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SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
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FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
[X] EXCHANGE ACT OF 1934
For the Fiscal Year Ended May 31, 1997 Commission File No. 0-12867
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
[ ] EXCHANGE ACT OF 1934
For the transition period from __________________ to __________________
3Com Corporation
(Exact name of registrant as specified in its charter)
California 94-2605794
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5400 Bayfront Plaza
Santa Clara, California 95052
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (408) 764-5000
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01
par value.
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the 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 XX No
-- --
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
The aggregate market value of the Registrant's Common Stock held by
non-affiliates, based upon the closing price of the Common Stock on August 15,
1997, as reported by the Nasdaq National Market, was approximately
$18,421,186,000. Shares of Common Stock held by each executive officer and
director and by each person who owns 5% or more of the outstanding Common Stock,
based on Schedule 13G filings, have been excluded since such persons may be
deemed affiliates. This determination of affiliate status is not necessarily a
conclusive determination for other purposes.
As of August 15, 1997, 344,644,309 shares of the Registrant's Common Stock were
outstanding.
The Registrant's definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on October 7, 1997 is incorporated by reference in Part
III of this Form 10-K to the extent stated herein.
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3Com Corporation
Form 10-K
For the Fiscal Year Ended May 31, 1997
Table of Contents
Part I Page
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Item 1. Business....................................................................................1
Item 2. Properties..................................................................................12
Item 3. Legal Proceedings...........................................................................14
Item 4. Submission of Matters to a Vote of Security Holders.........................................16
Executive Officers of the Registrant .......................................................16
Part II
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Item 5. Market for Registrant's Common Stock and Related Stockholder Matters........................22
Item 6. Selected Financial Data.....................................................................23
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations............................................................................24
Item 8. Financial Statements and Supplementary Data.................................................36
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure...............................................................................61
Part III
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Item 10. Directors and Executive Officers of 3Com....................................................62
Item 11. Executive Compensation......................................................................62
Item 12. Security Ownership of Certain Beneficial Owners and Management..............................62
Item 13. Certain Relationships and Related Transactions..............................................62
Part IV
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Item 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K.............................62
Exhibit Index...............................................................................63
Signatures..................................................................................66
Financial Statement Schedule................................................................S-1
3Com, AccessBuilder, Boundary Routing, CELLplex, EtherLink, LANplex, NETBuilder,
NETBuilder II, OfficeConnect, ONcore, Parallel Tasking, SuperStack, Transcend
and XJACK are registered trademarks of 3Com Corporation or its subsidiaries.
CoreBuilder, DynamicAccess, PalmPilot, SimulCom, Total Control, TranscendWare
and x2 are trademarks of 3Com Corporation or its subsidiaries.
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PART I
Subsequent to the end of fiscal year 1997, 3Com Corporation (referred to
herein as 3Com, Registrant or the Company) consummated a merger with U.S.
Robotics Corporation (U.S. Robotics) on June 12, 1997. See Note 17 of Notes to
the Consolidated Financial Statements. The following information set forth in
Part I of this Form 10-K regarding the Company's business reflects 3Com and U.S.
Robotics on a combined basis. The information contained in Parts II, III and IV
of this Form 10-K have not been restated to include the operating results of
U.S. Robotics, and does not represent the results of the combined company.
ITEM 1. Business
3Com Corporation was founded on June 4, 1979 and pioneered the networking
industry. Over the years, 3Com has evolved from a supplier of discrete
networking products to a broad-based supplier of local area network (LAN) and
wide area network (WAN) systems for the large enterprise, small business, home,
and service provider markets. Following its recent merger with U.S. Robotics,
the world's leading provider of modems and remote access products, 3Com offers
customers a broad range of data networking solutions that include routers, hubs,
remote access systems, switches, adapters, modems, connected organizers and
telephony products. 3Com's products are distributed and serviced worldwide
through 3Com and its partners: principally systems integrators, value-added
resellers (VARs), national resellers and dealers, distributors and original
equipment manufacturers (OEMs). Certain products, such as analog and digital
modems, adapters, connected organizers, and the Network Starter Kit, are also
sold through electronics catalogs and retailers.
3Com's name is derived from its focus on computer communication
compatibility. Since its inception, the Company has been a leader in defining,
shaping and promoting the growth of networking infrastructures that transmit
information to all parts of the world quickly and efficiently. The Company's
commitment to its customers goes beyond point-product excellence to making data
networks fundamentally easier to design, install, maintain and evolve. The
Company's objective is to make the network invisible to the individual end-user
as well as flexible and unconstrained for the network manager.
Since 1992, 3Com has augmented its internal growth by actively pursuing a
course of expanding its technologies and product offerings through strategic
acquisitions. From fiscal year 1993 through 1996, the Company acquired 10
companies that furthered its technological growth and market position, primarily
in enterprise networking. Of particular note, Synernetics, Inc., NiceCom, Ltd.,
Chipcom Corporation and AXON Networks, Inc. enhanced 3Com's product offering in
LAN and Asynchronous Transfer Mode (ATM) switching and remote network management
and monitoring (RMON2). The Company's activity in mergers and acquisitions is
consistent with the current trend of consolidation in the networking industry.
Such consolidation is expected to continue.
In the second quarter of fiscal 1997, the Company acquired OnStream
Networks, Inc. (OnStream), a leading provider of ATM and broadband WAN and
access products. OnStream's products are standards-based solutions that allow
customers to integrate traffic from data, video and voice networks, and adapt it
to ATM for transport over local and wide area ATM networks. The acquisition was
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accounted for as a pooling-of-interests and was valued at approximately $245
million on the date the acquisition was announced.
In fiscal 1997, the Company introduced TranscendWare(TM) software, which
consists of comprehensive integrated software modules that are embedded in
3Com's broad line of networking systems and adapters. TranscendWare software is
an integral part of the Transcend(R) Networking framework and is used to manage
all aspects of the network. TranscendWare software, including Transcend
management applications, probes and embedded intelligence, delivers the
pervasive management needed for universal visibility and control.
Also in fiscal 1997, 3Com began shipping several new products, including
new high speed switching modules for the LANplex(R), CELLplex(R), and ONcore(R)
High-Function Switches, as well as SuperStack(R) II, the Company's
next-generation line of stackable systems and extensions to the OfficeConnect(R)
small office system. In the fourth quarter of fiscal 1997, the Company rebranded
its chassis switching product family which includes ONcore, CELLplex and LANplex
under the CoreBuilder(TM) brand to identify its industry leading High-Function
Switching platforms. The Company also extended its leadership position as the
number one global provider of Ethernet and Fast Ethernet adapters for desktop
PCs, servers and mobile computers, according to the March 1997 report of
International Data Corporation (IDC).
In the third quarter of fiscal 1997, the Company announced a definitive
agreement to merge with U.S. Robotics, the leading supplier of products and
systems for accessing information across the wide area network, including modems
and remote access products. The transaction was closed in the first quarter of
fiscal 1998. Combining 3Com's capabilities and leadership position in the
enterprise and local area networking market with U.S. Robotics' capabilities and
leadership position in remote access and modem markets creates a networking
company with the ability to deliver integrated end-to-end LAN and WAN solutions
to the broadest set of customers in the industry. The acquisition was accounted
for as a pooling-of-interests and was valued at approximately $6.6 billion on
the date the acquisition was announced.
The Company believes that its principal competitive advantages lie in the
depth and breadth of its product lines, its ability to recognize and respond to
new trends in networking, its focus on making all aspects of networking easier
for network managers and users, and a strong yet flexible business
infrastructure. 3Com has strong brand recognition in modems and LAN workgroup
products, which it believes is transferable to other product and technology
areas and markets, such as core LAN switching, and remote office and personal
office internetworking platforms. Additionally, the Company believes its
low-cost manufacturing, worldwide presence, flexible distribution strategy, and
comprehensive service and support capabilities allow the Company to take
advantage of market trends that are extending the reach, scope and performance
of today's data networks.
