wireless, managed services and
other broadband applications.
General and Administrative. General and administrative expenses decreased 21.8%,
from $5.1 million in the three months ended June 30, 2003 to $4.0 million in the
three months ended June 30, 2004. General and administrative expenses as a
percentage of revenue was 7.1% in the three months ended June 30, 2004 and 9.3%
June 30, 2003. General and administrative expenses decreased by $0.9 million in
the Company's equipment segment. The decrease in general and administrative
expenses was due to $352,000 in expense related to annual bonus, profit sharing
plans in the Company's equipment segment in the three months ended June 30, 2003
compared to no expense recorded in the three months ended June 30, 2004 because
of failure to meet bonus plan criteria. In addition, legal expenses and bad debt
in the June 2004 period were $220,000 and $260,000 lower than in the June 2003
period, respectively. General and administrative expenses decreased by $200,000
in the Company's service segment due to primarily to lower bad debt expenses of
$73,000.
Intangible amortization. Intangible assets include product technology related to
the March 17, 2000 acquisition of Teltrend Inc. for 20.2 million shares of class
A common shares valued at $213.6 million. Intangible amortization expense was
$364,000 for each of the three months ended June 30, 2004 and 2003.
Other income, net. Other income, net was $156,000 in the three months ended June
30, 2003 and $361,000 for the three-month period ended June 30, 2004. The
increase in other income, net in the three-month period ended June 30, 2004
resulted from a $400,000 legal settlement. The remainder of other income, net
for the three-month period ended June 30, 2004 and all of the three month period
ended June 30, 2003 was comprised of a interest income earned on temporary cash
12
investments and unrealized gains or losses on intercompany balances denominated
in foreign currency.
Interest expense. Interest expense decreased from $359,000 in the three months
ended June 30, 2003 to $36,000 in the three months ended June 30, 2004. The
decrease in interest expense during the current period is a result of lower net
obligations outstanding during the period under promissory notes, capital
leases, and vendor debt.
Income taxes. The Company recorded $2.2 million of income tax expense in the
three-month period ended June 30, 2004 based on an estimate tax rate for the
year of approximately 40%. In the period ended June 30, 2003, no tax provision
was recorded since net operating loss carryforwards were available to offset
taxable income that were fully reserved by valuation allowances. Deferred tax
assets continue to offset taxable income in fiscal 2005, but the utilization now
results in income tax expense since the valuation allowance of deferred tax
assets were reduced in the fourth quarter of fiscal 2004. This resulted from
management's belief that is it was more likely than not these deferred assets
will be realized through the generation of taxable income.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2004, the Company had $9.8 million in cash and cash
equivalents consisting primarily of federal government agency instruments and
the highest rated grade corporate commercial paper. At June 30, 2004, the
Company had nothing outstanding and $22.8 million available under its secured
revolving credit facility.
The Company's revolving credit facility ("facility") provides for
maximum borrowings of up to $30 million. The term of the facility expires on
June 30, 2006 and provides for total borrowings based upon 85% of eligible
accounts receivable and 30% of eligible inventory not to exceed $4.9 million as
of June 30, 2004. The $4.9 million inventory limitation is reduced by $0.1
million on the first day of each month. Borrowings under this facility accrue
interest to be paid by the Company at the prime rate or Libor rate plus 2.5%.
The facility contains covenants regarding EBITDA, tangible net worth and maximum
capital expenditures. The Company was in compliance with these covenants on June
30, 2004 and expects to comply with these covenants for the term of the
facility.
In connection with the Company's management changes implemented at its
subsidiary Conference Plus, Inc., in fiscal year 2003, the Company purchased
3.2% of the outstanding shares of common stock of Conference Plus, Inc. from
former officers of Conference Plus, Inc. for approximately $1.6 million which
was financed in part by notes payable. The purchase price was based upon the
minority interest value set forth in the annual appraisal of Conference Plus,
Inc. that was completed by an independent financial advisor. As of June 30,
2004, there was $508,000 outstanding under these notes.
The Company's operating activities used cash of $204,000 in the
three-month period ended June 30, 2004. This resulted primarily from net income,
non-cash depreciation and amortization, offset by increases in inventory and
decreases in accounts payable and accrued compensation. The increase in
inventory was a result of the advance purchase of flash and SDRAM memory
components, which are used in the Company's modem products and are in high
market demand. The decrease in accounts payable is a result of the timing of
vendor payments. The decrease in accrued compensation is the result of paying
bonuses and profit sharing in the quarter ended June 30, 2004.
Capital expenditures for the three-month period ended June 30, 2004
were approximately $294,000. Approximately $266,000 of the expenditures was in
the equipment segment with $28,000 spent in the services segment. The Company
expects to spend approximately $6.0 million and $1.7 million for capital
expenditures for the remainder of fiscal year 2005 in the equipment and services
segments respectively related primarily for machinery, computer and research
equipment purchases needed to produce products such as ProLineTM, TrilinkTM, and
the Westell-Mitel advanced multimedia access device.
At June 30, 2004 the Company's principle sources of liquidity were $9.8
million of cash and available borrowings under its the secured revolving credit
facility. Cash in excess of operating requirements, if any, will be used to pay
down debt or invested on a short-term basis in federal government agency
instruments and the highest rated grade commercial paper. The Company believes
its future cash requirements for the next twelve months will be satisfied by
cash generated from operations and its current credit facility.
