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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------
FORM 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2002
Commission File Number 000-27843
SOMERA
Communications, Inc.
(Exact name of registrant as specified in its charter)
Delaware 77-0521878
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
5383 Hollister Avenue, Santa Barbara, CA 93111
(Address of principal executive offices and zip code)
(805) 681-3322
(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, $0.001 par value 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, will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K. Yes |_| No |X|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes |X| No |_|
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 as reported
on the NASDAQ National Market as of June 28, 2002) was approximately
$348,447,986. The number of outstanding shares of the Registrant's Common Stock
as of the close of business on March 14, 2003 was 49,097,103.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive Proxy Statement for the 2003
Annual Meeting of Stockholders are incorporated by reference in Part III of this
Form 10-K to the extent stated herein.
SOMERA COMMUNICATIONS, INC.
INDEX
Page
PART I
Item 1. Business.................................................................................... 1
Item 2. Properties.................................................................................. 9
Item 3. Legal Proceedings........................................................................... 9
Item 4. Submission of Matters to a Vote of Security Holders......................................... 9
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters....................... 10
Item 6. Selected Financial Data..................................................................... 11
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations....... 12
Item 7A. Qualitative and Quantitative Disclosures About Market Risk.................................. 26
Item 8. Financial Statements........................................................................ 27
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure........ 51
PART III
Item 10. Directors and Executive Officers of the Registrant.......................................... 51
Item 11. Executive Compensation...................................................................... 51
Item 12. Security Ownership of Certain Beneficial Owners and Management.............................. 51
Item 13. Certain Relationships and Related Transactions.............................................. 51
Item 14. Controls and Procedures..................................................................... 51
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................. 52
PART I
This Annual Report on Form 10-K contains forward-looking statements that
are subject to a number of risks and uncertainties, many of which are beyond our
control. These statements, other than statements of historical facts included in
this Annual Report on Form 10-K, regarding our strategy, future operations,
financial position, estimated revenues or losses, projected costs, prospects,
plans and objectives of management are forward-looking statements. When used in
this Annual Report on Form 10-K, the words "may," "will," "should," "plan,"
"anticipate," "believe," "intend," "estimate," "expect," "project" and similar
expressions are intended to identify forward-looking statements, although not
all forward-looking statements contain such identifying words. All
forward-looking statements speak only as of the date of this Annual Report on
Form 10-K. You should not place undue reliance on these forward-looking
statements.
Although we believe that our plans, intentions and expectations reflected
in or suggested by the forward-looking statements we make in this Annual Report
on Form 10-K are reasonable, we can give no assurance that these plans,
intentions or expectations will be achieved. We disclose important factors in
"Risks Factors" and elsewhere in this Annual Report that could cause our actual
results to differ materially from the forward-looking statements in this Form
10-K. These cautionary statements qualify all forward-looking statements
attributable to us or persons acting on our behalf. We undertake no duty to
update any of the forward-looking statements after the date of this report to
conform these statements to actual results or to changes in our expectations.
ITEM 1. BUSINESS
The Markets we Serve
Wireless, wireline and data services are provided by nearly 2,000 network
operators around the world. During the period of rapid growth from 1996 - 2001
these network operators purchased trillions of dollars of new equipment. Much of
that investment was never deployed or has never been fully utilized. Since 2001
there has been very little capital available to network operators to complete
the projects already planned or to upgrade their networks to accommodate
changing customer requirements. Continually increasing downward pressure on
capital spending and operating budgets have encouraged network operators to rely
upon the large supply of previously purchased equipment to satisfy their
network's hardware requirements. Using previously purchased equipment avoids
additional spending and improves key financial metrics (cash flow, return on
assets, etc.) But, there is often a mis-match between the excess equipment that
they already own and the specific hardware that their network needs today. This
overhang of excess equipment has driven further reductions in new equipment
purchased. Manufacturers have responded by slashing prices to dispose of their
excess inventories and reducing their work forces to lower their break-even
points and return to profitability. As a result there is a large overhang of
recent vintage hardware, a mis-match within each network of equipment they
already own vs. equipment they need today and a lack of technical personnel
available to put the right equipment in the right place in the right network.
The Somera Solution
We provide telecommunications operators with equipment deployment services
to support their need to optimize their networks and equipment assets more
efficiently and cost-effectively. Our equipment deployment services are
categorized into three primary areas. First, working with the operator to
determine the feasibility of redeploying existing equipment within their own
network or valuing that same equipment for possible re-marketing to another
operators network. Second, supplying operators with the optimum combination of
new and redeployed equipment based on their implementation strategy, budget and
time-to-market requirements. Finally, providing value-added services to
supplement or replace resources to execute programs and projects that our
customers traditionally managed themselves.
Somera is uniquely qualified to address this market need by understanding
the complexities of equipment deployment, whether that be a function of
operators redeploying equipment assets within their own network ("intra-network"
deployment) or disposing of assets outside of their network ("inter-network"
deployment) for redeployment into another operators' network. By working with
Somera, operators can make multi-vendor equipment purchase, equipment
disposition, and service decisions, from a single cost-effective source.
A key differentiator for Somera is the application of our "intellectual
capital" in data, people, and operations, which we believe enables executional
excellence and provides a distinct competitive advantage. Our proprietary global
database of customers and networks enable us to value, find, redeploy and
dispose of equipment assets at the
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greatest return to our customers. The experience and skills of our people
deliver unbiased solutions to our customers' problems. Our equipment deployment
services competencies are supported by our world-class operations, certified
expertise, and program management skills.
Equipment Deployment Services
Equipment Placement & Valuation
We help our customers determine the market value of idle and sub-optimized
equipment assets. The financial potential from these assets may provide a source
of capital to offset the expense of other equipment and services purchases. As
part of the evaluation, we assess the viability of redeploying this equipment
within the operator's own network ("intra-network" deployment) or outside of the
operator's network ("inter-network" deployment). The metrics for valuation are
based on the data that we capture in our proprietary global database. The
database consists of product information and its respective market value, the
installed technology base within our customers' networks, network build-out and
de-installation plans, and demand and supply of equipment on the secondary
market. The data domiciled within our database and applied to the valuation and
marketability process is captured primarily through our sales and purchase
transactions and interactions with customers. The data is interpreted by our
internal sales, procurement, and supply organization.
We help our customers place equipment and maximize the value of idle or
sub-optimized equipment while minimizing their expense and management attention
to the process. We offer four types of equipment placement programs. After
collaborative investigation with the customer, we execute one, or a combination,
based on the type of equipment the customer wants to dispose of, the current
market demand for the equipment, the viability and condition of the equipment,
and the customer's network deployment strategy. Our four types of equipment
placement programs are as follows: Consignment, Asset Exchange, Direct Purchase
and Equipment Disposal.
Consignment. Our consignment program is designed to reduce the customer's
excess inventory levels while maximizing recovery return based on market value.
In the consignment program, we do not take title to the equipment, but rather
the customer owns and typically stores the excess inventory in our warehouse.
Our sales force then promotes the sale of the consigned equipment into our
network of customers and prospects. Net proceeds from the consigned sales are
shared between the customer and us based on negotiated terms.
Asset Exchange. Our asset exchange program is designed to help customers
maximize their capital budget by substituting, or exchanging, equipment from the
customer's existing inventory for equipment that the customer wants to purchase.
The equipment desired by the customer is supplied from our own inventory, from
virtual inventory identified from the proprietary global database or from
inventory to which we contractually have access. Exchange deals are typically
executed for high demand infrastructure equipment.
Direct Purchase. Our direct purchase program involves our directly
purchasing equipment from the operator either through direct payment or credit
for future purchases. Direct purchase deals are typically executed for equipment
where we have an existing order of that equipment pending in the system.
Equipment Disposal. Some equipment is no longer marketable and should be
disposed of or scrapped. We can provide support to customers to manage the
disposition of this equipment in a manner that complies with environmental
regulations.
Equipment Supply
We are focused on accelerating the return on investment of equipment
purchased by our customers. We are a vendor neutral source for
telecommunications carriers' equipment needs. We offer our customers multiple
categories of telecommunications infrastructure equipment to address their
specific and changing equipment requirements primarily for network maintenance
and incremental build-outs. We support analog, T1, T2, SONET, TDMA, CDMA, and
GSM for voice and data communications. The equipment we sell includes new and
redeployed items from a variety of manufacturers. In 2002, we had a database of
over 25,000 different items, from over 350 different manufacturers. We offer the
original manufacturer's warranty on all new equipment. On redeployed equipment,
we offer our own warranty which guarantees that the equipment will perform up to
the manufacturer's original specifications.
The new equipment we offer consists of telecommunications equipment
purchased primarily from the original equipment manufacturers ("OEM") directly
or distributors. The redeployed equipment we offer consists primarily of
equipment removed from the existing telecommunications networks of
telecommunications operators, many of
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whom are also our customers, and equipment purchased from resellers. Our sources
for redeployed equipment are typically the original owners of such equipment and
either the operator, another third party, or a Somera trained professional
removes the equipment from the network on behalf of the operator.
Substantially all of our equipment sourcing activities are made on the
basis of purchase orders rather than long-term agreements. Although we seek, as
part of our asset management strategy to establish strategic contract
relationships with operators, we anticipate that operating results for any given
period will continue to be dependent, to a significant extent, on purchase order
based transactions.
The equipment we sell is grouped into several general product categories
and includes core, edge, and ancillary infrastructure support.
Switching. Switching equipment is used by operators to manage call traffic
and to deliver value-added services. Switches and related equipment are located
in the central office of a telecommunications operator and serve to determine
pathways and circuits for establishing, breaking or completing voice and data
communications over the public switched telephone network ("PSTN"). We provide a
variety of switching equipment, including switches, circuit cards, shelves,
racks and other ancillary items in support of carrier upgrades and
reconfigurations. Manufacturers of switching equipment whose products we sell
include Alcatel USA, Lucent Technologies and Nortel Networks.
Transmission. Transmission equipment is used by operators to carry
information to multiple points in their network. Transmission equipment serves
as the backbone of a telecommunications operator's network and transmits voice
and data traffic in the form of standard electrical or optical signals. We sell
a broad range of transmission products, including channel banks, M13
multiplexers, digital cross-connect systems, digital loop carriers, SONET ADMs,
DSX panels and echo cancellers. Manufacturers of transmission equipment whose
products we sell include ADC Telecommunications, Carrier Access, Fujitsu, Lucent
Technologies, NEC, Nortel Networks, Telco Systems and Tellabs.
Wireless. Cell sites and related ancillary wireless products are used by
cellular, PCS and paging operators to provide wireless access. This equipment is
used to amplify, transmit and receive signals between mobile users and
transmission sites, including cell sites and transmission towers. We sell a
broad range of wireless equipment including radio base stations, towers,
shelters, combiners, transceivers and other related items. Manufacturers of
wireless and cell site equipment whose products we sell include Telefon AB LM
Ericsson, Lucent Technologies, Motorola, Nortel Networks, Paragon Networks and
Siemens.
Data. Data networking equipment is used to transmit, route and switch data
communications traffic within a wireless or wireline operator's network. We
provide a wide variety of data networking products including routers, digital
subscriber lines, ATM switches, LAN switches and bridges. Manufacturers of data
networking equipment whose products we sell include Cisco Systems, Lucent
Technologies, Motorola, Nortel Networks, Redback and Riverstone.
Microwave. Microwave systems are used by operators to transmit and receive
voice, data and video traffic. These systems enable point-to-point and
point-to-multipoint high speed wireless communications. We provide a variety of
microwave systems, including antennas, dishes, coaxial cables and connectors.
Manufacturers of microwave systems whose products we sell include Alcatel, DMC
Stratex Networks, Harris-Farinon, Nortel Networks and Proxim.
Power. Power equipment is used by operators to provide direct current (DC)
and/or alternate current (AC) power to support their network infrastructure
equipment. We sell a broad range of power equipment, including power bays,
rectifiers, batteries, breaker panels and converters. Manufacturers of power
equipment whose products we sell include Argus, Lucent Technologies, Marconi and
Nortel Networks.
As part of the equipment supply offering, we will support customers'
access to critical maintenance spares to minimize network downtime and potential
revenue loss. Under this program, we stock new and redeployed equipment and
co-locate the inventory at the customers' facilities or in locations in close
geographic proximity to the customers' network operations for immediate access.
Services
Resource allocation has become a more critical concern among operators in
the execution of their network deployment strategy. Resources once focused on
asset management and network (re)deployment are now being redirected to core
operator business strategies to generate revenue and implement new services. In
response to this
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market trend, we have expanded and enhanced our services strategy to include
planning, deployment, engineering, and logistics and materials management
services. Our ability to deliver a combined equipment and services solution,
which supplements or replaces services that our customers traditionally
performed themselves, can enable operators to reduce operating expenses and
focus on growth strategies.
Services revenue has not been material to date, but is becoming a growing
part of the company's business with revenues generated primarily from North
American operators. In 2002, we advanced this strategy and strengthened our
competencies through the purchase of certain assets of Compass Telecom, LLC, a
provider of outsourced services. Additionally, all work is performed to ISO
9001:2000 certification standards.
We provide the following services in connection with our equipment supply:
o Planning Services: Our strategy is to support our customers' need to
execute their network plans in a manner that will maximize the impact
to their business. Our planning services are designed to support this
objective, which include business case analysis, value engineering,
and assessing/valuing existing equipment and determining optimal use
or disposition of identified excess assets.
o Network Deployment Services: We provide customers with deployment
services for network build-outs and existing network modifications.
Deployment support is defined as program management, site acquisition,
site development, construction management, and installation.
- Program Management: We provide a full spectrum of program
management support. Our qualified program managers oversee many
of the assignments that have traditionally been managed by the
operator's own personnel.
- Site Acquisition, Development, and Construction Management: We
support the site and construction requirements for new and
existing network developments. This includes strategic site
planning and mapping, leasing, documentation, zoning, regulatory
compliance, process engineering, and design and construction.
- Installation/De-Installation: Installation/De-installation
support has become increasingly important to our customers. The
complexity of today's networks makes it difficult for any one
manufacturer to support the multi-product, multi-platform network
installation/de-installation process. We work with our customers
to define the appropriate level of certified engineering
resources required to complete a project. Trained technicians are
dispatched to the location, where removal of the equipment is
performed. Our broad-based technical expertise in over 350
different technologies and platforms enables us to support this
need. Typically, the equipment de-installed from the site is
shipped to our distribution and operations center for
refurbishment and reconfiguration.
o Engineering Services: We provide our customers with turnkey solutions
for end-to-end program execution. Our program offering is defined
based on existing or emergency opportunities. Our engineering services
support fixed network, wireless backhaul, site design, structural
analysis, E911, and DAS strategies.
o Logistic & Materials Management Services: We provide customers with
repair & refurbishment spares management, customization, equipment
disposal, testing, and kitting & staging services.
- Testing, Repair & Refurbishment: To ensure the reliability of
redeployed equipment we sell, many of our products are subjected
to a rigorous testing and evaluation process. The process
includes loop-back testing, field simulation testing, and
self-diagnostics. We also perform repair services for
customer-owned equipment. Refurbishment is completed to
manufacturer specifications and customer input.
- Spares Management: Availability of critical maintenance spares is
essential to managing and minimizing network downtime. We work
with our customers to develop a spares program to ensure critical
spares availability based on historical utilization rates and
other data. Material will either be co-located at our customers'
facilities or in close geographic proximity to the deployment
site.
- Customization: We offer customized assembly of multi-vendor
equipment, tailored to the network's specific configuration. In
support of this process, Somera may provide customers with
ancillary equipment and components to complete the project and
staged deployment based on the network implementation schedule.
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- Equipment Disposal: Somera works with customers to identify what
equipment is no longer marketable or deployable and should be
disposed or scrapped. We then manage our customer's disposition
needs in a manner that complies with environmental regulations
and maximizes the customer's return on such equipment.
We execute our services strategy through a combination of internal
expertise and strategic partnerships. Services performed by us either at the
customers' site or at one of our facilities in California, Georgia, New Jersey
or Texas. We have announced plans to consolidate these facilities to a new
central operation in Texas by the third quarter of 2003. Services performed for
the Europe, Middle East, and Africa ("EMEA") region are managed out of
Amsterdam, The Netherlands.
Sales and Marketing
Our sales and marketing strategy is to be in close geographic proximity to
our customers. The United States sales organization is located at both our
corporate headquarters in Santa Barbara, California and at strategic locations
in California, Illinois, New Jersey, Texas, and Georgia. The Latin America
region is supported primarily from Florida with operations in Mexico and Brazil.
Operations for the EMEA region are headquartered in Amsterdam, The Netherlands
with agent or sales offices in countries throughout the region including the
United Kingdom, Sweden and Russia. Operations for Asia Pacific are conducted by
our offices located in Singapore and Hong Kong.
As of December 31, 2002, we employed over 225 sales, services and
procurement professionals. We generate sales leads primarily through direct
sales contact, telemarketing, customer referrals and various marketing outreach
programs.
In the U.S, our sales force is organized by market segment, including
specialized teams focused on the Regional Bell Operating Companies ("RBOCs"),
incumbent local exchange carriers ("ILECs"), long distance carriers ("IXCs"),
competitive local exchange carriers ("CLECs"), national wireless carriers,
including cellular, personal communications service companies ("PCSs"), and
rural wireless carriers. Within these segments, our sales force operates on a
defined strategic account basis with sales operatives in geographic proximity to
our customers. Within each segment, we employ dedicated teams with extensive
market knowledge to meet the specific requirements of these customers.
For our customers in other countries, we approach the business on a
geographic basis, rather than a defined account basis, due to language,
cultural, and country specific considerations.
Another key feature of our selling effort is the relationships we
establish at various levels in our customers' organizations. This structure
allows us to establish multiple contacts with each customer across their
management, engineering and purchasing operations. An integral part of our asset
management strategy is establishing more senior level relationships. We believe
this is important to the company's future as the industry consolidates, buying
decisions become centralized, and relationships become established by
overarching or master agreements. We have account teams focused on each of the
large national telecommunications operators and dedicated sales/support teams
for others.
An account team comprises equipment sales, procurement, services and
logistic responsibilities. This level of integration enables us to respond more
rapidly to customer requirements and provides consistent high quality customer
service, which builds long-term relationships with our customers. Sales teams
are further supported by product line managers responsible for matching supply
with demand to assure equipment availability and monitoring the category to
identify emerging trends that might impact our customers.
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Each team member has access to, and is supported by, our proprietary
global database. This real time proprietary information system allows each team
to:
o respond to customer requirements by accessing our database of excess
and redeployed equipment located at operators, manufacturers,
distributors and other third parties worldwide, as well as by
accessing our select inventory;
o identify cross-selling opportunities for equipment and services;
o access relevant detailed purchase and sale information;
o access technical and system configuration information;
o trace and track all customer and vendor order activity; and
o project and anticipate customer network deployment requirements and
sales opportunities.
Substantially all of our sales are made on the basis of purchase orders
rather than long-term agreements. As a result, we may commit resources to the
procurement and testing of products without having received advance purchase
commitments from customers. Although our asset management strategy seeks to
establish strategic contractual relationships with operators, we anticipate that
operating results for any given period will continue to be dependent, to a
significant extent, on purchase orders. These purchase orders often can be
modified, delayed or canceled by our customers without penalty. Additionally, as
telecommunications equipment supplier competition increases, we may need to
lower our selling prices or pay more for the equipment we procure. Consequently,
our gross margins may decrease over time. We recognize revenue, net of estimated
provision for sales returns and warranty obligations, when we ship equipment to
our customers, provided that there are no significant post-delivery obligations.
As we attempt to expand our sales, marketing and procurement efforts into
international markets, we face a number of challenges, including:
o recruiting skilled sales and technical support personnel;
o creation of new supply and customer relationships;
o difficulties and costs of managing and staffing international
operations; and
o developing relationships with local suppliers.