INDUSTRY SEGMENT INFORMATION
3Com operates in one industry segment as described above.
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PRODUCTS
3Com Corporation is committed to making the complexities of networks
invisible to end users and to making networks easier to design, install,
maintain and evolve. As the cornerstone of this commitment, 3Com has developed
Transcend Networking, a unique framework that adds end-to-end intelligence to
networks, giving them the power to satisfy burgeoning performance and
connectivity demands while keeping complexity and costs in check. Transcend
Networking takes a "three-vectored" approach to evolving networks. Each vector
consists of a host of innovative architectures, networking technologies,
platforms and specific products. The three vectors include:
o Scaling the Performance of the Network: Switching and desktop
connectivity solutions which provide migration to increased LAN
bandwidth/capacity by meeting the distinct requirements of the core and
boundary of the LAN;
o Extending the Reach of the Network: Wide area network routing and
remote access solutions which provide remote workgroups and individual
users with connectivity to resources on corporate backbones by meeting
the specific requirements of central and remote sites and of mobile and
home users;
o Managing the Growth of the Network: Networking products with embedded,
scaleable management features and innovative distributed network
monitoring, analysis and management solutions.
3Com TranscendWare software is an integral part of the Transcend Networking
framework. TranscendWare software enables centralized global network policies
that support key business objectives and the various communities of interest
within the network. TranscendWare software modules are grouped into three
functional categories: pervasive management, network control, and global policy.
Enterprise Systems
LAN switching platforms: 3Com switches provide cost-effective, high-speed
links between multiple network segments, simplifying network design and reducing
network latency in client/server networks. Switches can also provide direct
links to either the desktop or server, providing dedicated capacity to
high-bandwidth users. The development of custom application specific integrated
circuits (ASICs) for switching is central to the Company's switching strategy.
Virtually all of 3Com's internally developed switches are based on
custom-designed ASICs, which the Company believes will dramatically improve
performance and reliability while reducing costs. 3Com switches are available in
either chassis or stackable formats and are optimized to meet the specific needs
of the network core and its boundaries.
High-Function Switches: High-Function Switches are designed to meet the
requirements of the network core (backbone) for high density connectivity,
scaleable capacity, reliability and network control, and to meet the migration
needs of the customer. In a collapsed backbone environment, High-Function
Switches might act as high-performance, high capacity switches connecting
multiple boundary switches or hubs, or both, depending on the network design and
bandwidth needs of the different network segments.
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o The CoreBuilder 5000 (formerly the ONcore Integrated System) switch is
an intelligent switching platform that delivers the reliability,
flexibility, and manageability required for enterprise networking now
and in the future. It supports Ethernet, Fast Ethernet, Fiber
Distributed Data Interface (FDDI), Token Ring, and ATM switching.
o The CoreBuilder 2500 and 6000 (formerly LANplex 2500 and 6000) provide
nonblocking performance while providing extensive software
functionality, including integrated routing and layer 3 switching. The
CoreBuilder 2500 offers high-speed links to FDDI, Fast Ethernet, or
ATM, and the CoreBuilder 6000 switch supports switched Ethernet, Token
Ring, FDDI, and Fast Ethernet technologies.
o The CoreBuilder 7000 and 7000HD (formerly CELLplex 7000 and 7000HD)
switch provides a switching fabric for ATM, Ethernet/ATM, and Fast
Ethernet interface cards.
Boundary switches: The Company's complete line of Boundary Switches
includes the award-winning SuperStack II switches and FastModules for the
CoreBuilder 5000 switch. Boundary switches are designed to meet the requirements
of the LAN boundary to reduce network latency at the desktop by providing
increased bandwidth, and to provide simple, plug-and-play connectivity. 3Com
boundary switches are available in either chassis or stackable format and
provide for Ethernet-to-Ethernet, Ethernet-to-Fast Ethernet, Ethernet-to-FDDI,
Ethernet-to-ATM, and Ethernet-to-Gigabit Ethernet connectivity.
Hubs: Hubs act as concentrators of network traffic generated from the
desktop and define specific network segments, relaying the traffic either within
the workgroup or onto the network backbone. Unlike switches, each desktop
connected through a hub shares the total available bandwidth of the hub with
other users. Their relatively low cost per port, manageability and ease-of-use,
make hubs a popular choice for workgroup connectivity. Multiple hubs are
frequently connected to a switch, which acts as a "hub of a hub," to segment the
network and improve overall performance.
The Company designs, manufactures and markets a full range of Ethernet,
Fast Ethernet, Token Ring and FDDI hubs in either stackable or chassis-based
configurations. The CoreBuilder 5000 system combines multitechnology
connectivity and workgroup and backbone switching in one manageable, reliable,
and secure package. SuperStack II Ethernet hubs offer superior flexibility with
security features, distributed RMON2 management, bridging, and resilient links
for LANs at a low cost of entry.
Small office systems: OfficeConnect products bring the enormous advantages
of networking to every office. The OfficeConnect system includes an
Ethernet/Fast Ethernet switch, Ethernet and Fast Ethernet hubs, print, fax and
CD-ROM servers, remote connectivity devices and branch office routers for the
small office. OfficeConnect systems combine simplicity of design and operation
with advanced functionality and outstanding speed.
Enterprise internetworking platforms: Internetworking devices link
multiprotocol LANs within the building/campus environment and provide WAN
connectivity to link multiple remote locations and provide access to the
Internet and other remote network resources. 3Com offers a variety of
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internetworking solutions that extend the reach of the network, each tailored to
the specific needs of the application.
Backbone and remote office routers: For central sites needing
high-performance bridge/routing and a choice of Ethernet, Fast Ethernet, Token
Ring, FDDI, ATM and WAN connectivity, 3Com offers the high-density,
multiprotocol NETBuilder II(R) bridge/router. Available in a range of compatible
chassis with the ability to add additional processing power over time, the
NETBuilder II offers a high degree of scaleability to handle evolving LAN and
WAN integration requirements. The NETBuilder II also provides the central site
connection for NETBuilder(R) remote office solutions running Boundary Routing(R)
software.
For remote offices, SuperStack II NETBuilder and OfficeConnect NETBuilder
routers provide scaleable, multiprotocol links to locations of any size. Easy to
set up and use, they simplify remote office connectivity and offer extensive
upgradability and flexibility as remote office routing needs evolve.
For network service providers with large dial-up networks and for
enterprises building large-scale corporate intranets, 3Com offers industry
leading network access concentrators. For large enterprises, the
AccessBuilder(R) 5000 LAN/WAN switch can support many hundreds of remote
employees using a mix of analog, Integrated Services Digital Network (ISDN), and
digital modem access.
ATM enterprise broadband access: The AccessBuilder 9000 ATM multiservices
access family makes it easy to access any carrier service or private WAN network
over a single network interface. Whether extending LANs, accessing Internet
Protocol (IP) or Frame Relay services, or transporting voice to private or
public voice networks, the AccessBuilder 9000 family of platforms affordably
supports all these services through its standards-based implementations and
interfaces.
Network management: Transcend network management software, an important
element of TranscendWare software, encompasses a full range of network
management applications and data collection methods and supports open platforms.
Its complementary hardware-based network monitoring products, software-based
applications, and network management agents deliver two great solutions: global,
networked application views to support customers' business goals; and detailed
information about device operations with port-level detail for precise technical
control of the network.
Carrier Systems
The Total Control(TM) Hub is a high-density remote access platform for
carrier and large enterprise markets. Total Control supports a wide variety of
dial-up applications at a low cost per port. Uses of the Total Control Hub range
from providing central site or Point of Presence (POP) access to networks for
Internet service providers, on-line information services, interexchange carriers
and corporations, to transaction processing applications such as credit card
verification. Total Control's flexible platform provides ISDN or analog dial
access. The communications modules can be configured and managed remotely
through the network management card, and the functionality and features of the
various communications modules can be upgraded through software downloads. For
example, ISPs and other businesses employing Total Control Hubs can easily add
the Company's new x2(TM) technology, developed by U.S. Robotics, through a
downloadable software upgrade.