13
The Company has various future obligations and commitments consisting
primarily of facility operating leases, obligations to purchase raw material in
the equipment segment and local and long distance telephone service commitments
in the services segment. The purchase obligations arise in the normal course of
business operations. A June 30, 2004 the Company had future obligations and
commitments as follows:
Payments due by fiscal year
----------------------------------------------------------------------------------
(in thousands) 2005 2006 2007 2008 2009 Thereafter Total
- ----------------------------- ---------- ---------- --------- --------- --------- ------------ -----------
Debt and capital leases..... $544 $ 326 $ -- $ -- $ -- $ -- $870
Purchase obligations 22,187 3,619 1,887 236 -- -- 27,929
Future minimum lease
payments for operating
leases................... 2,854 3,253 3,058 3,048 2,932 20,175 35,320
---------- ---------- --------- --------- --------- ------------ -----------
Future obligations and
commitments.............. $25,585 $7,198 $4,945 $3,284 $2,932 $20,175 $64,119
========== ========== ========= ========= ========= ============ ===========
The Company had net deferred tax assets of approximately $77.7 million
at June 30, 2004. The Company has recorded a valuation allowance reserve of
$35.9 million to reduce the recorded net deferred tax asset to $41.8 million.
The net operating loss carryforwards begin to expire in 2012.
Realization of deferred tax assets associated with the Company's future
deductible temporary differences, net operating loss carryforwards and tax
credit carryforwards is dependent upon generating sufficient taxable income
prior to their expiration. The Company uses estimates of future taxable income
and a tax planning strategy that involves the potential sale of the Company's
91.5% subsidiary Conference Plus, Inc. to access the valuation allowance
required against deferred tax assets. Management periodically evaluates the
recoverability of the deferred tax assets and will adjust the valuation
allowance against deferred tax assets accordingly.
There are no off balance sheet arrangements.
CRITICAL ACCOUNTING POLICIES
There were no changes in critical accounting policies during the
quarter.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS.
- ---------------------------------------------------------------------
Westell is subject to certain market risks, including foreign currency
and interest rates. The Company has foreign subsidiaries in the United Kingdom
and Ireland that develop and sell products and services in those respective
countries. The Company is exposed to potential gains and losses from foreign
currency fluctuations affecting net investments and earnings denominated in
foreign currencies. Market risk is estimated as the potential decrease in pretax
earnings resulting from a hypothetical decrease in the ending exchange rate of
10%. If such a decrease occurred, the Company would incur approximately $435,000
in additional other expense based on the ending intercompany balance outstanding
at June 30, 2004. The Company's future primary exposure is to changes in
exchange rates for the U.S. dollar versus the British pound and the Euro.
As of June 30, 2004, the balance in the cumulative foreign currency
translation adjustment account, which is a component of stockholders' equity,
was an unrealized loss of $436,000.
The Company does not have significant exposure to interest rate risk
related to its debt obligations, which are primarily U.S. Dollar denominated.
The Company's market risk is the potential loss arising from adverse changes in
interest rates. The Company's debt consists primarily of a floating-rate bank
line-of credit and subordinated term notes. Market risk is estimated as the
potential decrease in pretax earnings resulting from a hypothetical increase in
interest rates of 10% (i.e. from approximately 6.3% to approximately 6.9%)
average interest rate on the Company's debt. If such an increase occurred, the
Company would incur approximately $35,000 per annum in additional interest
expense based on the average debt borrowed during the twelve months ended June
14
30, 2004. The Company does not feel such additional expense is significant. The
Company does not currently use any derivative financial instruments relating to
the risk associated with changes in interest rates.
ITEM 4. CONTROLS AND PROCEDURES
- --------------------------------
Our Chief Executive Officer and Chief Financial Officer have concluded,
based on their evaluation as of the end of the period covered by this report,
that the Company's disclosure controls and procedures are effective in all
material respects in ensuring that information required to be disclosed in the
reports that we file or submit under the Securities Exchange Act of 1934 is
recorded, processed, summarized and reported, within the time periods specified
in the Securities and Exchange Commission's rules and forms. There have been no
significant changes in the Company's internal controls over financial reporting
or in other factors that could significantly affect these controls during the
period covered by this report.
PART II. OTHER INFORMATION
- --------------------------
ITEM 1. LEGAL PROCEEDINGS
- -------------------------
The Company is involved in various other legal proceedings incidental
to the Company's business. Management believes that the outcome of such
proceedings will not have a material adverse effect on our consolidated
operations or financial condition.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- ----------------------------------------
Exhibit 31.1 Certification by the Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002
Exhibit 31.2 Certification by the Chief Financial Officer Pursuant to Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
Exhibit 32.1 Certification by the Chief Executive Officer and Chief Financial
Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
15
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
WESTELL TECHNOLOGIES, INC.
--------------------------
(Registrant)
DATE: August 9, 2004 By: /s/ E. VAN CULLENS
-------------------
E. VAN CULLENS Chief
Executive Officer
By: /s/ NICHOLAS C. HINDMAN, Sr.
------------------------------
NICHOLAS C. HINDMAN, Sr.
Chief Financial Officer