Any of these factors could potentially harm our future international
operations.
Our marketing efforts are focused on defining the category and enhancing
our brand therein. Activities to support this strategy include public relations,
advertising in key telecommunications industry publications, e-marketing,
cooperative marketing, industry trade shows, professional sales presentations
and brochures, and customer events. We believe the size and scope of our
operations in our highly fragmented industry gives us both a unique advantage
and opportunity to further build and enhance our brand recognition.
Customers
We sell to every major segment of the telecommunications sector. We sell
equipment to ILECs, RBOCs, IXCs, wireless operators including cellular, PCS,
paging and SMRs, and CLECs. We have a healthy account diversity with over 1,400
customers worldwide with the majority located in the United States. In 2002,
Verizon Communications accounted for 13.4% of our net revenue, with no other
customers accounting for more than 10% of our net revenue. In 2001 and 2000,
Verizon Communications accounted for 16.1% and 11.3%, respectively, of our net
revenue. No other customers accounted for greater than 10% of our net revenue in
2001 and 2000. Sales to customers outside of the United States accounted for
14.9% of our net revenue in 2002, 9.7% of our net revenue in 2001, and 7.8% of
our net revenue in 2000. Customers from whom we recognized at least $5.0 million
in net revenue in 2002 include leading operators such as Verizon Communications,
AT&T, Bellsouth, Cingular, Lucent Technologies, Triton and United States
Cellular.
Competition
The market for asset management, equipment and services, is highly
competitive. Constrained capital budgets, the over-abundance of
telecommunications infrastructure equipment on the market, and continued
pressures to improve balance sheet metrics among operators and manufacturers
will further intensify competition in our industry
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for the foreseeable future. Increased competition may result in price
reductions, lower gross margins and loss of our market share in the future.
As we expand our services strategy, we are likely to face a new set of
competitors. Many of these competitors have longer operating histories,
significantly greater resources and name recognition, and a larger base of
customers. These factors are likely to give these competitors a substantial
competitive advantage.
Increased competition in the secondary equipment market from distributors
and other secondary market dealers for redeployed telecommunications equipment
could also heighten demand for the limited supply of redeployed equipment, which
would lead to increased prices for, and reduce the availability of, this
equipment. Any increase in these prices could significantly impact our ability
to maintain our gross margins. Any reduction in the availability of this
equipment could cause us to be able to meet customer demand.
Also on the equipment front, we currently face competition directly from
OEMs who may aggressively discount or extend terms to gain share, reduce
inventories, and meet quarterly financial expectations. Many of these
competitors have longer operating histories, significantly greater resources and
name recognition, and a larger base of customers. These competitors are also
likely to enjoy substantial competitive advantages over us, including the
following:
o ability to devote greater resources to the development, promotion and
sale of their equipment and related services;
o ability to adopt more aggressive pricing policies than we can;
o ability to expand existing customer relationships and more effectively
develop new customer relationships than we can, including securing
long term purchase agreements;
o ability to leverage their customer relationships through volume
purchasing contracts, and other means intended to discourage customers
from purchasing products from us;
o ability to more rapidly adopt new or emerging technologies and
increase the array of products offered to better respond to changes in
customer requirements;
o greater focus and expertise on specific manufacturers or product
lines; and
o ability to form new alliances or business combinations to rapidly
acquire significant market share.
There can be no assurance that we will have the resources to compete
successfully in the future or that competitive pressures will not harm our
business.
Employees
As of December 31, 2002, we had 354 full-time employees. We consider our
relations with our employees to be satisfactory. We have never had a work
stoppage, and none of our employees is represented by a collective bargaining
agreement. We believe that our future success will depend in part on our ability
to attract, integrate, retain and motivate highly qualified personnel, and upon
the continued service of our senior management and key sales personnel. Demand
for qualified personnel in the telecommunications equipment industry and our
primary geographic locations is competitive. We may not be successful in
attracting, integrating, retaining and motivating a sufficient number of
qualified employees to conduct our business in the future.
Where You Can Find More Information
Our principal executive offices are located at 5383 Hollister Avenue,
Santa Barbara, California 93111, and our telephone number at this address is
(805) 681-3322. You may request a copy of our annual reports on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments
to these reports filed pursuant to Section 13(a) or 15(d) of the Securities
Exchange Act of 1934, at no cost, by writing or telephoning us at our address
above (Attention: Investor Relations). Our SEC filings are also available to the
public from the SEC's web site at http://www.sec.gov. Our Internet address is
http://www.somera.com. The information on our web site is not incorporated by
reference into this report.
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EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information regarding the Company's
current executive officers as of February 28, 2003.
Name Age Position
Rick Darnaby........................ 51 President, Chief Executive Officer and Director
Dan Firestone....................... 41 Chairman of the Board of Directors
C. Stephen Cordial.................. 52 Chief Financial Officer
Warren B. Grayson................... 52 Vice President, General Counsel & Secretary
Brandt A. Handley................... 44 Vice President, Chief Marketing Officer
Rick Darnaby has served as our President and Chief Executive Officer since
joining Somera Communications in September 2001. Prior to joining Somera, Mr.
Darnaby was employed in a number of positions at Motorola, Inc. From December
1999 to April 2001, Mr. Darnaby served as Regional President, Senior Vice
President & General Manager - EMEA for the personal communications business,
from February 1998 to December 1999, Mr. Darnaby served as Senior Vice President
& General Manager, Consumer Solutions Group, and from November 1996 to January
1998, Mr. Darnaby served as Corporate Vice President & Director, Global Brand
Management for Motorola. From 1994 to 1996, Mr. Darnaby served as President, and
from 1991 to 1994 served as executive in various capacities for The Nutrasweet
Group a division of Monsanto Company. From 1989 to 1991, Mr. Darnaby served as
President & Chief Executive Officer of Monsanto, Canada, Inc. Prior to 1989, Mr.
Darnaby served in various positions of management for Monsanto Company. Mr.
Darnaby holds a B.S. degree in business administration and an M.B.A. from
Oklahoma State University. Mr. Darnaby also holds an Advanced Management Degree
in International Business from I.N.S.E.A.D. (Institute of European
Administration) Fountainbleau, France.
Dan Firestone co-founded Somera Communications in July 1995, and has
served as our Executive Chairman of the Board since September 2001. Mr.
Firestone served as our Chief Executive Officer from 1996 to September 2001,
served as our President from December 1998 to September 2001, and has also
served as our Chairman of the Board since our inception. From 1994 to the
present, Mr. Firestone has also operated SDC Business Consulting, a private
business-consulting firm. In 1984, Mr. Firestone co-founded Century Computer
Marketing, a distributor of computer service spare parts and related products,
and served as its Chief Executive Officer until May 1994. Mr. Firestone also
serves as President of Somera Ventures, LLC.
C. Stephen Cordial has served as our Chief Financial Officer since joining
Somera Communications in August 2002. Prior to joining Somera, Mr. Cordial held
executive positions with industry leading companies in the technology and
telecom sectors, including Texas Instruments, PMC-Sierra, and Xylan (which was
acquired by Alcatel). Mr. Cordial also served as Chief Financial Officer for En
Pointe Technologies in 1999, iReady Corp in 2000, and Nexsi Systems Corp in 2001
and 2002. Mr. Cordial holds a bachelors degree from Stanford University, and a
MBA from the University of Santa Clara.
Warren B. Grayson has served as our Vice President, General Counsel since
joining Somera Communications in June 2002 and was appointed Secretary of the
Corporation in August 2002. Mr. Grayson came to Somera from McWhorter
Technologies, Inc. where he served as Vice President, General Counsel and
Secretary from June 1999 to December 31, 2001. From September 1989 through May
1999, Mr. Grayson held a variety of in-house legal positions with The NutraSweet
Company, then a subsidiary of Monsanto Company, ultimately serving as Deputy
General Counsel from June 1995 to May 1999. Prior to joining Monsanto, from 1980
to 1989, Mr. Grayson was Division General Counsel and Assistant Secretary with
Carson Pirie Scott & Company, a publicly held retail company. Mr. Grayson
received his undergraduate degree from the University of Illinois, Chicago and
his law degree from The John Marshall Law School.
Brandt A. Handley has served as our Vice President, Chief Marketing
Officer since December 2002. Previously Mr. Handley served as our Vice
President, International from January 2001 to December 2002. From September 1999
to December 2000, Mr. Handley founded and operated Seedvest, Inc., an equity
investment and consultancy firm. From 1991 to September 1999, Mr. Handley served
as a vice president at The Walt Disney
8
Company, establishing two start-up companies in Asia. From 1982 to 1991, Mr.
Handley served in various management capacities in the marketing department of
The Procter & Gamble Company, including assignments in the U.S., the Middle
East, Europe and Asia. Mr. Handley holds a B.A. in international business from
the University of Oregon and is a graduate of the Advanced Management Program
from the Wharton School at the University of Pennsylvania.
ITEM 2. PROPERTIES
Our principal executive and corporate offices, located in Santa Barbara,
California, occupy approximately 43,000 square feet under several lease
agreements that expire from March 2003 to March 2004. Additionally, we occupy
nine office sites in the United States under lease agreements, totaling
approximately 75,000 square feet.
At December 31, 2002, we operated three distribution facilities in the
United States, occupying approximately 150,000 square feet, under several lease
agreements that expire from May 2004 to December 2005. Our primary distribution
center is located in Oxnard, California, and occupies approximately 100,000
square feet under a lease agreement that expires in May 2004. We have another US
distribution center in Norcross, Georgia and a repair center in Euless, Texas.
In December 2002, we announced we were consolidating our smaller distribution
and repair facilities into a larger facility in Dallas, Texas. We entered into a
facility lease agreement for space in Dallas, Texas, occupying 210,000 square
feet, which begins in March 2003 and expires in March 2010. We expect the Dallas
distribution and repair facility to be fully operational by July 2003. At that
time, the Oxnard and Norcross facilities will be vacated.
We lease additional properties outside the U.S. Our European headquarters
and distribution center, located in Amsterdam, The Netherlands, occupies
approximately 14,000 square feet under a lease agreement that expires in October
2005. We have two other sales offices in Singapore and Brazil. We believe that
our facilities are adequate for our current operations and that additional space
can be obtained as needed.
ITEM 3. LEGAL PROCEEDINGS
From time to time, we may be involved in legal proceedings and litigation
arising in the ordinary course of business. As of the date hereof, we are not a
party to or aware of any litigation or other legal proceeding that could
materially harm our business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of holders of Common Stock during the
quarter ended December 31, 2002.
9
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Our common stock has been traded on the Nasdaq National Market under the
symbol "SMRA" since our initial public offering on November 12, 1999. The
following table sets forth, for the periods indicated, the high and low closing
sale prices for our common stock as reported by the Nasdaq National Market:
High Low
------- -------
Year Ended December 31, 2002
First quarter............................. $8.70 $7.00
Second quarter............................ $8.56 $5.58
Third quarter............................. $7.29 $2.01
Fourth quarter............................ $3.26 $1.74
Year Ended December 31, 2001
First quarter............................. $11.69 $4.50
Second quarter............................ $7.23 $4.00
Third quarter............................. $7.05 $3.95
Fourth quarter............................ $8.15 $4.14
On March 14, 2003, the last reported sale price for our common stock on
the Nasdaq National Market was $1.07 per share. As of March 14, 2003, there were
approximately 164 holders of record. Because many of such shares are held in
street name by brokers and other institutions on behalf of stockholders, we are
unable to estimate the total number of stockholders represented by these record
holders.
While we do not plan to pay dividends, any future determination to pay
dividends will be at the discretion of the board of directors and will depend
upon our financial condition, operating results, capital requirements and other
factors the board of directors deems relevant. We currently plan to retain cash
from earnings for use in the operation of our business and to fund future
growth.
10
ITEM 6. SELECTED FINANCIAL DATA
You should read the following selected financial data together with our
financial statements and related notes and "Management's Discussion and Analysis
of Financial Condition and Results of Operations" appearing elsewhere in this
Annual Report on Form 10-K. Historical results are not necessarily indicative of
the results to be expected in the future.
Year Ended December 31,
-------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
(in thousands except per share/unit data)
Statements of Operations:
Net revenue (1) ............................. $199,200 $221,256 $211,192 $126,861 $73,180
Cost of net revenue (1) ..................... 145,590 148,478 134,618 82,761 44,126
-------- -------- -------- -------- -------
Gross profit ................................ 53,610 72,778 76,574 44,100 29,054
-------- -------- -------- -------- -------
Operating expenses:
Sales and marketing .................... 32,334 24,902 20,312 10,320 5,747
General and administrative ............. 25,934 22,049 16,108 8,756 3,939
Amortization of intangible assets (3) .. 689 1,484 302 -- --
Asset impairment ....................... 1,593 -- -- -- --
Restructuring charges .................. 2,759 352 -- -- --
-------- -------- -------- -------- -------
Total operating expenses .......... 63,309 48,787 36,722 19,076 9,686
-------- -------- -------- -------- -------
Income (loss) from operations ............... (9,699) 23,991 39,852 25,024 19,368
Interest income (expense), net .............. 1,037 1,724 2,376 (2,193) (187)
-------- -------- -------- -------- -------
Income (loss) before income taxes ........... (8,662) 25,715 42,228 22,831 19,181
Income tax provision (benefit) .............. (3,508) 10,929 17,737 (17,403) --
-------- -------- -------- -------- -------
Net income (loss) ...................... $ (5,154) $ 14,786 $ 24,491 $ 40,234 $19,181
======== ======== ======== ======== =======
Net income (loss) per share/unit--basic (2) . $ (0.11) $ 0.31 $ 0.51 $ 1.02 $ 0.50
======== ======== ======== ======== =======
Weighted average shares/units--basic ........ 48,645 48,260 47,928 39,408 38,063
======== ======== ======== ======== =======
Net income (loss) per share/unit--diluted (2) $ (0.11) $ 0.30 $ 0.51 $ 1.02 $ 0.50
======== ======== ======== ======== =======
Weighted average shares/units--diluted ...... 48,645 48,625 48,329 39,484 38,063
======== ======== ======== ======== =======
December 31,
---------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
(in thousands)
Balance Sheet Data:
Working capital ............................... $ 77,332 $ 90,476 $ 78,513 $67,888 $ 9,482
Total assets .................................. 165,090 143,572 178,076 115,751 17,009
Notes payable--net of current portion ......... -- -- -- -- 3,457
Mandatorily redeemable Class B units .......... -- -- -- -- 51,750
Stockholders' equity/members' capital (deficit) 128,100 132,016 114,497 86,786 (45,136)
(1) During 2000, we adopted new guidance for the accounting for shipping and
handling revenues and expenses, and accordingly have reclassified the prior
period balances to conform with our current policy for the years ended
December 31, 2000, 1999, and 1998. See also Note 2 of Notes to the
Consolidated Financial Statements.
(2) See Note 2 of Notes to the Consolidated Financial Statements for an
explanation of the calculation of net income (loss) per share/unit--basic
and diluted.
(3) The acquisition of MSI Communications, Inc. in October 2000 and Asurent
Technologies in October 2001 includes amortization totaling $302,000 in
2000 and $1.4 million in 2001 related to goodwill and acquired workforce.
Pursuant to SFAS 142 guidelines, for years subsequent to December 31, 2001,
the carrying values will be assessed for impairment and no amortization
will be recorded. See Note 5 of notes to consolidated financial statements.
11
Our fiscal years are on a 52 and 53 week basis. For presentation purposes
we are using a calendar quarter and calendar year end convention. Our fiscal
years 2002, 2001, 2000, 1999 and 1998 ended on December 29, 2002, December 30,
2001, December 31, 2000, January 2, 1999 and January 3, 1998, respectively.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion of financial condition and results of operations
should be read in conjunction with the consolidated financial statements and
related notes appearing elsewhere in this Annual Report on Form 10-K. Our actual
results could differ materially from the results contemplated by these
forward-looking statements as a result of factors, including those discussed
previously, under "Risk Factors" or in other parts of this Annual Report on Form
10-K.
Corporate History
Somera Communications, Inc. was formed in August 1999 and is incorporated
under the laws of the State of Delaware. In November 1999, we raised
approximately $107 million in net proceeds from our initial public offering.
Since that time, our common stock has traded on the Nasdaq National market under
the symbol SMRA.
Business Combinations.
In October 2000, we acquired MSI Communications Inc. ("MSI"). This
acquisition has enabled us to strengthen our product offering in data networking
equipment and services, increase our national presence, and provide key
personnel. This transaction was accounted for as a purchase. We paid $10.6
million in cash, including acquisition costs and issued 693,391 shares of our
common stock. As of December 31, 2002, all shares have been earned and no shares
are in escrow.
In October 2001, we completed the acquisition of the equipment repair
business of Asurent Technologies, Inc. ("Asurent") for $6.3 million in cash and
acquisition costs. The acquisition of Asurent provides us with enhanced
equipment repair capabilities, key personnel, and additional customer and
supplier relationships. The financial results of these acquisitions have been
included in our consolidated financial statements from the dates of acquisition.
In October 2002, we acquired Compass Telecom, LLC ("Compass"), to
strengthen our services offerings, provided key personnel, and contributed
additional customer relationships. We paid $9.5 million in cash, including
acquisition costs, and accrued $2.9 million as a result of earn out obligations.
In addition, under the terms of the acquisition agreement, we may also be
obligated to pay up to $7.1 million in cash over the next three years as a
result of a contingent earn out that is based on achieving future performance
targets.
For further details about these acquisitions, see Note 3 of Notes to the
Consolidated Financial Statements.
Results of Operations
2002 Compared to 2001
Net Revenue. Substantially all of our net revenue consists of sales of new
and redeployed telecommunications and data networking equipment, including
switching, transmission, access, wireless, microwave and power products, net of
estimated provision for returns. Net revenue decreased 10% to $199.2 million in
2002 from $221.3 million in 2001. The decrease in net revenue was primarily
driven by a 30% decrease in new equipment sales, partly offset by a 4% increase
in redeployed equipment sales. Net revenues from customers in the United States
decreased 15% to $169.5 million from $199.8 million, primarily due to reduced
new equipment sales. Net revenues from customers outside of the United States
increased 39% to $29.7 million in 2002 from $21.4 million in 2001 due to the
expansion of our international operations, primarily in Europe, Asia and Latin
America and our increased focus on international sales. Net revenue attributable
to new equipment sales decreased to $63.7 million in 2002 from $90.9 million in
2001. The decrease in net revenue attributable to new equipment sales was due
primarily to the financial distress of the telecommunications industry, which
has reduced customers' demand for new equipment. In addition, telecommunications
operators' capital spending budgets continue to be reduced and we see increased
pricing pressure caused by OEMs' reduction of their equipment prices. Net
revenue attributable to redeployed equipment sales increased to $135.5 million
in 2002 from $130.4 million in 2001. The increase in net revenue attributable to
redeployed equipment sales was due to greater demand among our customers in
connection with the
12
build-out and servicing of their existing networks. We also see an increased
preference expressed by our customers for redeployed equipment as a
cost-effective alternative to new equipment. We believe net revenue attributable
to new and redeployed equipment will continue to vary from quarter to quarter as
customers' demand for such equipment fluctuates. We believe net revenue from
customers in the United States will decrease but that net revenues from
customers outside of the United States will increase in both absolute dollars
and as a percentage of overall net income as we continue to expand our
international operations. Service revenue was not material at 9% of total
revenues in 2002 and given that such services are sold in conjunction with
equipment sales, we have included it with equipment.