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Client Access Products
Network interface cards (NICs), also known as adapters, are add-in printed
circuit boards that allow network servers, personal computers, laptop computers
and workstations to connect to the LAN. 3Com adapters provide complete solutions
for a full range of network applications and environments. 3Com offers Ethernet,
Fast Ethernet, Token Ring, FDDI and ATM adapters.
EtherLink(R) Family of Network Interface Cards: EtherLink NICs are designed
to optimize the performance of servers and desktop clients in 10 Mbps Ethernet
networks, they are ideal for small workgroup and large enterprise networks
alike.
Fast EtherLink Family of Network Interface Cards: Dual-speed Fast EtherLink
NICs bring the highest-performance 10 Mbps and 100 Mbps networking to PCI, EISA,
and ISA PCs and servers. Fast EtherLink NICs provide top performance at both 10
Mbps and 100 Mbps, guaranteed compatibility, easy installation, complete
Standard Network Management Protocol (SNMP) management and unsurpassed
reliability.
All 3Com EtherLink and Fast EtherLink adapters feature 3Com's patented
Parallel Tasking(R) architecture which improves network performance and
DynamicAccess(TM) software which optimizes network performance and control.
Mobile Communications Products: For mobile users linking to Ethernet, Fast
Ethernet or Token Ring networks, 3Com offers solutions that deliver the fastest
available performance. And for notebooks needing both fax/modem and Ethernet
access, 3Com LAN+Modem PC Cards combine the industry's fastest Ethernet PC Card
and fastest V.34 modem. The Company's PC Card modems feature the patented
XJACK(R) connector system. This convenient RJ11 connector is built into the PC
Card, eliminating the inconvenience of a proprietary external connector and
currently comply with the V.34 standard.
Direct-connect PC Card modems allow users to communicate from their mobile
computers through any of the largest selling cellular phones. The cellular
capable modems feature dual functionality, offering a choice of connecting
through a cellular phone or through a standard telephone line. Also, the
Company's wireless PC Card for notebook computers and connected organizers allow
users to access the Internet, corporate LANs, and other on-line services.
Desktop modems: Desktop modem products are designed based upon the
Company's proprietary data pump architecture and offer reliable connections in
compliance with virtually all official and most proprietary data communications
standards. In the third quarter of fiscal 1997, x2 (56 Kbps) technology became
available in desktop modems. Some of the Company's desktop modems sold prior to
the announcement of x2 technology are upgradeable via downloadable software
upgrades or through substitution of memory chips.
Telephony products: The Company's telephony products reflect the
application of its digital signal processing (DSP) expertise into
telephone-based information access products that provide integrated
communications solutions. The telephony products consist of full-duplex
conference speakerphones featuring automatic gain control and SimulCom(TM)
technology which allows users to speak and listen simultaneously for smooth,
natural two-way, conversation.
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Connected Organizers
The PalmPilot(TM) connected organizer is a hand-held computing device
designed to work as a companion product to desktop and laptop computers,
allowing personal information management both remotely and on the desktop. The
PalmPilot includes a docking cradle which is connected to the user's Windows PC
or Macintosh computer and allows for automatic back-up and seamless
synchronization of information between the PalmPilot device and the larger
computer, thus ensuring that both systems have the most current information. The
PalmPilot organizer, which is based upon the proprietary Palm operating system
(OS) software, also includes character recognition software which allows the
user to add and edit information with a stylus while away from the desktop. The
Palm OS has been made widely available to independent software developers who
are producing a variety of applications, utilities and games for the PalmPilot
platform.
PRODUCT DEVELOPMENT
The Company's product development efforts are focused exclusively on its
strategic products: enterprise systems, carrier systems, client access products
and connected organizers. The Company's ownership of core networking
technologies creates opportunities to leverage its engineering investments and
develop more integrated products for simpler, more innovative networking
solutions for customers. The Company plans to invest in emerging technologies
for use in existing and future products, as well as to improve and enhance
existing products to extend their lifecycles, reduce manufacturing costs and
increase functionality. In addition to the development of custom ASICs to
improve performance, increase reliability and reduce costs, the Company is
investing in the following areas: network management, Fast Ethernet (100 Mbps
Ethernet), Gigabit Ethernet (1000 Mbps Ethernet), ATM and other high speed
networking technologies, virtual local area network (VLAN) capabilities, ISDN
and other remote access technologies, enhanced connectivity in IBM environments,
and remote access for single and mobile users (including data-over-cable and
Asymmetric Digital Subscriber Line or ADSL technologies).
The Company's modem and remote access products are designed using
proprietary software programs that run on digital signal processors and
microprocessors. These designs allow for rapid modification or addition of
product features. As a result, the Company believes it is well-positioned to
exploit advances in semiconductor technology quickly, introducing new features
and improving performance faster and at a lower cost than many of its
competitors. Also, controlling the software content and architecture of its data
pumps enables the Company to offer upgrades to several of its products through
software downloads.
The industry in which 3Com competes is subject to rapid technological
developments, evolving industry standards, changes in customer requirements and
frequent new product introductions and enhancements. As a result, the Company's
success in part depends upon its ability, on a cost-effective and timely basis,
to continue to enhance its existing products and to develop and introduce new
products that take advantage of technological advances. The Company will
continue to make strategic acquisitions where appropriate. There can be no
assurance that 3Com will be able to successfully develop new products to address
new industry transmission standards and technological changes or to respond to
new product announcements by others or that such products will achieve market
acceptance.
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For a more complete discussion regarding the Company's risks, see "Business
Environment and Risk Factors" included in Part II of this Form 10-K.
MARKETS AND CUSTOMERS
3Com's customers range from individual home PC users, to corporate
enterprises, to telecommunications companies and are represented among the
world's leading industries, including finance, health care, manufacturing,
government, education, and service organizations. The acquisition of OnStream
enhanced the Company's presence within the network service provider market,
while the merger with U.S. Robotics gives 3Com a broader reach and more leverage
across the four strategic markets that comprise the networking industry:
enterprises, carriers, small businesses and consumers.
The Company's strong channel presence enables customers to gain access to
3Com solutions through their supplier of choice. The Company's unparalleled
retail and reseller distribution channels provide ready access to the wide array
of 3Com products and solutions on a worldwide basis. 3Com also partners directly
with end-users to establish long-term customer relationships.
Around the world, 3Com serves its customers through a variety of sales
channels including direct and indirect channels. Indirect channels include
systems integrators, VARs, distributors, national dealers and resellers, OEMs
and retail stores. 3Com nurtures these relationships with incentive and training
programs that have earned special recognition from the industry. The Company's
multi-channel sales strategy encourages broad market coverage by allowing 3Com
sales personnel to create demand for the Company's products while giving
customers the flexibility to choose the most appropriate delivery channels. In
fiscal 1995, the Company began building a global end-user sales force to target
large enterprise accounts, and established a separate sales force to market to
telephone carriers and network service providers. Over the last 18 months, 3Com
has strengthened its global end-user sales force and service and support
organization by doubling the number of dedicated professionals.
International Operations: 3Com distinguishes itself from many of its
competitors with its dedicated research and development, manufacturing, sales
and service organizations outside the United States. The Company maintains
approximately 160 sales offices in 45 countries, with new offices opened in
fiscal 1997 in Eastern Europe, Latin America and the Asia Pacific region. The
Company primarily markets its products internationally through subsidiaries,
sales offices and relationships with local distributors in Europe, Canada, Asia
Pacific and Latin America (see Note 15 of the Notes to Consolidated Financial
Statements relating to geographic area information).
Customer Service: Since global networking infrastructures are becoming
increasingly complex, customers require vendors to help them manage and support
their networks as well as design and build them. Additionally, as customers'
networking purchases transition from point-product to connectivity systems, a
more solutions-oriented approach to service and support is required. The Company
recognized these trends early and has invested in a comprehensive worldwide
service and support organization capable of providing virtually around-the-clock
customer support regardless of geographic location. 3Com customer services
provide design, installation, maintenance, and delivery assistance across the
network. The Company supports its offerings internationally with 135 logistics
centers and 8 escalation centers communicating with customers in at least 17
languages. In addition to on-site
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training, the Company also provides computer-based courses that allow customers
to learn networking technologies at their own pace in their own environments.
BACKLOG
3Com manufactures its products based upon its forecast of worldwide
customer demand and maintains inventories of finished products in advance of
receiving firm orders from its customers. Orders are generally placed by the
customer on an as-needed basis and products are usually shipped within one to
four weeks after receipt of an order. Such orders generally may be canceled or
rescheduled by the customer without significant penalty. Accordingly, the
Company does not maintain a substantial backlog, and backlog as of any
particular date is not indicative of 3Com's future sales.
MANUFACTURING AND SUPPLIERS
3Com has manufacturing facilities in Santa Clara, California, and
Blanchardstown, Ireland. Purchasing, mechanical assembly, burn-in, testing,
final assembly, and quality assurance functions are performed at both of these
facilities. The Company also procures certain products and subassemblies through
subcontractors. Over the past several years, the Company has been investing in
automating its manufacturing capabilities, decreasing the costs and increasing
the quality of both manufacturing design and production. In fiscal 1996,
construction was completed on a 225,000 square foot office and manufacturing
facility at its headquarters in Santa Clara, and the Ireland facility was
expanded to 120,000 square feet. In fiscal 1997, the Company commenced
construction on an additional 170,000 square feet of office, manufacturing, and
research and development space in Ireland, and commenced construction of the
first phase of development of a 325,000 square foot office and manufacturing
facility in Singapore. The new Singapore manufacturing operations center, due to
open in the third quarter of fiscal 1998, will be 3Com's first production site
in the fast growing Asia Pacific region. The plant will be the first in
Singapore to manufacture networking equipment and will produce 3Com's full range
of high-volume products from network adapter cards and modems through
sophisticated enterprise systems.
Through the merger with U.S. Robotics, the Company also has manufacturing
facilities in Mount Prospect and Morton Grove, Illinois, and Salt Lake City,
Utah.
The Company is committed to being an environmentally conscious
manufacturer, and pioneered implementation of a chlorofluorocarbon (CFC)-free
semi-aqueous cleaning process at its California plant with DuPont and Corpane
Corporations. The same process is used at the Ireland facility, and 3Com met its
goal of being CFC-free by the end of calendar year 1993.
Components purchased by the Company are generally available from multiple
suppliers. However, certain components may be available from sole sources. The
inability of 3Com to obtain certain components could require the Company to
redesign or delay shipments of several of its data networking products. The
Company has sought to establish close relationships with sole-source suppliers
and/or to build up inventory of such components; however, there can be no
assurance that production would not be interrupted due to the unavailability of
components. The Company believes that its inventory levels of these components,
combined with finished components held by 3Com's suppliers, are adequate for its
currently forecasted needs.
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COMPETITION
Networking is an expanding field within the information systems industry
encompassing both LAN and WAN technologies primarily for data networking, but
increasingly including voice and video traffic. The Company participates
primarily in designing, manufacturing and marketing both LAN/WAN products and
systems. The evolution of high speed network technologies including Fast
Ethernet, Gigabit Ethernet, and ATM has changed the competitive landscape and
resulted in shorter product life cycles, and the creation of new standards and
competitors. 3Com's competitors typically compete in one or more segments of the
LAN/WAN sector of the data networking market. These companies are using their
resources and technical expertise to improve and expand their product lines in
an effort to gain market share. Several competitors are extending their product
offerings beyond a single market segment and are pursuing strategies more
closely resembling 3Com's global networking strategy. The industry continues to
witness a wave of merger, acquisition and strategic partnering activity as many
of these companies seek to provide broader networking solutions.
Enterprise Systems: Competition in the network systems business, formerly
characterized by niche-based competitors focused on a single industry segment,
is shifting toward more broad-based suppliers offering multiple product lines.
This has been achieved through mergers and acquisitions, through joint marketing
agreements, and through internally developed products. This industry
consolidation, and the convergence of hub, switching and routing technologies on
single platforms, will likely continue, thus intensifying competition among a
small group of companies with broad product offerings. Principal competitors in
the network systems products market include Bay Networks, Cabletron and Cisco
Systems.
The market for high-speed, broadband networking products has grown rapidly,
driven by companies' implementation of bandwidth-intensive applications. As the
need for high-speed wide-area communications continues to grow, many carriers
and enterprises are looking to vendors to provide a new generation of equipment
which permits increases in performance both in terms of speed and number of
connections supported by the network. Other companies including Ascend
Communications and Cisco Systems, have introduced, or have announced their
intention to develop, network access switching products that are or will be
competitive with 3Com.
Carrier Systems: The market for remote access concentrators, primarily POP
connectivity equipment, has been characterized by a few networking vendors with
many complementary hardware products. Integrated remote access concentrators
like AccessBuilder and Total Control replace these multiple, single function
hardware products with a single software-defined platform capable of handling
both digital and analog signals. 3Com competes against various manufacturers of
the products mentioned above, including Ascend Communications, Bay Networks, and
Cisco Systems who manufacture integrated remote access concentrators.
Client Access Products: The market for network adapters is highly
competitive, with companies offering products that support a range of Ethernet,
Fast Ethernet, Token Ring and FDDI media. Traditional competitors in the adapter
market include Intel, IBM, Madge N.V., Olicom A/S, Standard Microsystems and
Xircom. However, as the trend from Ethernet to Fast Ethernet 10/100 Mbps
10
technology accelerates, the competitive landscape is changing to reflect
companies that have a strong position in Fast Ethernet, namely 3Com and Intel.
3Com and U.S. Robotics' primary competitors with respect to desktop and
mobile communications products include Best Data, Boca Research, Cardinal,
Diamond Multimedia, Hayes, Microcomputer Products, Motorola, Rockwell, TDK,
Xircom and Zoom Telephonies. The Company's near term success will depend
significantly on the market acceptance of its recently introduced x2 technology
developed by U.S. Robotics (pulse code modulation technology permitting
downloading of data over regular analog telephone lines at speeds up to 56
kilobits per second (Kbps)). The Company was the first to begin commercial
volume shipments of 56 Kbps technology products, named x2, in March 1997. 3Com
anticipates vigorous competition from many of the significant modem and remote
access equipment manufacturers, most of which have begun shipment of or
announced their intentions to bring products featuring the same basic 56 Kbps
technology and capabilities to market in the coming weeks and months. The
majority of these manufacturers have indicated their intention to implement this
high-speed technology with chipsets provided by Rockwell International
Corporation or Lucent Technologies, Inc. Industry standards will most likely be
determined in the first half of fiscal 1998. 3Com is committed to
standards-based networking and will migrate to the industry standard technology
via electronically downloadable upgrades.
Connected Organizers: The Company's primary competitors with respect to
connected organizers are Apple, Casio, Hewlett Packard, Psion and Sharp.
PATENTS, LICENSES AND RELATED MATTERS
The Company relies on U.S. and foreign patents, copyrights, trademarks and
trade secrets to establish and maintain proprietary rights in its technology and
products. 3Com has an active program to file applications for and obtain patents
in the United States and in selected foreign countries where a potential market
for the Company's products exists. The Company's general policy has been to seek
patent protection for those inventions and improvements likely to be
incorporated in its products or otherwise expected to be of value. 3Com has been
issued 77 utility patents and six design patents in the U.S., and has been
issued 14 foreign patents. After the merger with U.S. Robotics, the Company has
been issued a total of 114 utility patents and six design patents in the U.S.
and has been issued 24 foreign patents. Numerous other patent applications are
currently pending which relate to the Company's research and development.
There can be no assurance that any of these patents would be upheld as
valid if litigated. While the Company believes that its patents and patent
applications have value, it also believes that its competitive position depends
primarily on the innovative skills, technological expertise and management
abilities of its employees.