Cost of Net Revenue. Substantially all of our cost of net revenue consists
of the costs of the equipment we purchase from third party sources. Cost of net
revenue decreased 2% to $145.6 million in 2002 from $148.5 million in 2001. The
decrease in cost of net revenue during this period is primarily attributable to
decreases in our net revenues of new equipment sales, offset by an $11.9 million
increase to our inventory reserve in the fourth quarter 2002. The increase in
inventory reserve resulted from continued weakness in the telecommunications
industry and changes in our business strategy. Cost of net revenue attributable
to new equipment sales decreased to $57.0 million in 2002 from $73.2 million in
2001, primarily due to lower volumes of new equipment sales, offset by an
increase in the inventory reserve during the fourth quarter of $2.4 million
relating to obsolete, but new equipment. Cost of net revenue attributable to
redeployed equipment sales increased to $88.6 million in 2002 from $75.3 million
in 2001. The increase in cost of net revenue attributable to redeployed
equipment was due primarily to a $9.5 million increase in inventory reserve in
the fourth quarter related to redeployed equipment, increased volume of
redeployed equipment sales and an increase in the cost to acquire redeployed
equipment. We believe that the cost of net revenue attributable to redeployed
equipment will continue to fluctuate in absolute dollar terms as our volume of
redeployed equipment sales fluctuates in response to customer demand.
Gross profit as a percentage of net revenue, or gross margin, decreased to
26.9% in 2002 from 32.9% in 2001. The decrease in gross margin was primarily due
to an $11.9 million increase to our inventory reserve we made in fourth quarter
2002. We anticipate increased pricing pressure on new and redeployed equipment
due to OEMs' reduction of their equipment prices during the fourth quarter as a
result of the slow-down of the economy in 2001 and 2002. Gross margin
attributable to new equipment sales decreased to 10.5% in 2002 from 19.4% in
2001. The decrease in gross margin attributable to new equipment sales was
primarily due to an increase in the inventory reserve of $2.4 million during the
fourth quarter, which related to new equipment and increased pricing pressures.
Gross margin attributable to redeployed equipment sales decreased to 34.6% in
2002 from 42.3% in 2001. The decrease in gross margin attributable to redeployed
equipment sales was due primarily to an increase in the inventory reserve of
$9.5 million during the fourth quarter related to redeployed equipment and
increased price pressure on redeployed equipment. We believe that gross margins
attributable to redeployed equipment sales may continue to fluctuate depending
upon the mix of redeployed equipment we sell, our ability to procure inventory
at favorable prices, and the pace of recovery of the economy in general and the
telecommunications industry in particular.
Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, commissions and benefits for sales, marketing and procurement
employees as well as costs associated with advertising, promotions and our
e-commerce initiative. Our e-commerce initiative was terminated during the
fourth quarter of 2002. A majority of our sales and marketing expenses are
incurred in connection with establishing and maintaining long-term relationships
with a variety of operators. Sales and marketing expenses increased to $32.3
million, or 16.2% of net revenue, in 2002 from $24.9 million, or 11.3% of net
revenue, in 2001. This increase was primarily due to an increase of $5.1 million
in salaries and wages associated with the hiring of additional sales and
procurement personnel, an increase of $1.2 million in travel related costs
associated with our intensified sales efforts, and an increase of $804,000 in
marketing primarily associated with a market study on the redeployed
telecommunications space, partially offset by a decrease of $948,000 in lower
absolute commissions corresponding to lower gross profit on which commissions
are based. The absolute dollar increase in salaries and wages and decrease in
commissions were also due to a change in compensation structure for our senior
sales personnel, wherein base salaries were increased and commission rates were
reduced as well as severance packages paid to employees who were terminated as
part of a reduction in workforce we completed in the third quarter of 2002. We
expect that our sales and marketing expenses will decrease in 2003 as a result
of our restructuring in the fourth quarter of 2002.
General and Administrative. General and administrative expenses consist
principally of salary and benefit costs for executive and administrative
personnel, professional fees and facility costs. General and administrative
expenses increased to $25.9 million, or 13.0% of net revenue, in 2002 from $22.0
million, or 10.0% of net revenue, in 2001. This increase was due primarily to an
increase of $742,000 in relocation costs, an increase of $253,000
13
associated with facilities costs and an increase of $1.2 million in
depreciation. We expect that general and administrative expenses will decrease
due to our cost saving measures.
Restructuring and Asset Impairment Charges. In the fourth quarter of 2002,
the Company announced and began implementation of its operational restructuring
plan to reduce operating costs and streamline its operating facilities. This
initiative involved the reduction of employee staff by 29 positions throughout
the Company in managerial, professional, clerical and operational roles and
consolidation of the Oxnard, Norcross and Euless distribution and repair
facilities to one centralized location in Dallas.
For the year ended December 31, 2002, the charges associated with the
restructuring were as follows (in thousands):
Total Charge
------------
Restructuring Charge
Continuing lease obligations........................... $ 995
Termination benefits................................... 1,764
-----
Total Restructuring Charge.................................. 2,759
Asset Impairments...................................... 1,593
-----
Total Charge................................................ $ 4,352
Continuing lease obligations primarily relate to closure of the Oxnard,
Norcross, and Euless facilities. Amounts expensed represent estimates of
undiscounted future cash outflows, offset by anticipated third-party sub-lease
rentals. At December 31, 2002, the Company remains obligated under lease
obligations of $1.5 million associated with its December 2002 operational
restructuring, offset by estimates of future sub-lease rentals of $575,000. The
lease obligations expire in 2006. The Company expects cash savings of $500,000 a
quarter beginning in the third quarter of 2003 and thereafter.
Termination benefits are comprised of severance-related payments for all
employees to be terminated in connection with the operational restructuring.
Termination benefits do not include any amounts for employment-related services
prior to termination. Other restructuring costs include broker commissions,
professional fees and other miscellaneous expenses directly attributable to the
restructuring.
At December 31, 2002, the accrued liability associated with the
restructuring charge was $2.6 million and consisted of the following (in
thousands):
Restructuring Balance at
Charge Payments December 31, 2002
------ -------- -----------------
Lease obligations, net of estimated
Sublease income ............................. $ 995 $ -- $ 995
Termination benefits .............................. 1,764 (155) 1,609
------ ----- ------
Total ............................................. $2,759 $(155) $2,604
====== ===== ======
As of December 31, 2002, 20 employees had been terminated, and actual
termination benefits paid were $155,000.
Asset impairments primarily relate to e-commerce software the Company
invested in, in anticipation of on-line sales. The online market did not
materialize and in the fourth quarter of 2002, the Company eliminated the
department and wrote-off the assets. The Company expects $1.5 million in
amortization savings in 2003 and none thereafter.
Restructuring charges in 2001 relate to a reorganization in which the
domestic workforce was reduced by 28 people, or approximately 10% of the then
existing workforce. The total charges associated with the reorganization were
$352,000 and represented accrued salaries and wages, severance, accrued
vacation, payroll taxes and other directly related costs, all which were paid in
2001.
Amortization of Intangible Assets. Intangible assets consist of customer
contracts, non-compete covenants and goodwill related to our acquisitions during
2000, 2001 and 2002 which were amortized on a straight-line basis over their
estimated economic lives. Amortization of intangible assets decreased to
$689,000 in 2002 from $1.5 million in 2001. The decline in amortization of
intangible assets relates to our adoption of SFAS No. 141 "Business
Combinations" and 142 "Goodwill and other Intangibles", which requires that
workforce intangibles be subsumed into goodwill and that goodwill no longer be
amortized. This resulted in a $1.4 million decrease in amortization in
14
2002. This is partially offset by additional intangible asset amortization of
$182,000 resulting from the Compass acquisition completed in October, 2002. We
expect amortization to increase slightly during 2003 to reflect a full year
amortization of intangible assets relating to the Compass acquisition.
Interest Income (Expense), Net. Interest income (expense), net consists of
investment earnings on cash and cash equivalent balances. Interest income, net
decreased to $1.0 million in 2002 from $1.7 million in 2001. The decrease in
interest income was primarily due to lower interest rates in effect during 2002
and a declining cash balance from January 2002 to December 2002. We had no
long-term debt outstanding as of December 31, 2002.
Income Tax Provision / (Benefit). In 2002 we had an income tax benefit of
$3.5 million, with an effective tax rate of 40.5%. In 2001, we had a tax
provision of $10.9 million with an effective tax rate of 42.5%. Our tax rate
decrease is due primarily to Goodwill no longer being amortized as a result of
SFAS 141 and 142 and tax efficiencies gained as an indirect consequence of
internally restructuring domestic business operations.
2001 Compared to 2000
Net Revenue. Net revenue increased to $221.3 million in 2001 from $211.2
million in 2000. The increase in net revenue was primarily attributable to a
general increase in our equipment and services offerings rather than significant
increases in the price of the products we sold, expansion of our international
operations, and growth in significant customer accounts. Net revenues from
customers outside of the United States increased to $21.4 million in 2001 from
$16.5 million in 2000 due to the expansion of our international operations. Our
acquisitions of MSI in October 2000 and the equipment repair business of Asurent
in October 2001 contributed to the general increase in equipment and service
offerings. These increases were partially offset by the effects of the general
slow-down in the telecommunications operators' capital spending levels,
including increased price pressure on our redeployed equipment prices, caused by
OEMs' reduction of their equipment prices. Net revenue attributable to new
equipment sales increased slightly to $90.9 million in 2001 from $90.7 million
in 2000. Net revenue attributable to redeployed equipment sales increased to
$130.4 million in 2001 from $120.5 million in 2000. The increase in net revenue
attributable to redeployed equipment sales was due to greater demand among our
customers in connection with the build-out and servicing of their existing
networks. We believe net revenue attributable to new and redeployed equipment
will increase as our customers continue to build their existing networks.
Cost of Net Revenue. Cost of net revenue increased to $148.5 million in
2001 from $134.6 million in 2000. The increase in cost of net revenue during
this period is primarily attributable to increases in our volume of redeployed
equipment sales. Cost of net revenue attributable to new equipment sales
decreased slightly to $73.2 million in 2001 from $73.8 million in 2000. Cost of
net revenue attributable to redeployed equipment sales increased to $75.3
million in 2001 from $60.8 million in 2000. The increase in cost of net revenue
attributable to redeployed equipment was due primarily to increased volume of
redeployed equipment sales.
Gross profit as a percentage of net revenue, or gross margin, decreased to
32.9% in 2001 from 36.3% in 2000. The decrease in gross margin was primarily due
to increased price pressure on redeployed equipment due to OEMs' reduction of
their equipment prices, as a result of the slow-down of the economy in 2001.
Gross margin attributable to new equipment sales increased to 19.4% in 2001 from
18.6% in 2000. The increase in gross margin attributable to new equipment sales
was primarily a function of equipment mix. We believe gross margin attributable
to new equipment sales will continue to fluctuate depending upon the mix of the
new equipment we sell. Gross margin attributable to redeployed equipment sales
decreased to 42.3% in 2001 from 49.5% in 2000. The decrease in gross margin
attributable to redeployed equipment sales was due primarily to increased price
pressure on redeployed equipment.
Sales and Marketing. Sales and marketing expenses increased to $24.9
million, or 11.3% of net revenue, in 2001 from $20.3 million, or 9.6% of net
revenue, in 2000. This increase was primarily due to an increase of $4.2 million
in salaries and wages associated with the hiring of additional sales and
procurement personnel, and an increase of $800,000 in travel related costs
associated with our intensified sales efforts, partially offset by a decrease of
$2.4 million in lower absolute commissions corresponding to lower gross profit
on which commissions are based. The absolute increase in salaries and wages and
decrease in commissions were also due to a change in compensation structure for
our senior sales personnel, wherein base salaries were increased and commission
rates were reduced.
General and Administrative. General and administrative expenses increased
to $22.0 million, or 10.0% of net revenue, in 2001 from $16.1 million, or 7.6%
of net revenue, in 2000. This increase was due primarily to an increase of $3.6
million in compensation costs and benefits associated with the increase in
employees relating to the
15
expansion of our operations, an increase of $1.2 million associated with
facilities costs and an increase of $1.7 million in depreciation.
Stock Based Compensation. Stock-based compensation was $148,000 and
$367,000 for 2001 and 2000, respectively. Stock based compensation includes
stock-based charges resulting from variable accounting treatment of certain
stock options issued to key directors. The number of shares of common stock
subject to outstanding vested and unvested employee stock awards was
approximately $10.1 million and $6.8 million, or 21% and 14% of our outstanding
common stock, at December 31, 2002 and 2001, respectively.
Amortization of Intangible Assets. Intangible assets consist of acquired
workforce, customer contract and goodwill related to our acquisitions during
2000 and 2001 which were amortized on a straight-line basis over their estimated
economic lives. Amortization of intangible assets increased to $1.5 million in
2001 from $302,000 in 2000. This increase in 2001 reflected a full year of
amortization of the goodwill and purchased intangibles arising from the MSI
acquisition compared with three months of amortization in 2000.
Restructuring Charges. On March 8, 2001, in light of the economic
environment and the state of the telecommunications industry, we undertook a
reorganization in which the domestic workforce was reduced by 28 people, or
approximately 10% of the then existing workforce. The terminations were not
concentrated in any particular aspect of the business. We recorded total
associated charges of $352,000 representing accrued salaries and wages,
severance, accrued vacation, payroll taxes and other directly related costs, all
of which were paid during 2001.
Interest Income (Expense), Net. Interest income (expense), net consists of
investment earnings on cash and cash equivalent balances. Interest income, net
decreased to $1.7 million in 2001 from $2.4 million in 2000. The decrease was
primarily due to lower interest rates in effect during 2001. We had no long-term
debt outstanding as of December 31, 2001.
Income Tax Provision. Income tax provision decreased to $10.9 million in
2001, an effective tax rate of 42.5%, from $17.7 million in 2000, an effective
tax rate of 42.0%.
16
Quarterly Results of Operations
The following tables set forth unaudited statement of operations data for
each of the eight quarters in the period ended December 31, 2002, as well as the
percentage of our net revenue represented by each item. In our opinion, this
unaudited information has been prepared on the same basis as the annual
financial statements. This information includes all adjustments (consisting only
of normal recurring adjustments) necessary for fair presentation when read in
conjunction with the financial statements and related notes included elsewhere
in this Annual Report on Form 10-K. The operating results for any quarter are
not necessarily indicative of results for any future period.
Quarter Ended
March 31, June 30, Sept. 30, Dec. 31, March 31, June 30, Sept. 30, Dec. 31,
--------- -------- --------- -------- --------- -------- --------- --------
2001 2001 2001 2001 2002 2002 2002 2002
---- ---- ---- ---- ---- ---- ---- ----
(unaudited)
(in thousands)
Statements of Operations Data:
Net revenue ........................ $47,809 $60,103 $54,973 $58,371 $55,001 $49,217 $50,495 $ 44,487
Cost of net revenue ................ 32,475 41,747 36,035 38,221 36,210 32,961 34,560 41,859
------- ------- ------- ------- ------- ------- ------- --------
Gross profit ....................... 15,334 18,356 18,938 20,150 18,791 16,256 15,935 2,628
Operating expenses:
Sales and marketing ........... 5,567 5,914 6,464 6,957 7,293 8,338 9,309 7,394
General and administrative .... 5,281 5,024 5,575 6,169 5,473 6,625 6,358 7,478
Amortization of intangible
assets ...................... 350 350 350 434 127 127 127 308
Asset impairment .............. -- -- -- -- -- -- -- 1,593
Restructuring charges ......... 352 -- -- -- -- -- -- 2,759
------- ------- ------- ------- ------- ------- ------- --------
Total operating
expenses ................ 11,550 11,287 12,389 13,561 12,893 15,090 15,794 19,532
------- ------- ------- ------- ------- ------- ------- --------
Income (loss) from operations ...... 3,784 7,069 6,549 6,589 5,898 1,166 141 (16,904)
Interest income (expense), net ..... 507 470 461 286 218 490 181 148
------- ------- ------- ------- ------- ------- ------- --------
Income (loss) before
income taxes .................... 4,291 7,539 7,010 6,875 6,116 1,656 322 (16,756)
Income tax provision (benefit) ..... 1,818 3,210 2,979 2,922 2,477 671 130 (6,786)
------- ------- ------- ------- ------- ------- ------- --------
Net income (loss) .................. $ 2,473 $ 4,329 $ 4,031 $ 3,953 $ 3,639 $ 985 $ 192 $ (9,970)
======= ======= ======= ======= ======= ======= ======= ========
As a Percentage of Net Revenue:
Net revenue ........................ 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of net revenue ................ 67.9 69.5 65.6 65.5 65.8 67.0 68.4 94.1
------- ------- ------- ------- ------- ------- ------- --------
Gross profit ....................... 32.1 30.5 34.4 34.5 34.2 33.0 31.6 5.9
Operating expenses:
Sales and marketing ........... 10.6 9.3 11.0 11.5 13.3 16.9 18.4 16.6
General and administrative .... 12.1 8.9 10.9 11.0 10.0 13.4 12.6 16.8
Amortization of intangible
assets ...................... 0.7 0.6 0.6 0.7 0.2 0.3 0.3 0.7
Asset impairment .............. -- -- -- -- -- -- -- 3.6
Restructuring charges ......... 0.7 -- -- -- -- -- -- 6.2
------- ------- ------- ------- ------- ------- ------- --------
Total operating
expenses ................ 24.1 18.8 22.5 23.2 23.5 30.6 31.3 43.9
------- ------- ------- ------- ------- ------- ------- --------
Income (loss) from operations ...... 8.0 11.7 11.9 11.3 10.7 2.4 0.3 (38.0)
Interest income (expense), net ..... 1.0 0.8 0.8 0.5 0.4 1.0 0.3 0.3
------- ------- ------- ------- ------- ------- ------- --------
Income (loss) before
income taxes .................... 9.0 12.5 12.7 11.8 11.1 3.4 0.6 (37.7)
Income (loss) tax
provision (benefit) ............. 3.8 5.3 5.4 5.0 4.5 1.4 0.2 (15.3)
------- ------- ------- ------- ------- ------- ------- --------
Net income (loss) .................. 5.2% 7.2% 7.3% 6.8% 6.6% 2.0% 0.4% (22.4)%
======= ======= ======= ======= ======= ======= ======= ========
Goodwill and acquired workforce related to the acquisition of MSI
Communications, Inc. in October 2000 and Asurent technologies, Inc. in October
2001 includes $302,000 amortization in 2000 and $1.4 million of amortization in
2001. Pursuant to SFAS 142 guidelines, for years subsequent to December 31,
2001, the carrying values will be assessed for impairment and no amortization
will be recorded.
17
Liquidity and Capital Resources
Our principal source of liquidity is our cash and cash equivalents. Our
cash and cash equivalents balance was $50.4 and $54.5 million at December 31,
2002 and 2001, respectively.
We finance our operations primarily through cash flows from operations.
Net cash generated by operating activities in 2002 was $10.4 million. The
primary increase in net cash provided by operating activities was a decrease in
accounts receivable of $19.5 million. We saw over a $6.0 million dollar decline
in net revenues in the fourth quarter. Decreasing revenues and continued focus
on cash collection caused the balance to decrease significantly over the prior
year. The inventory provision increased by $13.7 million, primarily due to a
$11.9 million increase in the inventory reserve taken in the fourth quarter
2002. In the fourth quarter we experienced a significant decline in market
demand over the previous quarter and continued to see increased pricing
pressures. Historically, the value of inventory increased as it aged and became
scarce in the market. In addition, when the decision was made to consolidate
operations in Dallas, we recognized the cost of transporting some of the items
exceeded the market price. At the time we made the decision to consolidate our
distribution facilities in Dallas, we reviewed inventory for impairment and
concluded that a write-down of $11.9 million was necessary. Increases in our
operating activities were offset by a $10.6 million decrease in Accounts
Payable, $9.1 million increase in inventories and a $4.5 million decrease in
income taxes payable.