The Company has been granted licenses by others, including a fully paid,
perpetual, non-exclusive license to a patent held by Xerox covering a portion of
the Ethernet technology.
3Com has registered 72 trademarks in the United States and has registered
25 trademarks in one or more of 43 foreign countries. After the merger with U.S.
Robotics, the Company has registered 93
11
trademarks in the U. S. and 77 trademarks in one or more of 43 countries.
Numerous applications for registration of domestic and foreign trademarks are
currently pending.
Many of 3Com's products are designed to include software or other
intellectual property licensed from third parties. The Company actively seeks to
license software that promotes the compatibility of its products with industry
standards, including standard protocols and architectures. The loss of rights to
software or other intellectual property licensed from a third party and designed
into a particular product might disrupt or delay 3Com's distribution of that
product. While it may be necessary in the future to seek or renew licenses
relating to various aspects of its products, the Company believes that, based
upon past experience and standard industry practice, such licenses generally
could be obtained on commercially reasonable terms.
EMPLOYEES
As of May 31, 1997, 3Com had 7,109 full-time employees, of whom 1,584 were
employed in engineering, 2,853 in sales, marketing and customer service, 1,731
in manufacturing, and 941 in finance and administration. None of 3Com's
employees is represented by a labor organization and the Company considers its
employee relations to be excellent.
After the merger with U.S. Robotics, the Company had 13,639 full-time
employees, of whom 2,917 were employed in engineering, 4,353 in sales, marketing
and customer service, 4,426 in manufacturing, and 1,943 in finance and
administration.
ITEM 2. Properties
During the third quarter of fiscal 1997, the Company signed an operating
lease which combines and replaces three prior operating lease agreements on the
Company's existing headquarters site and on land adjacent to its existing
headquarters site. The combined lease includes approximately 870,000 square feet
of office and manufacturing space and two parking garages, and expires in
November 2001 with an option to extend the lease term for two successive periods
of five years each. The Company has an option to purchase the combined property
for $152.6 million, or at the end of the lease arrange for the sale of the
property to a third party with the Company retaining an obligation to the owner
for the difference between the sale price and $152.6 million, subject to certain
provisions of the lease.
During the second quarter of fiscal 1997, the Company purchased a 14 acre
parcel of land and signed a two-year lease for an adjacent 58 acre parcel of
land, both of which are near its existing headquarters in Santa Clara. The lease
expires in November 1998 with an option to extend the lease term for two
successive periods of five years each. The Company has an option to purchase the
property for $49.5 million, or at the end of the lease arrange for the sale of
the property to a third party with the Company retaining an obligation to the
owner for the difference between the sale price and $49.5 million, subject to
certain provisions of the lease.
The Company owns a facility comprised of three buildings near its Santa
Clara headquarters site. The 120,000 square foot facility, which was purchased
and occupied in the fourth quarter of fiscal 1996, is used primarily for its
Customer Services Operations.
12
The Company's primary distribution facility consists of 113,000 square feet
of warehouse and distribution space in Santa Clara. The space was occupied in
November 1995. The lease expires in December 2000, and has an option to renew
for an additional three year period.
3Com leases 163,000 square feet of office, manufacturing and distribution
space in Southborough, Massachusetts. The lease covers two locations, and
expires in July 1998 and January 1999, respectively.
3Com also leases a facility consisting of 100,000 square feet of office
space in Marlborough, Massachusetts. The lease expires in December 1999. During
the third quarter of fiscal 1997, 3Com signed a ground lease on an additional
128 acres in Marlborough for the consolidation and expansion of existing
operations.
In November 1996, 3Com exercised its option to purchase 72 acres, including
a 150,000 square foot office and manufacturing facility in Boxborough,
Massachusetts, which it had previously leased.
In May 1996, 3Com purchased a 10.5 acre site in Hemel-Hempstead,
Hertfordshire, including a 100,000 square foot facility for the consolidation
and expansion of the existing operations in Hemel-Hempstead. During the second
quarter of fiscal 1997, 3Com commenced construction of a second 100,000 square
foot research and development and customer service facility at the
Hemel-Hempstead campus, which is expected to be completed in the fourth quarter
of fiscal 1998.
In July 1992, 3Com Ireland, a wholly-owned subsidiary of 3Com, completed,
occupied and began operations in its Blanchardstown, Ireland manufacturing
facility. In January 1996 the facility was expanded to 120,000 square feet.
During the third quarter of fiscal 1997, 3Com Ireland purchased approximately 32
acres of land adjacent to this facility, and secured an option on an additional
9 acres. 3Com Ireland commenced construction of an additional 170,000 square
feet of manufacturing, research and development and office space, and expects to
commence occupancy in the second quarter of fiscal 1998.
During the second quarter of fiscal 1997, 3Com Technologies, a wholly-owned
subsidiary of the Company, signed a lease for seven acres of land in Changi,
Republic of Singapore. The Company began construction of 325,000 square feet of
office and manufacturing space in December 1996, and plans to occupy the
manufacturing facility in the third quarter of fiscal 1998.
3Com also leases various sales and service offices throughout the United
States, Canada, Europe, Australia, Latin America, and Asia. All of 3Com's
facilities are well maintained and are adequate to conduct 3Com's current
business.
The following is additional information regarding the properties acquired in the
merger with U.S. Robotics:
The Company owns two office facilities totaling 230,000 square feet and an
85,000 square foot manufacturing facility in Skokie, Illinois. The Company also
owns a 300,000 square foot manufacturing facility in Morton Grove, Illinois. The
Company purchased a 675,000 square foot facility for manufacturing, research and
development and customer services operations in Mount Prospect, Illinois,
13
which was previously leased. The Company also leases a 400,000 square foot
facility in Rolling Meadows, Illinois that it intends to use to accommodate
future growth in its business operations.
The Company owns a 185,000 square foot office facility and an adjacent
154,000 square foot manufacturing facility in Salt Lake City, Utah.
ITEM 3. Legal Proceedings
The Company is a party to lawsuits in the normal course of its business.
The Company and its counsel believe that it has meritorious defenses in all
lawsuits in which the Company or its subsidiaries is a defendant. The Company
notes that (i) litigation in general and patent litigation in particular can be
expensive and disruptive to normal business operations and (ii) the results of
complex legal proceedings can be very difficult to predict with any certainty.
On October 13, 1995, the Company acquired Chipcom, which had already been
named as a defendant in the litigation described below. Five complaints were
filed between May 30, 1995 and June 16, 1995 that alleged violations by the
defendants of Sections 10(b) and 20(a) of the Securities and Exchange Act of
1934, and sought unspecified damages. The cases were consolidated for pretrial
purposes pursuant to an order entered by the Court on June 15, 1995. The
consolidated action is entitled In re: Chipcom Securities Litigation, Civil
Action No. 95-111114-DPW. A Consolidated Complaint was filed on September 13,
1995, and an Amended Consolidated Complaint was filed on November 30, 1995.
The defendants' motion to dismiss the Amended Consolidated Complaint was
granted without leave to amend on May 1, 1996. The dismissal covers all five
cases. The plaintiffs appealed the order granting the dismissal. On October 1,
1996, the parties to these cases agreed upon what the Company considers to be
favorable financial terms for settlement of all five cases, which amount the
Company does not consider material to its operations, financial position, or
liquidity. Pursuant to the settlement which was approved by the District Court
on June 26, 1997, all claims of all persons which are related to the subject
matter of the Consolidated Complaint were settled and released.
On March 24, 1997, a putative shareholder class action lawsuit, entitled
Hirsch v. 3Com Corporation, et al., Civil Action No. CV764977, was filed against
the Company and certain of its officers and directors in the California Superior
Court, Santa Clara County. The complaint alleges, among other things, fraud,
negligent misrepresentation and violations of the California securities laws,
including that during the putative class period, sales of the Company's stock by
officers and directors of 3Com and acquisitions made with the Company's stock
occurred at inflated prices in light of undisclosed information. Specifically,
the complaint alleges violations of Sections 25400 and 25500 of the California
Corporations Code, Sections 1709 and 1710 of the California Civil Code, and
Sections 17200 et seq. and 17500 et seq. of the California Business and
Professions Code. The complaint, which covers a putative period of September 24,
1996 through February 10, 1997, does not specify the damages sought. Management
believes that the action is not meritorious and intends to vigorously contest
it. An adverse resolution of the action could have a material adverse effect on
the Company's results of operations and financial condition in the quarter in
which such adverse resolution occurs.
14
U.S. Robotics and certain of its directors were named as defendants in
eleven lawsuits relating to the merger between the Company and U.S. Robotics
brought in the Delaware Chancery Court (In re: U.S. Robotics Corporation
Shareholder's Litigation, Delaware Chancery Court Consolidated Civil Action No.
15580). See Note 17 of Notes to the Consolidated Financial Statements. The
Company has been named as a defendant in nine of these actions. The lawsuits,
which purport to be stockholder class actions brought on behalf of all U.S.
Robotics stockholders, allege, inter alia, that the directors of U.S. Robotics
have breached their fiduciary duties by approving the Merger Agreement, and that
the Company aided and abetted this alleged breach of duty. An agreement in
principle to settle this litigation has been reached with plaintiffs' counsel on
what the Company considers to be favorable financial terms, which amount the
Company does not consider to be material to its operations, financial position,
or liquidity. This settlement is not yet final and will not be final until
approved by the Court after a hearing.
On February 13, 1997, Motorola, Inc. filed suit against U.S. Robotics in
the United States District Court for the District of Massachusetts (Motorola,
Inc. v. U.S. Robotics Corporation, et al., Civil Action No. 97-10339RCL),
claiming infringement of eight United States patents. The complaint alleges
willful infringement and prays for unspecified damages and injunctive relief. In
a separate statement announcing the filing of the lawsuit published on
PRNewswire on the same date, Motorola alleged that the patents at issue cover
"technologies essential to the International Telecommunications Union (ITU) V.34
modem standard." In the same statement, a Motorola officer is quoted as saying
that Motorola is "committed" to making its technology incorporated in standards
available on a "fair, reasonable and non-discriminatory basis." U.S. Robotics
has filed an answer to Motorola's claims setting forth its defenses and
asserting counterclaims which allege infringement of a U.S. Robotics patent,
violation of antitrust laws, promissory estoppel and unfair competition.
Although the Company believes it has meritorious defenses to Motorola's claims
and intends to contest this lawsuit vigorously, an adverse outcome of such
litigation could have a material adverse effect on the business, results of
operations or financial condition of the Company.
On April 26, 1997, Xerox Corporation filed suit against U.S. Robotics in
the United States District Court for the Western District of New York (Xerox
Corporation v. U.S. Robotics Corporation and U.S. Robotics Access Corp., No.
97-CV-6182T), claiming infringement of one United States Patent. The complaint
alleges willful infringement and prays for unspecified damages and injunctive
relief. In a press release dated April 30, 1997, Xerox alleged that its patent,
issued January 21, 1997, "covers the use and recognition of handwritten text
using an alphabet system designed especially for reliable recognition in pen
computers," and that U.S. Robotics' PalmPilot hand-held computer and "Graffiti"
software infringe the Xerox patent. The Company believes it has meritorious
defenses to Xerox's claims and intends to contest the lawsuit vigorously. An
adverse resolution of the action could have a material adverse effect on the
Company's results of operations and financial condition in the quarter in which
such adverse resolution occurs.
On April 21, 1997, U.S. Robotics and three of its customers, Best Buy Co.,
Inc., Egghead, Inc. and Fry's Electronics, Inc., were sued in a purported
consumer class action filed in Superior Court in Marin County, California
(Bendall et al v. U.S. Robotics Corporation et al, No. 170441). The named
plaintiffs are residents of the states of Alabama, California, Tennessee and
Washington and they purport to represent various classes of persons who have
purchased or otherwise acquired U.S. Robotics' new x2 products and products
upgradeable to x2. Damages, including punitive damages, and other relief are
sought under the California Consumer Legal Remedies Act and the California
Song-Beverly Consumer Warranty Act, and under various common law theories,
including breach of contract, fraud and deceit,
15
negligent misrepresentation, breach of implied warranty and unjust enrichment.
The Company believes it has meritorious defenses to this lawsuit and intends to
contest the lawsuit vigorously. An adverse resolution of the action could have a
material adverse effect on the Company's results of operations and financial
condition in the quarter in which such adverse resolution occurs.
Another lawsuit, purporting to be "For the interests of the General Public"
was filed against U.S. Robotics in the same court on March 13, 1997 (Levy v.
U.S. Robotics Corporation, No. 170968). This action alleges that U.S. Robotics'
promotion and advertising of x2 products constituted unfair competition and
deceptive, untrue and misleading advertising in violation of the California
Business and Professional Code, and seeks injunctive relief, including
"restitution of all revenues" and an award of attorney fees. Additionally, a
purported public interest plaintiff sued U.S. Robotics on January 29, 1997 in
California Superior Court in San Francisco (Intervention Inc. v. U.S. Robotics
Corporation, Case No. 984352) under the same statute, alleging various
misrepresentations in connection with the promotion and advertising of U.S.
Robotics' x2 products, and seeking injunctive and other relief, including
attorney's fees. The Company believes it has meritorious defenses to this
lawsuit and intends to contest the lawsuit vigorously. An adverse resolution of
the action could have a material adverse effect on the Company's results of
operations and financial condition in the quarter in which such adverse
resolution occurs.
ITEM 4. Submission of Matters to a Vote of Security Holders
None.
Executive Officers of the Registrant
The following table lists the names, ages and positions held with the
Registrant of all executive officers of the Registrant. There are no family
relationships between any director or executive officer and any other director
or executive officer of the Registrant. Executive officers serve at the
discretion of the Board of Directors.
Name Age Position (1)
---- --- ------------
Eric A. Benhamou...............41 Chairman, President and Chief Executive
Officer
Casey Cowell...................44 Vice Chairman
Richard L. Edson...............43 Senior Vice President, Client Access
Products, New Business Initiatives
Debra J. Engel.................45 Senior Vice President, Corporate
Services
Ralph B. Godfrey...............57 Senior Vice President, Client Access
Products, Americas Sales
16
Name Age Position (1)
John H. Hart...................51 Senior Vice President and
Chief Technical Officer
Randy R. Heffner...............47 Senior Vice President, Client Access
Products, Operations
Richard W. Joyce...............41 Senior Vice President, Remote Access
Products Division
Alan J. Kessler................40 Senior Vice President, Enterprise
Systems Business Unit, Global Sales
Ross W. Manire.................45 Senior Vice President, Carrier Systems
Business Unit
John McCartney.................44 President, Client Access Business Unit
Mark D. Michael................46 Senior Vice President, General Counsel
and Secretary
Christopher B. Paisley.........45 Senior Vice President, Finance and
Chief Financial Officer
Janice M. Roberts..............41 Senior Vice President, Marketing and
Business Development
Michael S. Seedman.............40 Senior Vice President, Personal
Communications Division
Ronald A. Sege.................40 Senior Vice President, Enterprise
Systems Business Unit, Global Products
Douglas C. Spreng..............53 Executive Vice President, Interface
Products Group
Thomas L. Thomas...............48 Senior Vice President, Global
Information Systems and Chief
Information Officer
(1) Robert J. Finocchio was President, 3Com Systems until he resigned as an
officer of the Company in May 1997.
17
Eric A. Benhamou has been the Company's President and Chief Executive
Officer since April 1990 and September 1990, respectively. Mr. Benhamou became
Chairman of the Board of Directors of the Company in July 1994. Mr. Benhamou
served as the Company's Chief Operating Officer from April 1990 through
September 1990. From October 1987 through April 1990, Mr. Benhamou held various
general management positions within the Company. Prior to that, Mr. Benhamou was
one of the founders of Bridge Communications, Inc., in September 1981, and held
various executive positions in that company in the fields of engineering and
product development, most recently as Vice President of Engineering, until that
company combined with 3Com in September 1987. Mr. Benhamou serves as a director
of Cypress Semiconductor, Inc., Legato Systems, Inc. and Netscape Communications
Corporation. Mr. Benhamou also serves on President Clinton's I.T. Advisory
Council (PITAC).