Net cash provided by operating activities in 2001 was $32.3 million. The
primary increases in operating activities comprised of net income of $14.8
million, depreciation and amortization of $5.0 million, a $3.0 million increase
in inventory reserve, an increase in accounts payable of $4.6 million, increase
in deferred revenue of $4.6 million and increase in income taxes payable of $5.2
million. The increases in operating activities were partially offset by
decreases in accounts receivable of $4.7 million and inventories of $2.4
million. Net cash used in operating activities in 2000 was $3.2 million. The
primary increase in operating activities was net income of $24.5 million. Net
income was offset by increases in accounts receivable of $18.8 million and
inventories of $13.1 million.
Net cash used in investing activities in 2002 comprised primarily our
acquisition of Compass for $9.5 million in cash including acquisition costs,
acquisition of property and equipment of $4.3 million and a loan to an officer
for $2.0 million. Net cash used in investing activities in 2001 comprised
primarily our acquisition of Asurent for $6.3 million in cash, including
acquisition costs, and acquisition of property and equipment of $4.7 million.
Net cash used in investing activities in 2000 comprised primarily of our
acquisition of MSI for $10.6 million in cash, including acquisition costs and
acquisition of property and equipment of $6.1 million.
Cash flows from financing activities for the years ended December 31, 2002
and 2001, included proceeds from employee stock purchases of $586,000 and
$580,000, respectively. Cash flow used in financing activity for the year ended
December 31, 2000 was $1.5 million, which primarily relates to a repayment of a
line of credit for $1.0 million and a repayment of capital leases of $830,000.
At December 31, 2002, we had $50.4 million in cash and cash equivalents.
We do not currently plan to pay dividends, but rather to retain earnings for use
in the operation of our business and to fund future growth. We had no long-term
debt outstanding as of December 31, 2002.
The following summarizes our contractual obligations under various
operating leases for both office and warehouse space as at December 31, 2002,
and the effect such obligations are expected to have on our liquidity and cash
flow in future periods. The remaining lease terms range in length from one to
four years with future minimum lease payments, net of sublease proceeds of
$108,000 in 2003, as follows (in thousands):
2003 2004 2005 2006 2007 Thereafter
---- ---- ---- ---- ---- ----------
Restructuring related leases (see note 11) $ 561 $ 592 $ 304 $ 22 $ 0 $ 0
Operating Leases ......................... 2,247 2,256 1,913 1,108 912 1, 989
------ ------ ------ ------ ---- ------
Total commitments .................. $2,808 $2,848 $2,217 $1,130 $912 $1,989
====== ====== ====== ====== ==== ======
We have not included contingent earn out payments in the table above. The
potential earn out payments to the former owners of Compass is $3.85 million
during 2003 and $3.25 million in 2004 if the earnings before interest, taxes,
depreciation and amortization exceed $3.5 million in 2003 and $4.6 million in
2004.
18
We are also exposed to credit risk in the event of default of the
sub-lessee of certain facilities, because we are still liable to meet our
obligations under the terms of the original lease agreement.
We anticipate fluctuations in working capital in the future primarily as a
result of fluctuations in sales of equipment and relative levels of inventory.
We will also continue to expend significant amounts of capital on property and
equipment related to the restructuring of our corporate headquarters,
consolidation of our distribution centers, equipment testing infrastructure, and
additional facilities to support our growth, as well as expending significant
resources in support of our information technology projects.
We believe that cash and cash equivalents and anticipated cash flow from
operations will be sufficient to fund our working capital and capital
expenditure requirements for at least the next 12 months.
Critical Accounting Policies
We consider certain accounting policies related to revenue recognition,
valuation allowances, valuation of goodwill and intangible assets, and income
taxes to be critical policies.
Revenue Recognition. Substantially all of our revenue is derived from the
sale of new and redeployed telecommunications equipment. With the exception of
exchange transactions, revenue is recognized upon our delivery of equipment
provided that, at the time of delivery, there is evidence of a contractual
arrangement with the customer, the fee is fixed or determinable, collection of
the resulting receivable is reasonably assured and there are no significant
remaining obligations. Delivery occurs when title and risk of loss transfer to
the customer, generally at the time the product is shipped to the customer.
We also generate services revenue in connection with equipment sales.
Revenue for transactions that include multiple elements such as equipment and
services is allocated to each element based on its relative fair value (or in
the absence of fair value, the residual method) and recognized when the revenue
recognition criteria have been met for each element. We recognize revenue for
delivered elements only when the following criteria are satisfied: (1)
undelivered elements are not essential to the functionality of delivered
elements, (2) uncertainties regarding customer acceptance are resolved, and (3)
the fair value for all undelivered elements is known. For 2002 revenue from
services represented approximately 9% of net revenue. Services represented less
than 5% of net revenues prior to 2002.
Revenue is deferred when customer acceptance is uncertain, when
significant obligations remain, or when undelivered elements are essential to
the functionality of the delivered products. A reserve for sales returns and
warranty obligations is recorded at the time of shipment and is based on our
historical experience. Actual results could differ from those estimates, which
could affect our operating results. At December 31, 2002, the reserve for sales
returns and warranty obligations was $990,000.
We supply equipment to companies in exchange for redeployed equipment or
to companies from which redeployed equipment was purchased under separate
arrangements executed within a short period of time ("reciprocal arrangements").
For reciprocal arrangements, the Company considers Accounting Principles Board
("APB") No. 29, "Accounting for Nonmonetary Transactions," and Emerging Issues
Task Force ("EITF") Issue No. 86-29, "Nonmonetary Transactions: Magnitude of
Boot and Exceptions to the Use of Fair Value, Interpretation of APB No. 29,
Accounting for Nonmonetary Transactions." Revenue is recognized when the
equipment received in accordance with the reciprocal arrangement is sold through
to a third party. Revenues recognized under reciprocal arrangements were $1.3
million and $1.4 million for the fiscal years ended December 31, 2002 and 2001,
respectively. There were no revenues recognized under reciprocal arrangements
during 2000.
Valuation Allowances. The preparation of financial statements in
conformity with generally accepted accounting principles requires us 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 revenue and expenses during
the reporting period. Specifically, we make estimates of doubtful accounts and
slow-moving and obsolete inventory. These estimates are made based on a
consideration of various factors, including historical experience, knowledge of
customers and the telecommunications equipment market, and current economic
trends. Actual results could differ from those estimates, which could affect our
operating results.
At December 31, 2002, the estimate for slow-moving and obsolete inventory
was $14.5 million. During the year ended December 31, 2002 we recorded a $13.7
million increase to the inventory reserve, resulting from continued weakness in
the telecommunications industry and changes in our business strategy.
At December 31, 2002, the estimate for doubtful accounts was $692,000.
19
Valuation of Goodwill and Intangible Assets. The cost of acquired
companies is allocated to the assets acquired and liabilities assumed based on
estimated fair values at the date of acquisition. Costs allocated to
identifiable intangible assets are generally amortized on a straight-line basis
over the remaining estimated useful lives of the assets, as determined by
underlying contract terms or appraisals. Such lives range from fifteen months to
three years.
We conduct our annual goodwill impairment tests during June or more
frequently based on an ongoing assessment of events and circumstances that would
more than likely reduce the fair value of the Company below its carrying value.
Events or circumstances that might require the need for more frequent tests
include, but are not limited to: the loss of a number of significant clients,
the identification of other impaired assets within the Company, the disposition
of a significant portion of the Company, or a significant adverse change in
business climate or regulations. Accordingly, as a result of the restructuring
activities and inventory write-downs, the Company conducted a second impairment
test at December 31, 2002. The estimated fair value of the Company exceeded the
carrying value in both tests conducted in 2002, indicating the underlying
goodwill was not impaired at the respective testing dates. The goodwill balances
at December 31, 2002 and 2001 were $26.5 million and $16.3 million,
respectively.
Deferred Taxes. The carrying value of our net deferred tax assets assumes
that we will be able to generate sufficient future taxable income in certain tax
jurisdictions, based on estimates and assumptions. If these estimates and
related assumptions change in the future, we may be required to record valuation
allowances against our deferred tax assets resulting in additional income tax
expense. We evaluate the realizability of the deferred tax assets quarterly and
assess the need for additional valuation allowances related to our net deferred
tax assets. As of December 31, 2002, we had no valuation allowances recorded
against our deferred tax assets.
Recent Accounting Pronouncements
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This standard requires that costs
associated with exit or disposal activities be recognized when they are incurred
rather than at the date of a commitment to an exit or disposal plan. SFAS No.146
will apply to exit or disposal activities initiated after fiscal year 2002. The
provisions of EITF No. 94-3 shall continue to apply for an exit activity
initiated under an exit plan that met the criteria of EITF No. 94-3 prior to the
adoption of SFAS No. 146. The effect on adoption of SFAS No. 146 will change on
a prospective basis the timing of when restructuring charges are recorded from
commitment date approach to when the liability is incurred.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation -- Transition and Disclosure." This Statement amends
SFAS No. 123, "Stock-Based Compensation," to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, this Statement amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The disclosure provisions of this Statement are effective for fiscal
years ending after December 15, 2002 and have been incorporated into these
financial statements and accompanying footnotes.
In March 2003, the EITF reached a consensus on Issue 00-21, addressing how
to account for arrangements that involve the delivery or performance of multiple
products, services, and/or rights to use assets. Revenue arrangements with
multiple deliverables are divided into separate units of accounting if the
deliverables in the arrangement meet the following criteria: (1) the delivered
item has value to the customer on a standalone basis; (2) there is objective and
reliable evidence of the fair value of undelivered items; and (3) delivery of
any undelivered item is probable. Arrangement consideration should be allocated
among the separate units of accounting based on their relative fair values, with
the amount allocated to the delivered item being limited to the amount that is
not contingent on the delivery of additional items or meeting other specified
performance conditions. The final consensus is applicable to agreements entered
into in fiscal periods beginning after June 15, 2003 with early adoption
permitted. We are currently assessing the impact of EITF 00-21 on our
consolidated financial statements.
In November 2002, the FASB issued Interpretation No. 45 ("FIN 45"),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." FIN 45 requires that a liability
be recorded in the guarantor's balance sheet upon issuance of a guarantee. In
addition, FIN 45 requires disclosures about the guarantees that an entity has
issued, including a reconciliation of changes in the entity's product warranty
liabilities. The initial recognition and initial measurement provisions of FIN
45 are
20
applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The disclosure requirements of FIN 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. We have not assessed the impact of the recognition and measurement
provisions of FIN 45 on our consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51."
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the equity investors in the entity do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. FIN 46 is
effective immediately for all new variable interest entities created or acquired
after January 31, 2003. For variable interest entities created or acquired prior
to February 1, 2003, the provisions of FIN 46 must be applied for the first
interim or annual period beginning after June 15, 2003. We are currently
assessing the impact of FIN 46 on our consolidated financial statements.
Risk Factors
You should carefully consider the risks described below. If any of the
following risks actually occur, our business could be harmed and the trading
price of our common stock could decline. You should also refer to other
information contained in this Annual Report on Form 10-K, including our
financial statements and related notes.
Our operating results are likely to fluctuate in future periods, which might
lead to reduced prices for our stock.
Our annual or quarterly operating results are difficult to predict and are
likely to fluctuate significantly in the future as a result of numerous factors,
many of which are outside of our control. If our annual or quarterly operating
results do not meet the expectations of securities analysts and investors, the
trading price of our stock could significantly decline. Factors that could
impact our operating results include:
o the rate, timing and volume of orders for the telecommunications
infrastructure equipment we sell;
o the rate at which telecommunications operators de-install their
equipment;
o decreases in our selling prices due to competition in the secondary
market or price pressure from OEMs;
o our ability to obtain products cost-effectively from OEMs,
distributors, operators and other secondary sources of
telecommunications equipment;
o our ability to provide equipment and service offerings on a timely
basis to satisfy customer demand;
o variations in customer capital spending patterns due to seasonality,
economic conditions for telecommunications operators and other
factors;
o write-offs due to inventory defects or obsolescence;
o the sales cycle for equipment we sell, which can be relatively
lengthy;
o delays in the commencement of our operations in new market segments
and geographic regions; and
o costs relating to possible acquisitions and integration of new
businesses.
Our business depends upon our ability to match third party redeployed equipment
supply with carrier demand for this equipment and failure to do so could reduce
our net revenue.
Our success depends on our continued ability to match the equipment needs
of telecommunications operators with the supply of redeployed equipment
available in the secondary market. We depend upon maintaining business
relationships with third parties who can provide us with redeployed equipment
and information on available redeployed equipment. Failure to effectively manage
these relationships and match the needs of our customers with available supply
of redeployed equipment could damage our ability to generate net revenue. In the
event operators decrease the rate at which they de-install their networks, or
choose not to de-install their networks at all, it would be more difficult for
us to locate this equipment, which could negatively impact our net revenue.
21
A continued downturn in the telecommunications industry or an industry trend
toward reducing or delaying additional equipment purchases due to cost-cutting
pressures could reduce demand for our products.
We rely significantly upon customers concentrated in the
telecommunications industry as a source of net revenue and redeployed equipment
inventory. In 2002, we experienced a general downturn in the level of capital
spending by our telecommunications customers. This slow-down in capital spending
could result in postponement of network upgrades and reduced sales to our
customers. There can be no assurance that the level of capital spending in the
telecommunications industry or by our customers specifically will increase or
remain at current levels.
The market for supplying equipment to telecommunications operators is
competitive, and if we cannot compete effectively, our net revenue and gross
margins might decline.
Competition among companies who supply equipment to telecommunications
operators is intense. We currently face competition primarily from three
sources: OEMs, distributors and secondary market dealers who sell new and
redeployed telecommunications infrastructure equipment. If we are unable to
compete effectively against our current or future competitors, we may have to
lower our selling prices and may experience reduced gross margins and loss of
market share, either of which could harm our business.
Competition is likely to increase as new companies enter this market, as
current competitors expand their products and services or as our competitors
consolidate. Increased competition in the secondary market for
telecommunications equipment could also heighten demand for the limited supply
of redeployed equipment which would lead to increased prices for, and reduce the
availability of, this equipment. Any increase in these prices could
significantly impact our ability to maintain our gross margins.
We do not have many formal relationships with suppliers of telecommunications
equipment and may not have access to adequate product supply.
In fiscal year 2002, 68% of our net revenue was generated from the sale of
redeployed telecommunications equipment. Typically, we do not have supply
contracts to obtain this equipment and are dependent on the de-installation of
equipment by operators to provide us with much of the equipment we sell. Our
ability to buy redeployed equipment from operators is dependent on our
relationships with them. If we fail to develop and maintain these business
relationships with operators or they are unwilling to sell redeployed equipment
to us, our ability to sell redeployed equipment will suffer.
Our customer base is concentrated and the loss of one or more of our key
customers would have a negative impact on our net revenue.
Historically, a significant portion of our sales have been to relatively
few customers. Sales to our ten largest customers accounted for 49.4% of our net
revenue in 2002, 39.7% of our net revenue in 2001, and 39.5% in 2000. Verizon
Communications accounted for 13.4%, 16.1% and 11.3% of our net revenue in 2002,
2001 and 2000, respectively. In addition, substantially all of our sales are
made on a purchase order basis, and no customer has entered into a long-term
purchasing agreement with us. As a result, we cannot be certain that our current
customers will continue to purchase from us. The loss of, or any reduction in
orders from, a significant customer would have a negative impact on our net
revenue.
We may be forced to reduce the sales prices for the equipment we sell, which may
impair our ability to maintain our gross margins.
In the future we expect to reduce prices in response to competition and to
generate increased sales volume. In 2002 some manufacturers reduced their prices
of new telecommunications equipment. If manufacturers reduce the prices of new
telecommunications equipment, we may be required to further reduce the price of
the new and redeployed equipment we sell. If we are forced to reduce our prices
or are unable to shift the sales mix towards higher margin equipment sales, we
will not be able to maintain current gross margins.
The market for redeployed telecommunications equipment is relatively new and it
is unclear whether our equipment and service offerings and our business will
achieve long-term market acceptance.
The market for redeployed telecommunications equipment is relatively new
and evolving, and we are not certain that our potential customers will adopt and
deploy redeployed telecommunications equipment in their
22
networks. For example, with respect to redeployed equipment that includes a
significant software component, potential customers may be unable to obtain a
license or sublicense for the software. Even if they do purchase redeployed
equipment, our potential customers may not choose to purchase redeployed
equipment from us for a variety of reasons. Our customers may also re-deploy
their displaced equipment within their own networks which would eliminate their
need for our equipment and service offerings. These internal solutions would
also limit the supply of redeployed equipment available for us to purchase,
which would limit the development of this market.
We may fail to continue to attract, develop and retain key management and sales
personnel, which could negatively impact our operating results.
We depend on the performance of our executive officers and other key
employees. The loss of key members of our senior management or other key
employees could negatively impact our operating results and our ability to
execute our business strategy. In addition, we depend on our sales professionals
to serve customers in each of our markets. The loss of key sales professionals
could significantly disrupt our relationships with our customers. We do not have
"key person" life insurance policies on any of our employees.
Our future success also depends on our ability to attract, retain and
motivate highly skilled employees. Competition for employees in the
telecommunications equipment industry is intense. Additionally, we depend on our
ability to train and develop skilled sales people and an inability to do so
would significantly harm our growth prospects and operating performance.
Our business may suffer if we are not successful in our efforts to keep up with
a rapidly changing market.
The market for the equipment and services we sell is characterized by
technological changes, evolving industry standards, changing customer needs and
frequent new equipment and service introductions. Our future success in
addressing the needs of our customers will depend, in part, on our ability to
timely and cost-effectively:
o respond to emerging industry standards and other technological
changes;
o develop our internal technical capabilities and expertise;
o broaden our equipment and service offerings; and
o adapt our services to new technologies as they emerge.
Our failure in any of these areas could harm our business. Moreover, any
increased emphasis on software solutions as opposed to equipment solutions could
limit the availability of redeployed equipment, decrease customer demand for the
equipment we sell, or cause the equipment we sell to become obsolete.
The lifecycles of telecommunications infrastructure equipment may become
shorter, which would decrease the supply of, and carrier demand for, redeployed
equipment.
Our sales of redeployed equipment depend upon telecommunications operator
utilization of existing telecommunications network technology. If the lifecycle
of equipment comprising operator networks is significantly shortened for any
reason, including technology advancements, the installed base of any particular
model would be limited. This limited installed base would reduce the supply of,
and demand for, redeployed equipment which could decrease our net revenue.
Many of our customers are telecommunications operators that may at any time
reduce or discontinue their purchases of the equipment we sell to them.
If our customers choose to defer or curtail their capital spending
programs, it could have a negative impact on our sales to those
telecommunications operators, which would harm our business. A significant
portion of our customers are emerging telecommunications operators who compete
against existing telecommunications companies. These new participants only
recently began to enter these markets, and many of these operators are still
building their networks and rolling out their services. They require substantial
capital for the development, construction and expansion of their networks and
the introduction of their services. If emerging operators fail to acquire and
retain customers or are unsuccessful in raising needed funds or responding to
any other trends, such as price reductions for their services or diminished
demand for telecommunications services in general, then they could be forced to
reduce their capital spending programs.
23
If we fail to implement our strategy of purchasing equipment from and selling
equipment to regional bell operating companies, our growth will suffer.
One of our strategies is to develop and expand our relationships with
regional bell operating companies, or RBOCs. We believe the RBOCs could provide
us with a significant source of additional net revenue. In addition, we believe
the RBOCs could provide us with a large supply of redeployed equipment. We
cannot assure you that the implementation of this strategy will be successful.
RBOCs may not choose to sell redeployed equipment to us or may not elect to
purchase this equipment from us. RBOCs may instead develop those capabilities
internally or elect to compete with us and resell redeployed equipment to our
customers or prospective customers. If we fail to successfully develop our
relationships with RBOCs or if RBOCs elect to compete with us, our growth could
suffer.
If we do not continue to expand our international operations our growth could
suffer.
We intend to continue expanding our business in international markets.
This expansion will require significant management attention and financial
resources to develop a successful international business, including sales,
procurement and support channels. Following this strategy, we opened our
European headquarters in the fourth quarter of 2000, and in 2002 established
sales offices in Singapore, Brazil, Sweden and Russia. However, we may not be
able to maintain or increase international market demand for the equipment we
sell, and therefore we might not be able to expand our international operations.
Our experience in providing equipment outside the United States is increasing,
but still developing. Sales to customers outside of the United States accounted
for 14.9% of our net revenue in 2002, 9.7% of our net revenue in 2001, and 7.8%
of our net revenue in 2000.
If we do engage in selective acquisitions, we may experience difficulty
assimilating the operations or personnel of the acquired companies, which could
threaten our future growth.
If we make acquisitions in the future, we could have difficulty
assimilating or retaining the acquired companies' personnel or integrating their
operations, equipment or services into our organization. These difficulties
could disrupt our ongoing business, distract our management and employees and
increase our expenses. Moreover, our profitability may suffer because of
acquisition-related costs, impairment of goodwill, or amortization of acquired
other intangible assets. Furthermore, we may have to incur debt or issue equity
securities in any future acquisitions. The issuance of equity securities would
be dilutive to our existing stockholders.
Defects in the equipment we sell may seriously harm our credibility and our
business.
Telecommunications operators require a strict level of quality and
reliability from telecommunications equipment suppliers. Telecommunications
equipment is inherently complex and can contain undetected software or hardware
errors. If we deliver telecommunications equipment with undetected material
defects, our reputation, credibility and equipment sales could suffer. Moreover,
because the equipment we sell is integrated into our customers' networks, it can
be difficult to identify the source of a problem should one occur. The
occurrence of such defects, errors or failures could also result in delays in
installation, product returns, product liability and warranty claims and other
losses to us or our customers. In some of our contracts, we have agreed to
indemnify our customers against liabilities arising from defects in the
equipment we sell to them. Furthermore, we supply most of our customers with
warranties that cover the equipment we offer. While we may carry insurance
policies covering these possible liabilities, these policies may not provide
sufficient protection should a claim be asserted. A material product liability
claim, whether successful or not, could be costly, damage our reputation and
distract key personnel, any of which could harm our business.
Our strategy to outsource services could impair our ability to deliver our
equipment on a timely basis.
While we have expanded our services capability, we still currently depend
on, to a large degree, third parties for a variety of equipment-related
services, including engineering, repair, transportation, testing, installation
and de-installation. This outsourcing strategy involves risks to our business,
including reduced control over delivery schedules, quality and costs and the
potential absence of adequate capacity. In the event that any significant
subcontractor was to become unable or unwilling to continue to perform their
required services, we would have to identify and qualify acceptable
replacements. This process could be lengthy, and we cannot be sure that
additional sources of third party services would be available to us on a timely
basis, or at all.
24
Our quarterly net revenue and the price of our stock may be negatively impacted
by the seasonal purchasing patterns of our customers.
Our quarterly net revenue may be subject to the seasonal purchasing
patterns of our customers, which may occur as a result of our customers' annual
budgetary, procurement and sales cycles. If our quarterly net revenue fails to
meet the expectations of analysts due to those seasonal fluctuations, the
trading price of our common stock could be negatively affected.
Our ability to meet customer demand and the growth of our net revenue could be
harmed if we are unable to manage our inventory needs accurately.
To meet customer demand in the future, we believe it is necessary to
maintain or increase some levels of inventory. Failure to maintain adequate
inventory levels in these products could hurt our ability to make sales to our
customers. In the past, we have experienced inventory shortfalls on certain high
demand equipment, and we cannot be certain that we will not experience such
shortfalls again in the future, which could harm our ability to meet customer
demand. Further, rapid technology advancement could make portions of our
existing inventory obsolete and cause us to incur losses. In addition, if our
forecasts lead to an accumulation of inventories that are not sold in a timely
manner, our business could suffer.
The corruption or interruption of key software systems we use could cause our
business to suffer if it delays or restricts our ability to meet our customers'
needs.
We rely on the integrity of key software and systems. Specifically we rely
on our relationship management database which tracks information on currently or
potentially available redeployed equipment. This software and these systems may
be vulnerable to harmful applications, computer viruses and other forms of
corruption and interruption. In the event any form of corruption or interruption
affects our software or systems, it could delay or restrict our ability to meet
our customers' needs, which could harm our reputation or business.
If we are unable to meet our additional capital needs in the future, we may not
be able to execute our business growth strategy.
We currently anticipate that our available cash resources will be
sufficient to meet our anticipated working capital and capital expenditure
requirements for at least the next 12 months. However, our resources may not be
sufficient to satisfy these requirements. We may need to raise additional funds
through public or private debt or equity financings to:
o take advantage of business opportunities, including more rapid
international expansion or acquisitions of complementary businesses;
o develop and maintain higher inventory levels;
o gain access to new product lines;
o develop new services; or
o respond to competitive pressures.
Any additional financing we may need might not be available on terms
favorable to us, or at all. If adequate funds are not available or are not
available on acceptable terms, our business could suffer if the inability to
raise this funding threatens our ability to execute our business growth
strategy. Moreover, if additional funds are raised through the issuance of
equity securities, the percentage of ownership of our current stockholders will
be reduced. Newly issued equity securities may have rights, preferences and
privileges senior to those of investors in our common stock. In addition, the
terms of any debt could impose restrictions on our operations.
We face the risk of future non-recurring charges in the event of impairment.
We adopted SFAS 142 beginning in January 2002 and, as a result, we no
longer amortize goodwill. However, we will continue to have amortization related
to other purchased intangibles, and we must evaluate our intangible assets,
including goodwill, at least annually for impairment. For 2002, our amortization
charge for other intangibles was $689,000. If we determine that these items are
impaired, we will be required to take a related non-recurring charge to
earnings.
25
Our facilities could be vulnerable to damage from earthquakes and other natural
disasters.
Our main facilities are located on or near known earthquake fault zones
and are vulnerable to damage from fire, floods, earthquakes, power loss,
telecommunications failures and similar events. If a disaster occurs, our
ability to test and ship the equipment we sell would be seriously, if not
completely, impaired, and our inventory could be damaged or destroyed, which
would seriously harm our business. We cannot be sure that the insurance we
maintain against fires, floods, earthquakes and general business interruptions
will be adequate to cover our losses in any particular case.
Our officers and directors exert substantial influence over us, and may make
future business decisions with which some of our stockholders might disagree.
Our executive officers, directors and entities affiliated with them
beneficially own an aggregate of approximately 55% of our outstanding common
stock as of December 31, 2002. As a result, these stockholders will be able to
exercise substantial influence over all matters requiring approval by our
stockholders, including the election of directors and approval of significant
corporate transactions. This concentration of ownership may also have the effect
of delaying or preventing a change in our control.
ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK
We have reviewed the provisions of Financial Reporting Release No. 48
"Disclosure of Accounting Policies for Derivative Commodity Instruments and
Disclosure of Quantitative and Qualitative Information about Market Risks
Inherent in Derivative Financial Instruments, Other Financial Instruments and
Derivative Commodity Instruments." We had no holdings of derivative financial or
commodity instruments at December 31, 2002.
Substantially all of our revenue, purchases and capital spending is
denominated in U.S. dollars. A strengthening of the U.S. Dollar could make our
products less competitive in foreign markets. This risk could become more
significant as we expand business outside the U.S.
We invest our excess cash in short term, interest-bearing, investment
grade marketable securities. Due to the short time the investments are
outstanding and their general liquidity, these instruments are classified as
cash equivalents and do not represent a material interest rate risk. As of
December 31, 2002, we had no long-term debt outstanding.
26
ITEM 8. FINANCIAL STATEMENTS
INDEX TO FINANCIAL STATEMENTS
Page
Report of Independent Accountants...................................... 28
Consolidated Balance Sheets............................................ 29
Consolidated Statements of Operations.................................. 30
Consolidated Statement of Stockholders' Equity......................... 31
Consolidated Statements of Cash Flows.................................. 32
Notes to Consolidated Financial Statements............................. 33
27
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of
Somera Communications, Inc.
In our opinion, the consolidated financial statements listed in the
accompanying index present fairly, in all material respects, the financial
position of Somera Communications, Inc. and its subsidiaries at December 31,
2002 and 2001 and the results of their operations and their cash flows for each
of the three years in the period ended December 31, 2002 in conformity with
accounting principles generally accepted in the United States of America. These
financial statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America, which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
As discussed in Note 5 to the Consolidated Financial Statements, effective
January 1, 2002, the Company changed its method of accounting for goodwill in
accordance with Statement of Financial Accounting Standards No. 142, "Goodwill
and Other Intangible Assets".
/s/ PRICEWATERHOUSECOOPERS LLP
PricewaterhouseCoopers LLP
San Jose, California
January 28, 2003
28
SOMERA COMMUNICATIONS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
December 31,
-----------
2002 2001
-------- --------
ASSETS
Current assets:
Cash and cash equivalents .................................................... $ 50,431 $ 54,522
Accounts receivable, (net of allowance for doubtful accounts of
$692 and $1,701 at December 31, 2002 and 2001 respectively) ................ 25,065 44,269
Inventories, net ............................................................. 25,480 30,009
Deferred tax asset, current portion .......................................... 7,422 4,857
Income tax receivable ........................................................ 2,680 --
Other current assets ......................................................... 3,244 2,879
-------- --------
Total current assets .................................................... 114,322 136,536
Property and equipment, net ....................................................... 7,064 8,687
Deferred tax asset, net of current portion ........................................ 13,891 14,300
Other assets ...................................................................... 1,838 1,060
Goodwill .......................................................................... 26,585 16,323
Intangible assets, net ............................................................ 1,390 1,170
-------- --------
Total assets ............................................................ $165,090 $178,076
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ............................................................. $ 19,910 $ 29,694
Accrued compensation ......................................................... 3,105 2,401
Other accrued liabilities .................................................... 8,292 4,196
Deferred revenue ............................................................. 5,683 4,550
Income taxes payable ......................................................... -- 5,219
-------- --------
Total current liabilities ............................................... 36,990 46,060
Commitments (Note 6)
Stockholders' equity:
Common stock: $0.001 par value
Shares authorized: 200,000
Shares issued and outstanding: 48,904 and 48,535 at December 31, 2002 and
2001 respectively ......................................................... 49 49
Additional paid-in capital ................................................... 73,145 71,929
Unearned stock-based compensation ............................................ (8) (71)
Accumulated other comprehensive loss ......................................... (114) (73)
Retained earnings ............................................................ 55,028 60,182
-------- --------
Total stockholders' equity .............................................. 128,100 132,016
-------- --------
Total liabilities and stockholders' equity .............................. $165,090 $178,076
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
29
SOMERA COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Year Ended December 31,
-----------------------
2002 2001 2000
--------- -------- --------
Net revenue ....................................................... $199,200 $221,256 $211,192
Cost of net revenue ............................................... 145,590 148,478 134,618
-------- -------- --------
Gross profit ............................................ 53,610 72,778 76,574
Operating expenses:
Sales and marketing .......................................... 32,334 24,902 20,312
General and administrative ................................... 25,934 22,049 16,108
Amortization of intangible assets ............................ 689 1,484 302
Asset impairment ............................................. 1,593 -- --
Restructuring charges, net ................................... 2,759 352 --
-------- -------- --------
Total operating expenses ................................ 63,309 48,787 36,722
-------- -------- --------
Income (loss) from operations .................................... (9,699) 23,991 39,852
Interest income (expense), net .................................... 1,037 1,724 2,376
-------- -------- --------
Income (loss) before income taxes ................................ (8,662) 25,715 42,228
Tax provision (benefit) ........................................... (3,508) 10,929 17,737
-------- -------- --------
Net income (loss) ....................................... $ (5,154) $ 14,786 $ 24,491
======== ======== ========
Net income (loss) per share--basic ................................ $ (0.11) $ 0.31 $ 0.51
======== ======== ========
Weighted average shares--basic .................................... 48,645 48,260 47,928
======== ======== ========
Net income (loss) per share--diluted ............................. $ (0.11) $ 0.30 $ 0.51
======== ======== ========
Weighted average shares--diluted .................................. 48,645 48,625 48,329
======== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
30
SOMERA COMMUNICATIONS, INC.
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(in thousands)
Accumulated
Additional Unearned Other
Common Stock Paid-in Stock-Based Comprehensive Retained
Number Value Capital Compensation Income (loss) Earnings Total
------ ----- ------- ------------ ------------ -------- -----
Balances, January 1, 2000 ................. 47,838 $48 $66,419 $(586) $ -- $ 20,905 $ 86,786
Issuance of common
stock through employee
stock purchase plan ..................... 37 -- 353 -- -- -- 353
Issuance of common
stock through exercise of warrants ...... 27 -- -- -- -- -- --
Issuance of common
stock on acquisition of MSI
Communications, Inc. ................... 289 -- 2,500 -- -- -- 2,500
Amortization of
unearned stock-based compensation ....... -- -- -- 367 -- -- 367
Net income ................................ -- -- -- -- -- 24,491 24,491
------ --- ------- ----- ----- --------- ---------
Balance, December 31, 2000 .............. 48,191 $48 $69,272 $(219) $ -- $ 45,396 $ 114,497
Issuance of common
stock through employee
stock purchase plan ..................... 118 -- 580 -- -- -- 580
Issuance of contingent
common stock on acquisition of MSI
Communications, Inc. ................... 226 1 1,841 -- -- -- 1,842
Warrants issued in exchange
for services ........................... -- -- 236 -- -- -- 236
Amortization of
unearned stock-based compensation ....... -- -- -- 148 -- -- 148
Foreign currency translation adjustment -- -- -- -- (73) -- (73)
Net income ................................ -- -- -- -- -- 14,786 14,786
------ --- ------- ----- ----- --------- ---------
Balances, December 31, 2001 .............. 48,535 $49 $71,929 $ (71) $ (73) $ 60,182 $ 132,016
====== === ======= ===== ===== ========= =========
Issuance of common
stock through employee
stock purchase plan ..................... 168 -- 586 -- -- -- 586
Issuance of contingent
common stock on acquisition of MSI
Communications, Inc. ................... 179 -- 505 -- -- -- 505
Issuance of common stock through stock
option exercises ....................... 22 -- 125 -- -- -- 125
Amortization of
unearned stock-based compensation ....... -- -- -- 63 -- -- 63
Gain/(Loss) on investments -- -- -- -- 3 -- 3
Foreign currency translation
adjustment ............................. -- -- -- -- (44) -- (44)
Net loss .................................. -- -- -- -- -- (5,154) (5,154)
------ --- ------- ----- ----- --------- ---------
Balances, December 31, 2002 ........ 48,904 $49 $73,145 $ (8) $(114) $ 55,028 $ 128,100
====== === ======= ===== ===== ========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
31
SOMERA COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Year ended December 31,
-----------------------
2002 2001 2000
-------- -------- --------
Cash flows from operating activities:
Net income (loss) ............................................................. $ (5,154) $ 14,786 $ 24,491
Adjustments to reconcile net income (loss) to
net cash provided by (used in) operating activities:
Depreciation and amortization ............................................ 5,363 5,038 1,015
Provision for doubtful accounts .......................................... 1,876 592 1,778
Provision for excess and obsolete inventories ............................ 13,667 2,974 3,062
Deferred tax provision (benefit) ......................................... (2,721) 521 (54)
Warrants issued in exchange for services ................................. -- 236 --
Non-cash restructuring charge ............................................ 1,593 -- --
Amortization of stock-based compensation ................................. 63 148 367
Forgiveness of loans to officers ......................................... 203 89 75
Gain on disposal of assets ............................................... (93) -- --
Changes in operating assets and liabilities:
Accounts receivable ................................................. 19,477 (4,652) (18,811)
Inventories ......................................................... (9,138) (2,375) (13,077)
Other current assets ................................................ (2,181) (340) (518)
Other assets ........................................................ (129) 45 8
Accounts payable .................................................... (10,582) 4,587 (513)
Accrued compensation ................................................ 335 (122) 816
Deferred revenue .................................................... 1,133 4,550 --
Other accrued liabilities ........................................... 1,203 975 (1,282)
Income taxes payable ................................................ (4,486) 5,219 (508)
-------- -------- --------
Net cash provided by (used in) operating activities ............ 10,429 32,271 (3,151)
-------- -------- --------
Cash flows from investing activities:
Acquisition of property and equipment ......................................... (4,333) (4,706) (6,129)
Acquisition of business, net of cash acquired ................................. (9,529) (6,336) (10,568)
Purchase of short-term investments ............................................ (4,984) -- --
Sale of short-term investments ................................................ 4,984 -- --
Loans to officers ............................................................. (2,000) (300) (300)
Repayment of loan to officer .................................................. 675 -- 425
-------- -------- --------
Net cash used in investing activities .......................... (15,187) (11,342) (16,572)
-------- -------- --------
Cash flows from financing activities:
Repayment of line of credit ................................................... -- -- (1,026)
Payment of capital lease ...................................................... -- (180) (830)
Proceeds from employee stock purchase plan .................................... 586 580 353
Proceeds from stock option exercises .......................................... 125 -- --
-------- -------- --------
Net cash provided by (used in) financing activities ............ 711 400 (1,503)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents ............................... (4,047) 21,329 (21,226)
Effect of exchange rate changes on cash and cash equivalents ....................... (44) (73) --
Cash and cash equivalents, beginning of year ....................................... 54,522 33,266 54,492
-------- -------- --------
Cash and cash equivalents, end of year ............................................. $ 50,431 $ 54,522 $ 33,266
======== ======== ========
Supplemental disclosures of cash flow information:
Cash paid during the period for interest ...................................... $ 67 $ 64 $ 136
======== ======== ========
Income taxes paid ............................................................. $ 5,111 $ 4,815 $ 18,974
======== ======== ========
Fixed assets acquired under capital lease ..................................... $ -- $ -- $ 258
======== ======== ========
Issuance of common stock in acquisition of business ........................... $ 505 $ 1,842 $ 2,500
======== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
32
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1--Formation and Business of the Company:
Somera Communications, Inc. ("The Company") was formed in August 1999 and
is incorporated under the laws of the State of Delaware. In November 1999, the
Company raised approximately $107 million in net proceeds from the initial
public offering. Since that time, the Company's common stock has traded on the
Nasdaq National market under the symbol SMRA.
Note 2 - Summary of Significant Accounting Policies:
Basis of Presentation
The Company's fiscal years reported are the 52- or 53-week periods ending
on the Sunday nearest to December 31. Fiscal years 2002, 2001 and 2000 comprised
the 52-week periods ended on December 29, 2002, December 30, 2001 and December
31, 2000, respectively.
Principles of Consolidation
The Company acquired MSI Communications, Inc., in October 2000, formed
Somera Communications B.V., incorporated in The Netherlands, in November 2000,
formed Somera Communications Pte Ltd., incorporated in Singapore, in August
2001, and formed Somera Communications Ltda, incorporated in Brazil, in April,
2002. The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All intercompany balances and transactions
have been eliminated.
Use of Estimates
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 revenue and expenses during the reporting
period. Specifically, estimates are used for, but not limited to the accounting
for doubtful accounts receivable, slow-moving and obsolete inventory, sales
returns reserves, valuation of goodwill and purchased intangibles, restructuring
accruals and deferred taxes. Actual results could differ from those estimates.