Casey Cowell has been Vice Chairman of the Company since June 1997. Prior
to joining the Company, Mr. Cowell served as President of U.S. Robotics from
1978 until January 1997. Mr. Cowell was also Chairman of the Board, Chief
Executive Officer, and Director of U.S. Robotics since 1978. Mr. Cowell founded
U.S. Robotics in 1976. Mr. Cowell also serves as a Director of Eagle River
Interactive, Inc., May & Speh, Northwestern Memorial Corporation, a parent
company of Northwestern Memorial Hospital, and a trustee of the Illinois
Institute of Technology.
Richard L. Edson has been Senior Vice President, Client Access Products,
New Business Initiatives since June 1997. Prior to joining the Company, Mr.
Edson was with U.S. Robotics as Vice President and General Manager,
Manufacturing, since July 1995. From 1987 to 1995, Mr. Edson was with Thinking
Machines Corporation, where he held the position of Chief Operating Officer from
1994 to 1995, and held other management positions, including Vice President of
Core Products, Vice President of Manufacturing and Director of Manufacturing
from 1987 to 1993. Prior to 1987, Mr. Edson held management positions at Data
General Corporation and Digital Equipment Corporation.
Debra J. Engel has been Senior Vice President, Corporate Services since
August 1996. From March 1990 through July 1996, Ms. Engel was Vice President,
Corporate Services. From the time Ms. Engel joined the Company in November 1983
until March 1990, she was Vice President, Human Resources. Prior to that, Ms.
Engel was with Hewlett-Packard Company for seven years, most recently as
Corporate Staffing Manager at Hewlett-Packard's Corporate Headquarters. Ms.
Engel also serves as a director of Aspect Telecommunications, the American
Leadership Forum and is Chairman of the Board of Directors of the Career Action
Center.
Ralph B. Godfrey has been Senior Vice President, Client Access Products,
Americas Sales since June 1997. Mr. Godfrey was Senior Vice President, Global
Channel sales from August 1996 to May 1997. Prior to that, Mr. Godfrey was Vice
President, Channel Sales - North America, from June 1993 to July 1996. Mr.
Godfrey joined 3Com in June 1990 as Vice President of 3Com USA, a position he
held through May 1993. Prior to joining 3Com, Mr. Godfrey was with Unisys, Inc.
for two years, where he held several executive positions in sales, most recently
as President of the Value-Added Marketing Division. Prior to Unisys, Mr. Godfrey
was with Hewlett-Packard Company for 20 years where he held several field sales
management positions, the most recent as National Sales Manager for Business
Systems.
18
John H. Hart has been Senior Vice President and Chief Technical Officer
since August 1996. From the time Mr. Hart joined the Company in September 1990
until July 1996, he was Vice President and Chief Technical Officer. Prior to
joining the Company, Mr. Hart worked for Vitalink Communications Corporation for
seven years, where he held various executive positions in product engineering
and development. Mr. Hart's final position with Vitalink was Vice President of
Network Products.
Randy R. Heffner has been Senior Vice President, Client Access Products,
Operations since June 1997. Previously, Mr. Heffner was the Vice President of
Manufacturing for 3Com's Personal Connectivy Operations from July 1992 through
June 1997. Prior to joining the Company, Mr. Heffner worked for NeXT Computer
Inc. as Vice President of Manufacturing for five years. Mr. Heffner also worked
for Hewlett Packard Company for thirteen years in a variety of Materials
Management and Production Control positions.
Richard W. Joyce has been Senior Vice President, Remote Access Products
Division since June 1997. Mr. Joyce was Senior Vice President, New Business
Operations from August 1996 to June 1997. From June 1995 through July 1996, Mr.
Joyce was Vice President, New Business Operations. From June 1993 to June 1995,
Mr. Joyce served as Vice President, Sales Europe and Asia Pacific Rim (APR).
From January 1990 to June 1995, Mr. Joyce served as President, 3Com Europe
Limited. From September 1988 until January 1990, Mr. Joyce served as Managing
Director of 3Com (UK) Limited. Mr. Joyce joined the Company in November 1987 as
Sales Manager of 3Com (UK) Limited, a position he held until September 1988.
Most recently prior to joining the Company, Mr. Joyce held the position of
Managing Director Europe for State Street Trade Development Corporation from
1985 to 1987.
Alan J. Kessler became Senior Vice President, Enterprise Systems Business
Unit, Global Sales in June 1997. From August 1996 to May 1997, Mr. Kessler was
Senior Vice President of the Company's Global Systems Sales and Services. From
June 1995 to July 1996, Mr. Kessler served as Vice President, Customer Service
Operations. From June 1993 through June 1995, Mr. Kessler served as Vice
President, Systems Sales-North America. From May 1991 through May 1993, Mr.
Kessler served as Vice President and General Manager, Network Systems Division.
From April 1990 until May 1991, Mr. Kessler served as Vice President and General
Manager, Distributed Systems Division. Previously, Mr. Kessler served as Product
Marketing Manager of the Distributed Systems Division from November 1988 through
April 1990 and as Product Line Manager from October 1985 through November 1988.
Ross W. Manire become Senior Vice President, Carrier Systems Business Unit
in June 1997. Prior to joining the Company, Mr. Manire worked for U.S. Robotics
as Vice President, Finance, since August 1991 and was named Chief Financial
Officer in March 1992, holding that position until March 1995. Mr. Manire served
as Secretary from March 1993 to February 1994. Mr. Manire served as Senior Vice
President, Operations from August 1992 through March 1995. In April 1995 Mr.
Manire was named General Manager, Network Systems. From 1989 to 1991, Mr. Manire
was Vice President of Ridge Capital Corporation, a private equity investment
firm. Prior to that Mr. Manire was a partner at Ernst & Young, a public
accounting firm. Mr. Manire serves as a Director for several privately and
publicly held companies.
19
John McCartney has been President, Client Access Business Unit since June
1997. Prior to joining the Company, Mr. McCartney served as President of U.S.
Robotics since January 1997 and as Chief Operating Officer since January 1996.
Mr. McCartney was Executive Vice President from 1988 until January 1997. Mr.
McCartney held the position of Secretary from 1989 to 1993, Chief Financial
Officer from 1984 to 1992, Vice President from 1984 to 1988 and was a Director
since 1985.
Mark D. Michael has been the Company's Senior Vice President, General
Counsel and Secretary since June 1997. Mr. Michael joined the Company in 1984 as
Counsel, and was named Assistant Secretary in 1985 and General Counsel in 1986.
In 1989, Mr. Michael was named Secretary, and became a Vice President in 1991.
Prior to joining the Company, Mr. Michael was engaged in the private practice of
law with law firms in Honolulu, Hawaii from 1977 to 1981 and San Francisco,
California from 1981 to 1984.
Christopher B. Paisley has served as the Company's Senior Vice President,
Finance and Chief Financial Officer since August 1996. From the time Mr. Paisley
joined the Company in September 1985 until July 1996, he was Vice President,
Finance and Chief Financial Officer. Prior to joining the Company, Mr. Paisley
was Vice President, Finance of Ridge Computers from May 1982 to September 1985.
Previously, Mr. Paisley was employed by Hewlett-Packard Company for five years
in a variety of accounting and finance positions. Mr. Paisley also serves as a
Director of Applied Digital Access, Inc. and ShareData, Inc.
Janice M. Roberts has been Senior Vice President, Marketing and Business
Development since August 1996. From June 1992 through July 1996, Ms. Roberts was
Vice President, Marketing. From February 1994 to June 1995, Ms. Roberts also
served as General Manager, Personal Office Division. From February 1992 until
June 1992, Ms. Roberts was Vice President and General Manager of the Premises
Distribution Division. During the period January 1989 to February 1992, Ms.