Revenue Recognition
Substantially all of the Company's revenue is derived from the sale of new
and redeployed telecommunication equipment. With the exception of reciprocal
arrangements, revenue is recognized upon delivery of the equipment by the
Company provided that, at the time of delivery, there is evidence of a
contractual arrangement with the customer, the fee is fixed or determinable,
collection of the resulting receivable is reasonably assured and there are no
significant remaining obligations. Delivery occurs when title and risk of loss
transfer to the customer, generally at the time the product is shipped to the
customer.
The Company also generates services revenue in connection with equipment
sales. Revenue for transactions that include multiple elements such as equipment
and services is allocated to each element based on its relative fair value (or
in the absence of fair value, the residual method) and recognized when the
revenue recognition criteria have been met for each element. The Company
recognizes revenue for delivered elements only when the following criteria are
satisfied: (1) undelivered elements are not essential to the functionality of
delivered elements, (2) uncertainties regarding customer acceptance are
resolved, and (3) the fair value for all undelivered elements is known. Revenue
from services represented approximately 9% of total revenue for the year ended
December 31, 2002 and less than 5% of revenue for each of the fiscal years ended
December 31, 2001 and 2000.
Revenue is deferred when customer acceptance is uncertain, when
significant obligations remain, or when undelivered elements are essential to
the functionality of the delivered products. A reserve for sales returns and
warranty obligations is recorded at the time of shipment and is based on the
Company's historical experience.
33
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company supplies equipment to companies in exchange for redeployed
equipment or to companies from which redeployed equipment was purchased under
separate arrangements executed within a short period of time ("reciprocal
arrangements"). For reciprocal arrangements, the Company considers Accounting
Principles Board ("APB") No. 29, "Accounting for Nonmonetary Transactions," and
Emerging Issues Task Force ("EITF") Issue No. 86-29, "Nonmonetary Transactions:
Magnitude of Boot and Exceptions to the Use of Fair Value, Interpretation of APB
No. 29, Accounting for Nonmonetary Transactions." Revenue is recognized when the
equipment received in accordance with the reciprocal arrangement is sold through
to a third party. Revenues recognized under reciprocal arrangements were $1.3
million and $1.4 million for the fiscal years ended December 31, 2002 and 2001,
respectively. There were no revenues recognized under reciprocal arrangements
during 2000.
Income Taxes
The Company accounts for income taxes in accordance with FASB Statement
No. 109, "Accounting for Income Taxes," which requires the use of the liability
method in accounting for income taxes. Deferred income taxes are determined
based on the difference between the financial reporting and tax bases of assets
and liabilities using enacted rates in effect during the year in which the
differences are expected to reverse. Valuation allowances are established when
necessary to reduce deferred tax assets to the amount expected to be realized.
Concentration of Credit Risk and Other Risks and Uncertainties
Financial instruments, which potentially expose the Company to a
concentration of credit risk, consist principally of cash and cash equivalents
and accounts receivable. The Company places its temporary cash with three high
credit quality financial institutions in the United States. The Company performs
ongoing credit evaluations of its customers' financial condition and generally
requires no collateral.
For the year ended December 31, 2002, one customer accounted for 13.4% of
net revenue and one customer accounted for 23.7% of accounts receivable at
December 31, 2002. In addition, the Company purchased 1.4% of its total
inventory purchases from a single customer. For the year ended December 31,
2001, one customer accounted for 16.1% of net revenue and two customers each
accounted for 14.0% of accounts receivable at December 31, 2001. For the year
ended December 31, 2000, one customer accounted for 11.3% of net revenue and no
customer accounted for more than 10% of accounts receivable.
One supplier accounted for 14.7% of equipment purchases in the year ended
December 31, 2002. One supplier accounted for 11.3% of equipment purchases in
the year ended December 31, 2001. Two suppliers accounted for 15.9% and 11.8% of
equipment purchases in the year ended December 31, 2000.
Foreign Currency Translation
The Company considers the local currency to be the functional currency for
its international subsidiaries. Assets and liabilities denominated in foreign
currencies are translated using the exchange rate on the balance sheet date.
Revenues and expenses are translated at average exchange rates prevailing during
the year. Translation adjustments resulting from this process are charged or
credited to accumulated other comprehensive income (loss). Foreign currency
transaction gains and losses, which to date have not been material, are included
in the statement of operations.
Fair Value of Financial Instruments
The carrying amounts of certain of the Company's financial instruments,
including cash and cash equivalents, accounts receivable and accounts payable
approximate fair value due to their short-term maturities.
Cash and Cash Equivalents
The Company considers all highly liquid instruments purchased with
remaining maturity of three months or less at the date of purchase to be cash
equivalents.
34
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Inventories
Inventories, which are comprised of finished goods held for resale,
including redeployed equipment, are stated at the lower of cost (determined on
an average cost basis) or net realizable value. Costs may include refurbishment
costs associated with repairing and reconfiguring redeployed equipment held for
resale. Inventories are stated net of reserves for obsolete and slow moving
items.
Property and Equipment
Property and equipment are recorded at cost and are stated net of
accumulated depreciation. Depreciation is recorded using the straight-line
method over the estimated useful lives of the assets, ranging from three to
seven years. Leasehold improvements are amortized over the shorter of the
estimated useful life of the asset or remaining lease term on a straight-line
basis. Purchased software utilized in designing, installing and operating
business information and communications systems is capitalized and amortized on
a straight-line basis, generally over three years. Expenditures for maintenance
and repairs are charged to expense as incurred. Additions, major renewals and
replacements that increase the property's useful life are capitalized. Gains and
losses on dispositions of property and equipment are included in net income.
Goodwill and Intangible Assets
The cost of acquired companies is allocated to the assets acquired and
liabilities assumed based on estimated fair values at the date of acquisition.
Costs allocated to identifiable intangible assets are generally amortized on a
straight-line basis over the remaining estimated useful lives of the assets, as
determined by underlying contract terms or appraisals. Such lives range from
fifteen months to three years.
The excess of the cost of acquired companies over the net amounts assigned
to assets acquired and liabilities assumed is recorded as goodwill. Goodwill is
not amortized but instead tested for impairment at least annually. The Company
currently operates as one reporting unit that shares similar economic
characteristics. Accordingly, the impairment test is a comparison of the fair
value of the Company to its carrying value. The excess of the fair value of the
Company over the amounts allocated to the identifiable assets and liabilities of
the Company is the implied fair value of the Company's goodwill. The Company
conducts annual impairment tests in June and whenever events or circumstances
may occur that might require the need for more frequent tests. These
circumstances include, but are not limited to: the loss of a number of
significant clients, the identification of other impaired assets within the
Company, the disposition of a significant portion of the Company, or a
significant adverse change in business climate or regulations.
Stock-based Compensation
The Company uses the intrinsic value method of Accounting Principles Board
Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees," and its
interpretations in accounting for its employee stock options. The Company
amortizes stock based compensation arising from certain employee and
non-employee stock option grants over the vesting periods of the related
options, generally four years using the method set out in Financial Accounting
Standards Board Interpretation No. 28 ("FIN 28"). Under the FIN 28 method, each
vested tranche of options is accounted for as a separate option grant awarded
for past services. Accordingly, the compensation expense is recognized over the
period during which the services have been provided. This method results in
higher compensation expense in the earlier vesting periods of the related
options.
35
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Pro forma information regarding net loss and net loss per share as if the
Company recorded compensation expense based on the fair value of stock-based
awards have been presented in accordance with Statement of Financial Accounting
Standards No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure" and are as follows for the years ended December 31, 2002, 2001 and
2000 (in thousands, except per share data):
Year Ended December 31,
-----------------------
2002 2001 2000
-------- ------- -------
Net (loss) income--as reported ................. $ (5,154) $14,786 $24,491
Add: Stock-based employee compensation
expensed in the financial statements ....... 63 148 367
Deduct: Stock-based employee compensation
expense determined under fair value
based method for all award ................. 12,504 12,764 5,770
-------- ------- -------
Net (loss) income--as adjusted ................. $(17,595) $ 2,170 $19,088
======== ======= =======
Net (loss) income per share--basic as reported $ (0.11) $ 0.3 $ 0.51
Net (loss) income per share--basic as adjusted . $ (0.36) $ 0.0 $ 0.40
Net (loss) income per share--diluted as reported $ (0.11) $ 0.3 $ 0.51
Net (loss) income per share--diluted as adjusted $ (0.36) $ 0.0 $ 0.39
The Company calculated the fair value of each option grant on the date of
grant using the Black-Scholes option pricing model as prescribed by SFAS 123
"stock-based compensation" using the following assumptions:
Employee Stock Option Plan Employee Stock Purchase Plan
--------------------------------- ----------------------------------
2002 2001 2000 2002 2001 2000
---- ---- ---- ---- ---- ----
Risk-free interest rate........ 2.62% 4.15% 5.88% 2.30% 4.22% 6.13%
Expected life (in years)....... 5 5 5 0.50 0.50 0.50
Dividend yield................. 0% 0% 0% 0% 0% 0%
Expected volatility............ 95% 92% 40% 79% 79% 40%
Net Income (loss) Per Share
Basic net income (loss) per share is computed by dividing the net income
(loss) for the period by the weighted average number of shares outstanding
during the period. Diluted net income (loss) per share is computed by dividing
the net income (loss) for the period by the weighted average number of shares
and equivalent shares outstanding during the period. Equivalent shares, composed
of shares issuable upon the exercise of options and warrants, are included in
the diluted net income (loss) per share computation to the extent such shares
are dilutive. A reconciliation of the numerator and denominator used in the
calculation of basic and diluted net income per share follows (in thousands,
except per share data):
Year Ended December 31,
-----------------------
2002 2001 2000
-------- ------- -------
Numerator
Net income (loss) ........................ $ (5,154) $14,786 $24,491
-------- ------- -------
Denominator
Weighted average shares--basic ........... 48,645 48,260 47,928
Dilutive effect of options and warrants to
purchase shares and escrow shares ........ -- 365 401
-------- ------- -------
Weighted average shares--diluted .............. 48,645 48,625 48,329
-------- ------- -------
Net income (loss) per share--basic ............ $ (0.11) $ 0.31 $ 0.51
======== ======= =======
Net income (loss) per share--diluted .......... $ (0.11) $ 0.30 $ 0.51
======== ======= =======
For the year ended December 31, 2001, 404,478 and 127,581 shares of common
stock were excluded from the basic and fully diluted calculations of net income,
respectively. For the year ended December 31, 2000, 404,478 and 288,913 shares
of common stock were excluded from the basic and fully diluted calculations of
net income, respectively. These shares are considered contingent as they were
issued in connection with the MSI acquisition
36
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
and held in escrow until certain contingencies are resolved. In addition, for
the years ended December 31, 2002, 2001 and 2000, options to purchase 4,302,196,
5,001,518 and 182,750 shares of common stock were excluded from the fully
diluted calculation as their effect would be anti-dilutive.
Comprehensive Income (loss)
The Company has adopted the provisions of Statement of Financial
Accounting Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income."
SFAS 130 establishes standards for reporting comprehensive income and its
components in financial statements. Comprehensive income, as defined, includes
all changes in equity during a period from non-owner sources. Foreign currency
translation losses of $44,000 and $73,000 and a gain on investments of $3,000
and $0 resulted in total comprehensive (loss) income of ($5,195,000) and
$14,713,000 for the year ended December 31, 2002 and 2001, respectively. There
was no difference between the Company's net income of $24,491,000 and its total
comprehensive income for the year ended December 31, 2000.
Reclassifications
Certain financial statement items have been reclassified to conform to the
current year's presentation. These reclassifications had no impact on previously
reported net earnings.
Recent Accounting Pronouncements
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This standard requires that costs
associated with exit or disposal activities be recognized when they are incurred
rather than at the date of a commitment to an exit or disposal plan. SFAS No.146
will apply to exit or disposal activities initiated after fiscal year 2002. The
provisions of EITF No. 94-3 shall continue to apply for an exit activity
initiated under an exit plan that met the criteria of EITF No. 94-3 prior to the
adoption of SFAS No. 146. The effect on adoption of SFAS No. 146 will change on
a prospective basis the timing of when restructuring charges are recorded from
commitment date approach to when the liability is incurred.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation -- Transition and Disclosure." This Statement amends
SFAS No. 123, "Stock-Based Compensation," to provide alternative methods of
transition for a voluntary change to the fair value based method of accounting
for stock-based employee compensation. In addition, this Statement amends the
disclosure requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on reported
results. The disclosure provisions of this Statement are effective for fiscal
years ending after December 15, 2002 and have been incorporated into these
financial statements and accompanying footnotes.
In March 2003, the EITF reached a consensus on Issue 00-21, addressing how
to account for arrangements that involve the delivery or performance of multiple
products, services, and/or rights to use assets. Revenue arrangements with
multiple deliverables are divided into separate units of accounting if the
deliverables in the arrangement meet the following criteria: (1) the delivered
item has value to the customer on a standalone basis; (2) there is objective and
reliable evidence of the fair value of undelivered items; and (3) delivery of
any undelivered item is probable. Arrangement consideration should be allocated
among the separate units of accounting based on their relative fair values, with
the amount allocated to the delivered item being limited to the amount that is
not contingent on the delivery of additional items or meeting other specified
performance conditions. The final consensus is applicable to agreements entered
into in fiscal periods beginning after June 15, 2003 with early adoption
permitted. We are currently assessing the impact of EITF 00-21 on our
consolidated financial statements.
In November 2002, the FASB issued Interpretation No. 45 ("FIN 45"),
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." FIN 45 requires that a liability
be recorded in the guarantor's balance sheet upon issuance of a guarantee. In
addition, FIN 45 requires disclosures about the guarantees that an entity has
issued, including a reconciliation of changes in the entity's product warranty
liabilities. The initial recognition and initial measurement provisions of FIN
45 are
37
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
applicable on a prospective basis to guarantees issued or modified after
December 31, 2002. The disclosure requirements of FIN 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. We have not assessed the impact of the recognition and measurement
provisions of FIN 45 on our consolidated financial statements.
In January 2003, the FASB issued Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51."
FIN 46 requires certain variable interest entities to be consolidated by the
primary beneficiary of the entity if the equity investors in the entity do not
have the characteristics of a controlling financial interest or do not have
sufficient equity at risk for the entity to finance its activities without
additional subordinated financial support from other parties. FIN 46 is
effective immediately for all new variable interest entities created or acquired
after January 31, 2003. For variable interest entities created or acquired prior
to February 1, 2003, the provisions of FIN 46 must be applied for the first
interim or annual period beginning after June 15, 2003. We are currently
assessing the impact of FIN 46 on our consolidated financial statements.
Note 3 - Acquisitions
MSI Communications, Inc.
On October 17, 2000, the Company acquired all of the outstanding shares of
MSI Communications, Inc. ("MSI"), a data networking equipment sales and services
company, for $10.6 million in cash including acquisition costs, and 693,391
shares of common stock issued to MSI shareholders and held in an escrow account.
The acquisition has been accounted for as a purchase business combination and
the results of operations of MSI have been included in the consolidated
financial statements since the date of acquisition. The shares to be released
from escrow may be reduced based on resolution of certain contingencies. As of
the acquisition date, 288,913 shares, valued at $2.5 million, were expected to
be earned and were included in the allocated purchase price. The remaining
404,478 shares, valued at $3.5 million, were to be earned based on certain
financial performance and employee retention milestones as of December 31, 2001
and 2002, resulting in an increase to the purchase price resulting in an
increase in goodwill. The share values were calculated based on the average
closing price of the last five business days prior to the acquisition date. As
of December 31, 2002 and 2001, both the financial performance and employee
retention milestones were achieved. As a result, 178,613 and 225,865 shares
valued at $505,000 and $1.8 million, respectively using the year-end closing
prices in 2002 and 2001, were earned, resulting in an increase in the purchase
price as detailed below.
The purchase price was allocated to the net tangible and identifiable
intangible assets acquired and liabilities assumed based on their estimated fair
values at the date of the acquisition as determined by management. The excess of
the purchase price over the fair value of the net identifiable assets was
allocated to goodwill. The additional 178,613 shares released from escrow due to
the resolution of certain contingencies, valued using the year-end closing
price, increased the purchase price by approximately $505,000, resulting in an
increase in goodwill of the same amount. The total purchase price, including the
adjustment for achieving the year-end 2002 milestones, was allocated as follows
(in thousands):
Current assets.......................................... $ 3,317
Property and equipment.................................. 187
Deferred tax assets..................................... 898
Assumed liabilities..................................... (3,453)
Goodwill................................................ 14,568
-------
Total purchase price.................................... $15,517
=======
38
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Asurent Technologies, Inc.
On October 10, 2001 the Company acquired the equipment repair business and
certain assets and liabilities of Asurent Technologies, Inc. ("Asurent"), a
telecommunications equipment sales and repair business, for $6.3 million in cash
including acquisition costs. The results of operations of Asurent have been
included in the consolidated financial statements since the date of acquisition.
The purchase price was allocated to the net tangible and identifiable intangible
assets acquired and liabilities assumed based on their estimated fair values at
the date of acquisition as determined by management. The excess of the purchase
price over the fair value of the net identifiable assets was allocated to
goodwill. The purchase price was allocated as follows:
Current assets ................................................. $ 1,819
Property and equipment ......................................... 428
Assumed liabilities (965)
Customer contract .............................................. 845
Goodwill 4,209
-------
Total purchase price ......................................... $ 6,336
=======
The amortization of the customer contract is being computed over the
calculated length of the contract of eighteen months on a straight-line basis.
In accordance with SFAS No. 142 "Goodwill and other intangible asstes", no
amortization has been recorded on the Asurent goodwill.
Compass Telecom, LLC.
On October 9, 2002, the Company acquired Compass Telecom Services
("Compass") for $9.5 million in cash including acquisition costs. Compass
provides outsourced services to support telecom operators' need to more
efficiently optimize their networks and equipment assets. The acquisition was
accounted for in accordance with SFAS No. 141 and the results of operations of
Compass have been included in the consolidated financial statements since the
date of acquisition.
The purchase agreement also provides for earn outs in years 2002 through
2004 for certain officers of Compass. The earn outs are contingent upon the
financial performance of Compass during the fourth quarter of 2002, and fiscal
years 2003 and 2004. The fourth quarter 2002 earn out was achieved, resulting in
a $2.9 million increase in the purchase price and associated goodwill. The earn
out was accrued in other accrued liabilities as of December 31, 2002. For the
following two years, additional amounts are to be earned based on certain
financial performance and employee retention milestones. For the years ending
December 31, 2003 and 2004, the maximum earn outs are $3.85 million and $3.25
million, respectively.
The purchase price was allocated to the net tangible and identifiable
intangible assets acquired and liabilities assumed based on their estimated fair
values at the date of acquisition as determined by an independent valuation
firm. The excess of the purchase price over the fair value of the net
identifiable assets was allocated to goodwill. Compass provides outsourced
services to support telecom operators' need to more efficiently optimize their
networks and equipment assets. The purchase price was allocated as follows:
Current assets ................................................. $ 2,708
Property and equipment ......................................... 315
Other long-term assets ......................................... 32
Assumed liabilities ............................................ (1,486)
Customer contract .............................................. 654
Non-compete agreements ......................................... 665
Goodwill ....................................................... 9,509
--------
Total purchase price ......................................... $ 12,397
========
39
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The customer contract intangible asset is being amortized ove of the
contract of fifteen months on a straight-line basis. The non-compete covenants
are being amortized over the length of the covenants of thirty-six months on a
straight-line basis. In accordance with SFAS No. 142, no amortization has been
recorded on the Compass goodwill.
The amortization of acquired workforce and goodwill was computed over
three and ten years, respectively, on a straight-line basis for the years ended
December 31, 2001 and 2000. Pursuant to SFAS No. 142 guidelines the net amount
allocated to workforce has been subsumed into goodwill in connection with the
Company's adoption of SFAS No. 142.
The following unaudited pro forma information presents a summary of
consolidated results of operations of the Company and Compass as if the
acquisition had occurred January 1, 2001 and of MSI Communications as if the
acquisition had occurred on January 1, 2000. Pro forma results of operations for
the Asurent acquisition have not been presented because the effects of the
acquisition were not material.
Year Ended December 31,
-----------------------
(in thousands except for per share data) 2002 2001 2000
--------- -------- --------
Net revenue ............................ $208,552 $237,817 $221,403
Net income ............................. $ (3,332) $ 13,467 $ 23,189
Net income per share - basic ........... $ (0.07) $ 0.28 $ 0.48
Net income per share - diluted.......... $ (0.07) $ 0.28 $ 0.48
These unaudited pro forma results have been prepared for comparative
purposes only and include certain adjustments, such as the reversal of a
one-time acquisition related compensation charge and amortization expense as a
result of goodwill and other intangible assets. They do not purport to be
indicative of the results of operations which actually would have occurred had
the combinations been in effect on January 1, 2000, and January 1, 2001,
respectively or of future results of operations of the consolidated entities.
Note 4--Balance Sheet Accounts (in thousands):
Property and Equipment, Net December 31,
-----------
2002 2001
-------- --------
Computer and telephone equipment ............... $ 9,708 $ 10,366
Office equipment and furniture ................. 1,068 1,204
Warehouse equipment ............................ 1,135 486
Leasehold improvements ......................... 2,131 1,972
-------- --------
14,042 14,028
Less accumulated depreciation and amortization.. (6,978) (5,341)
-------- --------
$ 7,064 $ 8,687
======== ========
Depreciation and amortization expense for the years ended December 31,
2002, 2001 and 2000, amounted to $4.7 million, $3.6 million and $713,000,
respectively.
Inventory, Net December 31,
------------
2002 2001
-------- --------
Finished goods ................................. $ 39,979 $ 33,250
Less reserve for excess and obsolete inventory.. (14,499) (3,241)
-------- --------
$ 25,480 $ 30,009
======== ========
40
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Company recorded provisions for excess and obsolete inventories of
$13.7 million, $3.0 million and $3.0 million during the years ended December 31,
2002, 2001 and 2000, respectively. In the quarter ended December 31, 2002, the
Company experienced a significant decline in market demand over the previous
quarter; increased pricing pressures from declining new equipment prices, net
revenues declining by approximately $6 million over the quarter ended September
30, 2002. In addition, when the decision was made to consolidate operations in
Dallas, the Company recognized the additional cost of transporting and holding
some of the items would result in their cost exceeding market value. As a
result, in the fourth quarter of 2002, the Company recorded a $10.1 million
inventory write off and an additional writedown of $1.8 million to reduce the
carrying value of inventories to their market value. The $11.9 million inventory
charge was included in the inventory reserve as of December 31, 2002 and in
January 2003, $10.1 million of reserves subsequently was written off against the
reserve and $1.8 million was written down to market value.
Other Accrued Liabilities December 31,
------------
2002 2001
------ ------
Restructuring accrual (see note 11)... $2,604 $ --
Compass earn out ..................... 2,900 --
Sales tax payable .................... 502 667
Warranty reserve ..................... 990 994
Other ................................ $1,296 $2,535
------ ------
$8,292 $4,196
====== ======
Note 5- Goodwill and Intangible assets
In July 2001, the FASB issued SFAS No. 142, Goodwill and Other Intangible
Assets. SFAS No. 142 requires that goodwill and intangible assets with
indefinite useful lives no longer be amortized but instead tested for impairment
at least annually. SFAS No. 142 also requires that intangible assets with
definite useful lives be amortized over their respective estimated useful lives
to their estimated residual values. The Company fully adopted the provisions of
SFAS No. 142 effective January 1, 2002.
Intangible assets consist of customer contracts, non-compete agreements
and goodwill related to the Company's acquisitions of Compass Telecom LLC in
2002, Asurent Technologies, Inc in 2001 and MSI Technologies, Inc in 2000. The
customer contracts are being amortized on a straight-line basis over the terms
of the contracts, 15 to 18 months. The non-compete agreement is being amortized
on a straight line basis over the life of the agreement, 36 months.
The Company operates as one reporting unit and determined during June,
2002, that the carrying amount of goodwill exceeded its implied fair value at
that time. As a result of the adverse change in the business climate and the
restructuring activities announced during December 2002, the Company performed
an additional impairment review and concluded that goodwill was not impaired at
that time because the carrying amount of goodwill still exceeded its implied
fair value.
41
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following is a summary of net income and earnings per share for the
years ended December 31, 2001 and 2000, as adjusted to remove the amortization
of goodwill and intangible assets with indefinite useful lives (in thousands,
except per share amounts):
Years Ended December 31,
------------------------
2001 2000
------- -------
Consolidated Statements of Operations Data:
Net income ....................................... $14,786 $24,491
Add: amortization expense (including workforce)... 1,399 302
------- -------
Adjusted net income .............................. $16,185 $24,793
======= =======
Net income per common share--basic................ $ 0.31 $ 0.51
Add: amortization expense - basic................. $ 0.03 $ 0.01
Adjusted net income per common share - basic...... $ 0.34 $ 0.52
Net income per common share - diluted............. $ 0.30 $ 0.51
Add: amortization expense - diluted.............. $ 0.03 $ 0.00
Adjusted net income per common share--diluted .... $ 0.33 $ 0.51
The following is a summary of changes in the carrying amount of goodwill
for the years ended December 31, 2002 and 2001 (in thousands):
Goodwill
--------
Balance at December 31, 2000 .............................. $ 11,441
Additions - Asurent (see note 3) .......................... 4,209
Additions- MSI (see note 3) ............................... 1,842
Amortization .............................................. (1,169)
--------
Balance at December 31, 2001 .............................. 16,323
Additions - Compass (see note 3) .......................... 9,509
Adjustment - MSI earn out ................................. 505
Workforce subsumed, net of tax ............................ 248
--------
Balance at December 31, 2002 .............................. $ 26,585
========
Intangible assets with definite useful lives are amortized over their
respective estimated useful lives to their estimated residual values. Effective
January 1, 2002, intangible assets with indefinite useful lives are not
amortized but instead tested for impairment at least annually. The following is
a summary of intangible assets with finite useful lives at December 31, 2002 and
2001 (in thousands):
2002
Accumulated
Cost amortization Total
---- ------------ -----
Customer contracts ................ $1,499 $ 643 $ 856
131
Non-compete agreement ............. 665 534
----------------------------------
$2,164 $ 774 $1,390
==================================
2001
Accumulated
Cost amortization Total
---- ------------ -----
Customer contracts ................ $ 845 $ 85 $ 760
280
Acquired workforce ................ 690 410
----------------------------------
Other ............................. $1,535 $ 365 $1,170
==================================
42
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Amortization expense related to intangible assets was $689,000, $314,000
and $50,000 for the years ended December 31, 2002, 2001 and 2000, respectively.
Estimated amortization expense related to intangible assets subject to
amortization at December 31, 2002 for each of the years ending December 31, 2003
and 2004, amortization will be $1.1 million and $194,000, respectively.
Note 6--Commitments:
On February 9, 2001, the Company entered into a credit facility with Wells
Fargo HSBC Trade Bank, which provides for issuances of letters of credit,
primarily for procurement of inventory. On September 6, 2001, the agreement was
amended to increase the facility from $3.0 million to $4.0 million. The credit
agreement requires facility fees, which are not significant, as well as the
maintenance of certain minimum net worth and other financial ratios. As of
December 31, 2002, the Company had no letters of credit outstanding. As of
December 31, 2001, the Company had $232,000 in letters of credit outstanding.
The Company had no long-term debt as of December 31, 2002 and 2001.
The Company is obligated under various operating leases for both office
and warehouse space. The remaining lease terms range in length from one to four
years. Rent expense, net of sublease income, for the years ended December 31
2002, 2001 and 2000, was $2.6 million, $2.3 million and $1.1 million,
respectively.
Future minimum lease payments, net of sublease rentals of $108,000 in
2003, under non-cancelable operating leases at December 31, 2002 are as follows
(in thousands):
2003 2004 2005 2006 2007 Thereafter
---- ---- ---- ---- ---- ----------
Gross restructuring related leases
(see note 11)................... $ 561 $ 592 $ 304 $ 22 $ 0 $ 0
Operating Leases........................ 2,247 2,256 1,913 1,108 912 1,989
------ ------ ------ ------ ---- ------
Total commitments................... $2,808 $2,848 $2,217 $1,130 $912 $1,989
====== ====== ====== ====== ==== ======
Under the terms of the lease agreements, the Company is also responsible
for internal maintenance, utilities and a proportionate share (based on square
footage occupied) of property taxes. The Company is also exposed to credit risk
in the event of default of the sub-lessee, because the Company is still liable
to meet its obligations under the terms of the original lease agreement. The
Company has not included contingent earn out payments in the table above. The
potential earn out payments to the former owners of Compass is $3.85 million
during 2003 and $3.25 million in 2004 if the earnings before interest, taxes,
depreciation and amortization exceed $3.5 million in 2003 and $4.6 million in
2004.
Note 7--Stockholders' Equity:
Warrants
In September 2001, the Company issued warrants to purchase 170,250 shares
of common stock in exchange for recruitment services. The warrants were
immediately vested. The fair value of the warrants of approximately $236,000 has
been recorded as an expense in 2001. The fair value of these warrants was
estimated using the Black-Scholes option pricing model and the following
assumptions: dividend yield of 0%; volatility of 40%; risk free interest rate of
3.30% and a term of three years. The warrants are outstanding at December 31,
2002.
1999 Stock Option Plans
In May 1999 the Company adopted the 1999 unit option plan (the "Unit
Plan") under which 2,003,000 Class A units were reserved for issuance of stock
options to employees, directors, or consultants under terms and provisions
established by the Board of Managers. On October 19, 1999 the Board of Managers
increased the number of units issuable under the unit option plan to a total of
3,400,000 units.
43
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
In September 1999 the Company adopted the 1999 Stock Option Plan (the
"Plan") under which 6,750,000 common shares were reserved for the issuance of
stock options to employees, directors and consultants. The primary purpose of
the Plan is to attract and retain the best available personnel and to provide
additional incentive to the grantees. Upon the completion of the initial public
offering in November 1999, options granted under the Unit Plan were converted to
options to purchase an equivalent number of common shares. Under the terms of
the Plan, incentive options may be granted to employees, and nonstatutory
options may be granted to employees, directors and consultants, at prices no
less than 100% and 85%, respectively, of the fair market value of the common
shares at the date of grant. Options granted under the Plan vest at a rate of
25% after one year with the remaining vesting evenly over the next three years.
The options expire ten years from the date of grant.
In July 1999, the Company issued stock options to two officers and one
outside director resulting in unearned stock-based compensation of $830,000,
which is being amortized over the vesting period of the underlying options of
four years. Amortization expense associated with unearned stock-based
compensation totaled $63,000 $148,000 and $367,000 for the years ended December
31, 2002, 2001 and 2000, respectively.
In July 2002, the Company issued stock options to purchase 900,000 shares
of stock to an executive of the Company. The options were granted with an
exercise price equal to the stock's fair market value on the date of grant. The
options vest at a rate of 25% after one year with the remaining vesting evenly
over the following three years thereafter. The options expire ten years from the
date of grant.
In July 2002, the Company issued stock options to purchase 350,000 shares
of stock to an executive of the Company. The options were granted with an
exercise price equal to the stock's fair market value on the date of grant. The
options vest as performance milestones are achieved and expire ten years from
the date of grant.
In January 2002 and 2001, the Board approved the increase in the number of
options available for grant by 1,948,502 and 1,943,770 pursuant to the
provisions of the Plan. This represents the annual increase calculated as 4% of
the total outstanding shares as of the beginning of the fiscal year.
Activity under the Plan is set forth below:
Weighted
Average
Available Outstanding Exercise
For Grant Options Price
--------- ------- -----
Balances, December 31, 1999 3,656,657 3,093,343 $ 9.60
---------- ----------- ------
Options granted ........ (2,683,500) 2,683,500 $10.90
Options canceled ....... 237,520 (237,520) 11.26
---------- ----------- ------
Balances, December 31, 2000 1,210,677 5,539,323 $10.16
---------- ----------- ------
Annual increase ........ 1,943,770 -- --
Options granted ........ (1,750,725) 1,750,725 $ 5.48
Options canceled ....... 532,542 (532,542) 10.61
---------- ----------- ------
Balances, December 31, 2001 1,936,264 6,757,506 $ 7.58
---------- ----------- ------
Annual increase ....... 1,948,502 -- --
---------- ----------- ------
Options granted ....... (5,274,921) 5,274,921 $ 4.36
Options exercised .. -- (21,646) 7.02
---------- ----------- ------
Options canceled ...... 1,963,205 (1,963,205) 8.41
---------- ----------- ------
Balances, December 31, 2002 573,050 10,047,576 $ 6.18
========== =========== ======
At December 31, 2002, 4,692,957 options outstanding were exercisable.
44
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
1999 Director Option Plan
In September 1999, the Company adopted the 1999 Director Option Plan (the
"Director Plan"), which provides for the grant of non-statutory stock options to
non-employee directors. The Director Plan has a term of ten years. A total of
300,000 shares of the Company's common stock, plus an annual increase equal to
the number of shares needed to restore the number of shares of common stock that
are available for grant under the Director Plan to 300,000 shares, have been
reserved for issuance under the Director Plan. As of December 31, 2002, no
options have been granted under the Director Plan.
Executive Stock Option Agreements
In September 2001, the Company issued stock options to purchase 1,923,000
and 500,000 shares of common stock in two separate stock option agreements to
two officers of the Company. The options were granted with an exercise price
equal to the stock's fair market value on the date of grant. The options vest at
a rate of 25% after one year with the remaining vesting evenly over the
following three years thereafter. The options expire ten years from the date of
grant.
In September 2001, the Company issued stock options to purchase 824,000
shares of stock to an officer of the Company. The options were granted with an
exercise price equal to the stock's fair market value on the date of grant. The
options are time accelerated restricted stock awards which become fully vested
seven days prior to their expiration date, September 2007. The options are
subject to accelerated vesting if certain performance criteria are met.
The aggregate of the Company's options outstanding and currently
exercisable by exercise price at December 31, 2002 are as follows:
Options Outstanding Options Exercisable
- --------------------------------------------------------- ----------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Contractual Exercise Number Exercise
Exercise Price Outstanding Life in Years Price Exercisable Price
-------------- ----------- ------------- ----- ----------- -----
$2.60 - $3.00 2,617,175 9.73 $ 2.79 6,604 $ 2.60
$4.50 - $6.55 5,639,129 8.91 4.79 1,348,544 4.88
$7.57 - $10.75 3,672,984 7.53 8.90 2,246,829 8.99
$11.00 - $13.50 1,365,288 6.94 11.06 1,090,980 11.05
---------- -------- ------ --------- ------
13,294,576 8.49 $ 6.18 4,692,957 $ 8.28
========== ======== ====== ========= ======
Employee Stock Purchase Plan
In September 1999, the Company adopted the 1999 Employee Stock Purchase
Plan (the "ESPP"), which provides eligible employees with an opportunity to
purchase the Company's common stock at a discount through accumulated payroll
deductions, during each six-month offering period. The price at which the stock
is sold under the ESPP is equal to 85% of the fair market value of the common
stock, on the first or last day of the offering period, whichever is lower. A
total of 300,000 shares of common stock have been reserved for the issuance
under the ESPP. In February and August 2002, 69,298 and 98,679 shares,
respectively, were issued under the ESPP, generating contributions of $586,000.
In February and August 2001, 50,364 and 67,938 shares, respectively, were issued
under the ESPP, generating contributions of $580,000. The weighted average
estimated fair values of the ESPP awards issued during fiscal 2002, 2001 and
2000 were $3.48, $2.19 and $3.01 per share, respectively. In August 2000, 36,718
shares were issued under the plan generating contributions of $353,000.
45
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Note 8 - Warranties and Financial Guarantees
We provide for future warranty costs for equipment sales upon product
delivery. The specific terms and conditions of those warranties vary depending
upon the product sold and country in which we do business, but in general we
offer warranties which match the OEM warranty for that specific product. Our
equipment warranties generally carry a 360 day warranty from the date of
shipment. Our liability under these warranties is to repair or replace at our
cost any defective equipment. Longer warranty periods are provided on a limited
basis in instances where the OEM warranty is longer.
Because our products are manufactured, in many cases, to customer
specifications and their acceptance is based on meeting those specifications, we
historically have experienced minimal warranty costs. Factors that affect our
warranty liability include historical and anticipated rates of warranty claims
and cost per claim. We assess the adequacy of our recorded warranty liabilities
every quarter and make adjustments to the liability if necessary.
Changes in our warranty liability, which is included as a component of
"Other Accrued Liabilities" on the Condensed Consolidated Balance Sheet, during
the period are as follows (in thousands):
Balance, as of December 31, 2001.......................... $ 994
Provision for warranty liability.......................... 3,371
Settlements............................................... (3,375)
----------
Balance, as of December 31, 2002.......................... $ 990
----------
Financial Guarantees:
We occasionally guarantee contingent commitments through borrowing
arrangements, such as letters of credit and other similar transactions. The term
of the guarantee is equal to the remaining term of the related debt, which is
short term in nature. The maximum potential amount of future payments we could
be required to make under our guarantees at December 31, 2002 was $0.
Note 9--401(k) Savings Plan:
In February 1998, the Company adopted a 401(k) Savings Plan (the "Savings
Plan") which covers all employees. Under the Savings Plan, employees are
permitted to contribute up to 15% of their gross compensation not to exceed the
annual IRS limitation for any plan year ($11,000 in 2002). The Company matches
25% of employee contributions on the first 5% of their contributions for all
employees who receive less than 50% of their total compensation in the form of
incentive compensation. The Company made matching contributions of $48,050,
$144,000, and $55,000, for the years ended December 31, 2002, 2001 and 2000,
respectively.
Note 10--Related Party Transactions and Loans to Officers:
In December 2002, the Company subleased approximately 1,300 square feet of
space to the Chairman of the Board for $2,300 per month. The lease expires on
March 31, 2003.
On July 12, 1999 the Company entered into an interest-free mortgage loan
agreement under which it advanced $600,000 to an officer of the Company. Under
the terms of the mortgage loan the amount advanced was to be forgiven as to
$50,000 on each of the first four anniversaries of the note and $100,000 on each
of the fifth through eighth anniversaries. In August 2002, the executive officer
repaid the remaining outstanding balance of $450,000. Under the terms of the
loan, $150,000 had been previously forgiven by the Company.
On October 20, 1999 the Company entered into a mortgage loan agreement
under which it advanced $1,351,000 to an officer of the Company. The mortgage
loan was interest free, collateralized by the principal residence of the
officer, and must be repaid when the residence is sold. Notwithstanding the
foregoing, $300,000 of the amount advanced will be forgiven over eight years as
to $25,000 on each of the first four anniversaries of the note and $50,000 on
each of the fifth through eighth anniversaries. In June 2000, the officer repaid
$425,000 of the principal balance. In September 2000, the Company re-loaned
$300,000
46
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
to the officer on an interest free basis. In August 2002, the officer repaid
$225,000 of the principal balance. Under the terms of the loan, $75,000 has been
forgiven by the Company. The officer repaid the remaining balance on January 1,
2003.
On May 1, 2001, the Company entered into a mortgage loan agreement under
which it advanced $300,000 to an officer of the Company. The mortgage loan has a
term of eight years, is interest free and is collateralized by the principal
residence of the officer. Under the terms of the mortgage loan the amount
advanced will be forgiven as to $22,500 on the first anniversary of the note,
$25,000 on each of the second and third anniversaries of the note, $50,000 on
each of the fourth through seventh anniversaries and $27,500 the final year. If
the officer's employment with the Company ceases for any reason, the remaining
balance becomes repayable to the Company. The term of repayment is dependent on
the reason for the officer's termination, and ranges from one to six months from
the date of termination of employment. The remaining balance under this loan at
December 31, 2002 was $265,000.
On May 3, 2002 the Company entered into a mortgage loan agreement under
which it advanced $2.0 million to an officer of the Company. The mortgage loan
has a term of eight years, is interest free and is collateralized by the
principal residence of the officer. Under the terms of the mortgage loan the
amount advanced, assuming the officer remains employed with the Company at such
time, will be forgiven in the amount of $200,000 on each of the first two
anniversaries of the note, $250,000 on each of the third through sixth
anniversaries of the note and $300,000 on each of the seventh and eighth
anniversaries. The loan can be forgiven in full in the event that, within 12
months of a change in control of the Company, the officer's employment is either
terminated without cause or is constructively terminated. If the officer's
employment with the Company ceases for any other reason, the remaining balance
becomes repayable to the Company. The term of repayment is dependent upon the
reason for the officer's employment termination and ranges up to twelve months
from the date of termination of employment. The remaining balance under this
loan at December 31, 2002 was $1.9 million.
As a result of the above, the Company recorded compensation charges of
$203,000, $89,000 and $75,000, equal to the total amounts forgiven under these
loans in 2002, 2001 and 2000. The amounts scheduled to be repaid or forgiven
during the year ended December 31, 2002 have been included in other current and
noncurrent assets.
Note 11 - Restructuring and Asset Impairment Charges
In the fourth quarter of 2002, the Company announced and began
implementation of its operational restructuring plan to reduce operating costs
and streamline its operating facilities. This initiative involved the reduction
of employee staff by 29 positions throughout the Company in managerial,
professional, clerical and operational roles and consolidation of the Oxnard,
Norcross and Euless distribution and repair facilities to one centralized
location in Dallas.
Continuing lease obligations primarily relate to closure of the Oxnard,
Euless and Norcross facilities. Amounts expensed represent estimates of
undiscounted future cash outflows, offset by anticipated third-party sub-leases.
At December 31, 2002, the Company remains obligated under lease obligations of
$1.5 million associated with its December 2002 operational restructuring, offset
by estimates of future sub-lease income of $575,000. Expected sublease income
has not been reflected in the schedule of commitments in footnote 6 as sublease
agreements have not been signed. The lease obligations expire in 2006. The
Company expects cash savings of $500,000 a quarter beginning in the third
quarter 2003 and thereafter.
Termination benefits are comprised of severance-related payments for all
employees to be terminated in connection with the operational restructuring.
Termination benefits do not include any amounts for employment-related services
prior to termination.
47
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
At December 31, 2002, the accrued liability associated with the
restructuring charge was $2.6 million and consisted of the following (in
thousands):
Balance at
Restructuring December
Charge Payments 31, 2002
------ -------- --------
Lease obligations, net of estimated
sublease income ................. $ 995 $ -- $ 995
Termination benefits .................. 1,764 (155) 1,609
------ ----- ------
Total ................................. $2,759 $(155) $2,604
As of December 31, 2002, 20 employees had been terminated, and actual
termination benefits paid were $155,000.
Asset impairments primarily relate to the write down of the remaining
carrying value of the e-commerce software the Company invested in, in
anticipation of on-line sales. The online market did not materialize and in
December 2002, the Company terminated on-line sales, eliminated the department
and wrote-off the assets. The Company expects $1.6 million in savings in 2003
and none thereafter.
Restructuring charges in 2001 relate to a reorganization in which the
domestic workforce was reduced by 28 people, or approximately 10% of the then
existing workforce. The total charges associated with the reorganization were
$352,000 and represented accrued salaries and wages, severance, accrued
vacation, payroll taxes and other directly related costs, all which were paid in
2001.
Note 12--Income Taxes:
The provision for (benefit from) income taxes for the years ended December
31, 2002, 2001 and 2000 consist of the following (in thousands):
Year Ended December 31,
-----------------------
2002 2001 2000
---- ---- ----
Current:
Federal ................ $ (1,361) $ 8,120 $ 13,969
State .................. 40 2,264 3,822
Foreign ................ (50) 23 --
-------- -------- --------
(1,371) 10,407 17,791
Deferred:
Federal .................. (1,602) 465 (59)
State .................... (535) 57 5
-------- -------- --------
(2,137) 520 (54)
-------- -------- --------
$ (3,508) $ 10,929 $ 17,737
======== ======== ========
The net deferred tax asset as of December 31, 2002 and 2001 was comprised
of the following (in thousands):
December 31,
------------
2002 2001
---- ---
Deferred tax asset (liability):
Property and equipment ............................................. $ 106 $ (379)
Reserves and accruals .............................................. 6,038 3,606
Difference in tax and book basis of net assets upon conversion, net 14,061 15,543
Net operating loss carryforward .................................... 827 555
Intangible assets .................................................. 281 (168)
------- -------
Total deferred tax asset ...................................... 21,313 19,157
Valuation allowance ................................................ -- --
------- -------
Net deferred tax asset ........................................ $21,313 $19,157
======= =======
48
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
A reconciliation of the actual income tax rate to the federal statutory
rate follows:
Year Ended December 31,
-----------------------
2002 2001 2000
---- ---- ----
Tax at federal statutory rate....................... (35.00)% 35.00 % 35.00%
State taxes (net of federal tax benefit)............ (5.88)% 5.95 % 6.11%
Non-deductible goodwill............................. (0.21)% 1.59 %
Other............................................... 0.59% (.04)% 0.89%
-------- ------- ------
Effective tax rate.................................. (40.50)% 42.50 % 42.00%
======== ======= ======
The domestic and foreign components of earnings (losses) before taxes are:
Year Ended December 31,
-----------------------
2002 2001 2000
---- ---- ----
U.S. ...................... $(8,523) $25,650 $42,228
Non-U.S ................... (139) 65 --
------- ------- -------
$(8,662) $25,715 $42,228
======= ======= =======
At December 31, 2002 the Company has federal and state net operating loss
carryforwards of approximately $1.2 million and $6.0 million, respectively,
available to offset future regular and alternative minimum taxable income. The
federal carryforwards will begin to expire in 2019 and the state carryforwards
will begin to expire in 2007 if not utilized.
The Company has not provided for U.S. Federal income taxes on any of its
foreign subsidiaries' undistributed earnings as of December 31, 2002. The
Company intends to invest these earnings indefinitely in operations outside the
United States.
Note 13--Segment Information:
The Company provides telecommunications operators with equipment sourcing
for new and redeployed equipment and services. In accordance with SFAS No. 131,
operating segments are identified as components of an enterprise about which
separate discrete financial information is available that is evaluated by the
chief operating decision maker or decision making group to make decisions about
how to allocate resources and assess performance. The Company's chief operating
decision maker is the chief executive officer. To date the Company has reviewed
its operations in principally two segments. The chief operating decision maker
assesses performance based on the gross profit generated by each segment.
The Company does not report operating expenses, depreciation and
amortization, interest expense, capital expenditures or identifiable net assets
by segment. All segment revenues are generated from external customers. Segment
information is as follows (in thousands):
New Redeployed Total
-------- --------- ---------
Year ended December 31, 2000
Revenue.............................. $ 90,713 $ 120,479 $ 211,192
-------- --------- ---------
Gross profit......................... $ 16,913 $ 59,661 $ 76,574
-------- --------- ---------
Year ended December 31, 2001
Revenue.............................. $ 90,879 $ 130,377 $ 221,256
-------- --------- ---------
Gross profit......................... $ 17,658 $ 55,120 $ 72,778
-------- --------- ---------
Year ended December 31, 2002
Revenue.............................. $ 63,691 $ 135,509 $ 199,200
-------- --------- ---------
Gross profit............... $ 6,680 $ 46,930 $ 53,610
-------- --------- ---------
49
SOMERA COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Net revenue information by geographic area is as follows (in thousands):
Net Revenue
-----------
Year ended December 31, 2000:
United States............................... $ 194,663
Canada...................................... 6,415
Latin America............................... 6,640
Other....................................... 3,474
---------
Total.................................. $ 211,192
=========
Year ended December 31, 2001:
United States............................... $ 199,809
Canada...................................... 4,421
Latin America............................... 11,368
Europe...................................... 1,803
Asia........................................ 3,060
Other....................................... 795
---------
Total.................................. $ 221,256
=========
Year ended December 31, 2002:
United States........................ $ 169,512
Canada............................... 1,927
Latin America........................ 12,955
Europe............................... 8,293
Asia................................. 4,998
Other................................ 1,515
---------
Total.......................... $ 199,200
=========
Substantially all long-lived assets are maintained in the United States.
50
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item is incorporated herein by reference
to the information relating to the directors of the Registrant and compliance
with Section 16(a) of the Exchange Act that is contained in the Proxy Statement
relating to the Company's 2003 Annual Meeting of Stockholders scheduled to be
held on May 21, 2003, which will be filed with the SEC no later than 120 days
after the close of the fiscal year ended December 31, 2002.
The information required by this Item relating to the executive officers
is contained in Item 1 of Part I hereof.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated herein by reference
to the information relating to executive compensation that is contained in the
Proxy Statement relating to the Company's 2003 Annual Meeting of Stockholders
scheduled to be held on May 21, 2003, which will be filed with the SEC no later
than 120 days after the close of the fiscal year ended December 31, 2002.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated herein by reference
to the information relating to security ownership of certain beneficial owners
and management that is contained in the Proxy Statement relating to the
Company's 2003 Annual Meeting of Stockholders scheduled to be held on May 21,
2003, which will be filed with the SEC no later than 120 days after the close of
the fiscal year ended December 31, 2002.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is incorporated herein by reference
to the information relating to certain related party transactions that is
contained in the Proxy Statement relating to the Company's 2003 Annual Meeting
of Stockholders scheduled to be held on May 21, 2003, which will be filed with
the SEC no later than 120 days after the close of the fiscal year ended December
31, 2002.
ITEM 14. CONTROLS AND PROCEDURES
Within 90 days prior to the date of this report, we carried out an
evaluation, under the supervision and with the participation of our principal
executive officer and principal financial officer, of the effectiveness of the
design and operation of our disclosure controls and procedures. Based on this
evalution, our principal executive officer and principal financial officer
concluded that our disclosure controls and procedures are effective in timely
alerting them to material information required to be included in our periodic
SEC reports. It should be noted that the design of any system of controls is
based in part upon certain assumptions, and there can be no assurance that any
design will succeed in achieving stated goals.
In addition, we reviewed our internal controls, and there have been no
significant changes in our internal controls or in other factors that could
significantly affect those controls subsequent to the date of their last
evaluation.
51
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this report:
1. Financial Statements and Financial Statement Schedules.
2. List of Financial Statement Schedules.
II. Valuation and Qualifying Accounts and Reserves
3. Exhibits. The following exhibits are filed as part of, or incorporated
by reference into, this Report
Exhibit
Number Exhibit Title
- -------- -----------------------------------------------------------------
3.1(a) Title Amended and Restated Certificate of Incorporation of Somera
Communications, Inc., a Delaware corporation, as currently in
effect.
3.2(a) Bylaws of Somera Communications, Inc., as currently in effect.
4.1(a) Specimen common stock certificate.
10.1(a) Form of Indemnification Agreement between Somera Communications,
Inc. and each of its directors and officers.
10.2(a) 1999 Stock Option Plan and form of agreements thereunder (as
adopted September 3, 1999).
10.3(a) 1999 Employee Stock Purchase Plan (as adopted September 3, 1999).
10.4(a) 1999 Director Option Plan and form of agreements thereunder (as
adopted September 3, 1999).
10.5(a) Loan Agreement by and between Somera Communications and Fleet
National Bank, dated August 31, 1999.
10.6(a) Security Agreement by and between Somera Communications and Fleet
National Bank, dated August 31, 1999.
10.7(f) Amended Employment Agreement between Somera Communications and
Jeffrey Miller, dated as of July 1, 2002.
10.9(a) Lease dated January 20, 1998 between Santa Barbara Corporate
Center, LLC and Somera Communications.
10.10(a) First Amendment to Lease, dated February 2, 1998, between Santa
Barbara Corporate Center, LLC and Somera Communications.
10.11(a) Second Amendment to Lease, dated February 1, 1999, between Santa
Barbara Corporate Center, LLC and Somera Communications.
10.12(a) Industrial/Commercial Lease, dated May 12, 1999, between Sunbelt
Properties and Somera Communications.
10.27(f) Employment Agreement between Somera Communications, Inc. and
Steve Cordial, dated August 15, 2002.
10.28(h) Asset Purchase Agreement dated as of September 19, 2002, by and
among Somera Communications, Inc., Compass Telecom and the
shareholders of Compass.
10.13(c) Second Amendment to Sublease, dated January 31, 2001, between GRC
International, Inc. and Somera Communications.
10.14(a) Form of Registration Agreement, between Somera Communications,
Inc., and certain of its stockholders.
10.15(c) Employment Agreement between Somera Communications and Brandt
Handley, dated January 8, 2001.
10.16(c) Sub-Sublease, dated August 2, 2000, between EDS Information
Services, L.L.C. and Somera Communications, Inc.
10.17(c) Sublease Agreement, dated May 19, 2000, between Dames & Moore,
Inc. and Somera Communications, Inc.
10.18(b) Stock Purchase Agreement, dated October 16, 2000 between the
Somera Communications, Inc. and MSI Communications, Inc.
10.19(c) Lease, dated November 1, 2000 through October 31, 2005, between
Somera Communications BV i.o. and Stena Realty BV
52
Exhibit
Number Exhibit Title
- -------- -----------------------------------------------------------------
10.20(c) Lease Agreement, dated November 1, 2000, between Jersey State
Properties and Somera Communications, Inc.
10.21(c) First Amendment to Lease Agreement, dated January 1, 2001,
between Jersey State Properties and Somera Communications, Inc.
10.22(c) Employment Agreement between Somera Communications, Inc. and
Glenn Berger, dated October 8, 1999.
10.23(d) Credit Agreement by and between Somera Communications, Inc. and
Wells Fargo HSBC Trade Bank, N.A. dated February 9, 2001.
10.24(e) Employment Agreement between Somera Communications, Inc. and Dan
Firestone, dated September17, 2001.
10.25(e) Employment Agreement between Somera Communications, Inc. and Rick
Darnaby, dated September17, 2001.
10.26(g) Lease Agreement, dated July 10, 2000, between Endicott Company,
LLC and Somera Communications, Inc.
23.1 Consent of PricewaterhouseCoopers LLP, independent accountants.
Notes:
(a) Incorporated by reference to the Company's Registration Statement on
Form S-1, filed September 10, 1999, as amended (File No. 333-86927).
(b) Incorporated by reference to the Company's Report on Form 8-K, filed
on October 27, 2000.
(c) Incorporated by reference to the Company's Report on Form 10-K, filed
on March 29, 2001.
(d) Incorporated by reference to the Company's Report on Form 10-Q, filed
on May 14, 2001.
(e) Incorporated by reference to the Company's Report on Form 10-Q, filed
on November 14, 2001.
(f) Incorporated by reference to the Company's Report on Form 10-Q, filed
on November 14, 2002.
(g) Incorporated by reference to the Company's Report on Form 10-K, filed
on March 18, 2002.
(h) Incorporated by reference to the Company's Current Report on Form 8-K,
filed on October 9, 2002.
(b) Reports on Form 8-K.
The Company filed a Form 8-K on October 9, 2002 relating to the
acquisition of the certain assets of Compass Telecom.
53
CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER
PURSUANT TO
18 U.S.C. SECTION 1350
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
I, Rick Darnaby, certify that:
1. I have reviewed this annual report on Form 10-K of Somera
Communications Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: March 28, 2002 /S/ RICK DARNABY
----------------------------- ------------------------------------
Rick Darnaby
Chief Executive Officer
54
I, C. Stephen Coridal, certify that:
1. I have reviewed this annual report on Form 10-K of Somera
Communications Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this annual report is
being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing
date of this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have identified
for the registrant's auditors any material weaknesses in internal
controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls subsequent
to the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: March 28, 2003 /S/ C STEPHEN CORDIAL
--------------------------- ------------------------------------------
C. Stephen Cordial
Vice President and Chief Financial Officer
55
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 on this 28th day of
March 2002.
Somera Communications, Inc.
/S/ RICK DARNABY
--------------------------------------------
By: (Rick Darnaby, President and Chief Executive Officer)
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below hereby constitutes and appoints jointly and severally, Rick
Darnaby and C. Stephen Cordial, and each of them, as his attorney-in-fact, with
full power of substitution, for him in any and all capacities, to sign any and
all amendments to this Annual Report on Form 10-K, and to file the same, with
exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission, hereby ratifying and confirming all that
each said attorneys-in-fact, or his substitute or substitutes, may do or cause
to be done by virtue hereof.
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 March 28, 2003:
Signature Title
---------------- ---------------------
/S/ RICK DARNABY President, Chief Executive Officer and Director
- -------------------------------- (Principal Executive Officer)
(Rick Darnaby)
/S/ DANIEL A. FIRESTONE Executive Chairman of the Board
- -------------------------------- Chief Financial Officer
(Daniel A. Firestone)
/S/ C. STEPHEN CORDIAL
- --------------------------------
(C. Stephen Cordial)
/S/ GIL VARON Director
- --------------------------------
(Gil Varon)
/S/ WALTER G. KORTSCHAK Director
- --------------------------------
(Walter G. Kortschak)
/S/ PETER Y. CHUNG Director
- --------------------------------
(Peter Y. Chung)
/S/ BARRY PHELPS Director
- --------------------------------
(Barry Phelps)
56
Report of Independent Accountants on Financial Statement Schedule
To the Board of Directors and Stockholders of
Somera Communications, Inc.
Our audits of the consolidated financial statements referred to in our
report dated January 28, 2003, appearing in page 28 of this Form 10-K also
included an audit of the financial statement schedule appearing in Schedule II
of this Form 10-K. In our opinion, this financial statement schedule presents
fairly, in all material respects, the information set forth therein when read in
conjunction with the related consolidated financial statements.
/s/ PricewaterhouseCoopers LLP
San Jose, California
January 28, 2003
Valuation and Qualifying Accounts and Reserves
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
Additions
Balance at Charged to
Beginning of Costs and Balance at
Period Expenses Deductions End of Period
------ -------- ---------- -------------
Year ended December 31, 1999
Allowance for sales returns and warranty
obligations...................................... $ 285 $ 670 $ 485 $ 470
Allowance for doubtful accounts.................. 249 578 91 736
Allowance for excess and obsolete inventory...... 57 1,258 673 642
Year ended December 31, 2000
Allowance for sales returns and warranty
obligations...................................... $ 470 $ 3,380 $ 3,118 $ 732
Allowance for doubtful accounts.................. 736 1,778 1,184 1,330
Allowance for excess and obsolete inventory...... 642 3,062 1,541 2,163
Year ended December 31, 2001
Allowance for sales returns and warranty
obligations...................................... $ 732 $ 3,422 $ 3,160 $ 994
Allowance for doubtful accounts.................. 1,330 592 221 1,701
Allowance for excess and obsolete inventory...... 2,163 2,974 1,896 3,241
Year ended December 31, 2002
Allowance for sales returns and warranty
obligations..................................... $ 994 $ 3,371 $ 3,375 $ 990
Allowance for doubtful accounts................ 1,701 1,876 2,885 692
Allowance for excess and obsolete inventory.... 3,241 13,667 2,409 14,499
57