Roberts served as Director of BICC Technologies Limited and President of BICC
Technologies, Inc. and BICC Communications, Inc. She was also Chairman and
Managing Director of BICC Data Networks Limited. From December 1986 through
January 1989, Ms. Roberts was Manager of Sales and Marketing of STC Components
Ltd. located in Harlowe, United Kingdom.
Michael S. Seedman has been Senior Vice President, Personal Communications
Division since June 1997. Prior to joining the Company Mr. Seedman served as
Senior Vice President of U.S. Robotics from March 1997 to June 1997. Mr. Seedman
served as Vice President and General Manager, Personal Communications, from June
1993 to March 1997. Mr. Seedman previously served as President and Chief
Executive Officer of Practical Peripherals, Inc., a data communications company
which he founded, from 1981 to 1993.
Ronald A. Sege has been 3Com's Senior Vice President, Enterprise Systems
Business Unit, Global Products since June 1997. From October 1996 to June 1997,
Mr. Sege served as Senior Vice President, LAN Operations. Mr. Sege served as
Vice President and General Manager, Integrated Systems Division from October
1995 to October 1996. From July 1993 to October 1995, Mr. Sege served as Vice
President and General Manager, Premises Distribution Division. In June 1991, Mr.
Sege became 3Com's Vice President and General Manager, Customer Services
Operation and held this position until July 1993. Prior to joining 3Com, Mr.
Sege held a variety of service and sales positions at ROLM Corporation. Mr. Sege
serves as a Director of Artel Video Systems, Massachusetts Telecommunications
Council and Junior Achievement of Boston.
20
Douglas C. Spreng was promoted to Executive Vice President, 3Com Interface
Products in August 1996. From July 1995 to July 1996, Mr. Spreng served as
Executive Vice President, Personal Connectivity Operations. Mr. Spreng joined
the Company as Vice President and General Manager of the Network Adapter
Division in March 1992. Prior to joining the Company, Mr. Spreng was President
and Chief Operations Officer of Domestic Automation Company, a private
communications system start-up company based in San Carlos, California.
Previously, Mr. Spreng spent 23 years with Hewlett-Packard Company (HP) in a
variety of key marketing, manufacturing and general management positions,
including General Manager of HP's Commercial Systems Group. Most recently Mr.
Spreng served as General Manager of HP's Manufacturing Applications Group. Mr.
Spreng also serves as a Director of Com21, Inc. and Junior Achievement of Santa
Clara Valley.
Thomas L. Thomas has been Senior Vice President and Chief Information
Officer, Global Information Systems since August 1996. From September 1995
through July 1996, Mr. Thomas was Vice President and Chief Information Officer,
Global Information Systems. Prior to joining the Company, Mr. Thomas had been
Vice President and Chief Information Officer of Dell Computer Corporation from
1993 to 1995. Prior to that, Mr. Thomas served as Vice President of Management
Information Systems at Kraft General Foods from 1987 to 1993, and at Sara Lee
Corporation from 1981 to 1987.
21
PART II
Subsequent to the end of the fiscal year, 3Com Corporation consummated a
merger with U.S. Robotics Corporation (U.S. Robotics) on June 12, 1997. The
following information included in Parts II, III and IV of this Form 10-K has not
been restated to include the operating results of U.S. Robotics, and does not
represent results of the combined company.
ITEM 5. Market for Registrant's Common Stock and Related Stockholder
Matters
Fiscal 1997 High Low Fiscal 1996 High Low
----------- ---- --- ----------- ---- ---
First Quarter $50 7/8 $33 1/2 First Quarter $40 7/8 $30 7/16
Second Quarter 76 1/2 45 Second Quarter 53 5/8 38 3/8
Third Quarter 81 3/8 33 Third Quarter 51 7/8 35 1/2
Fourth Quarter 51 1/8 24 Fourth Quarter 52 36 1/8
3Com Corporation common stock has been traded in the over-the-counter
market under the symbol COMS since the Company's initial public offering on
March 21, 1984. The preceding table sets forth the high and low sales prices as
reported on the Nasdaq National Market during the last two years (adjusted to
reflect a two-for-one stock split on August 25, 1995). As of May 31, 1997, the
Company had approximately 4,900 shareholders of record. 3Com has not paid and
does not anticipate it will pay cash dividends on its common stock.
22
ITEM 6. Selected Financial Data
The following selected financial information has been derived from the
audited Consolidated Financial Statements. The information set forth below is
not necessarily indicative of results of future operations, and should be read
in conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the Consolidated Financial Statements and related
Notes thereto included elsewhere in this Form 10-K.
Years ended May 31,
(Dollars in thousands, except
per share and employee data) 1997 1996 1995 1994 1993
- ------------------------------------------------------------------------------------------------------------------------
Sales $3,147,106 $2,327,101 $1,593,469 $1,011,533 $723,231
Net income (loss) 373,950 177,854 144,559 (11,870) 45,047
Net income (loss) per share:
Primary 2.02 1.01 0.85 (0.08) 0.31
Fully diluted 2.01 1.00 0.84 (0.08) 0.30
- ------------------------------------------------------------------------------------------------------------------------
Total assets $2,266,275 $1,525,117 $1,074,810 $ 614,688 $458,869
Working capital 1,234,232 825,190 570,691 307,017 244,767
Long-term obligations 115,391 115,492 116,221 4,642 4,833
Retained earnings 736,881 379,358 200,030 73,686 98,699
Shareholders' equity 1,517,510 978,805 633,724 414,122 323,307
Number of employees 7,109 5,190 4,048 3,019 2,514
- ------------------------------------------------------------------------------------------------------------------------
Net income for fiscal 1997 included a charge of approximately $6.6 million ($.04
per share) for merger-related costs. Net income for fiscal 1996 included a
charge of approximately $69.0 million ($.28 per share) for merger-related costs,
a charge of approximately $52.4 million ($.29 per share) for purchased
in-process technology, and a charge of approximately $1.0 million (approximately
$.01 per share) for a litigation settlement. Net income for fiscal 1995 included
a charge of approximately $68.7 million ($.25 per share) for purchased
in-process technology, a charge of approximately $11.2 million ($.06 per share)
for merger-related costs and a credit of $1.1 million ($.01 per share) for a
reduction in accrued restructuring costs. Net loss for fiscal 1994 included a
charge of approximately $134.5 million ($.82 per share) for purchased in-process
technology, a gain of $17.7 million ($.07 per share) on the sale of an
investment and a tax benefit of $1.2 million ($.01 per share) resulting from tax
law changes. Net income for fiscal 1993 included a charge of approximately $1.3
million ($.01 per share) for non-recurring items. See Notes 3 and 12 to the
Consolidated Financial Statements for additional information on the above
transactions for fiscal years 1997, 1996 and 1995. Excluding the non-recurring
items noted above, net income and net income per share on a fully diluted basis
would have been as follows:
Years ended May 31,
(Dollars in thousands,
except per share data) 1997 1996 1995 1994 1993
- ------------------------------------------------------------------------------------------------------------------------
Net income excluding
non-recurring items $380,550 $280,033 $195,545 $103,713 $46,255
Net income per share excluding
non-recurring items $ 2.05 $ 1.58 $ 1.14 $ 0.66 $ 0.31
23
ITEM 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following discussion should be read in conjunction with the
Consolidated Financial Statements and Notes thereto.
SUBSEQUENT EVENT
On June 12, 1997, 3Com Corporation ("the Company") consummated a merger
with U.S. Robotics Corporation (U.S. Robotics) the leading supplier of products
and systems for accessing information across the wide area network, including
modems and remote access products. The Company issued approximately 158 million
shares of its common stock in exchange for all outstanding common stock of U.S.
Robotics and assumed and exchanged all options to purchase U.S. Robotics' stock
for options to purchase approximately 31 million shares of the Company's common
stock. The transaction was accounted for as a pooling-of-interests. U.S.
Robotics' sales and net income for the twelve months ended March 30, 1997 were
$2,493.8 million and $237.3 million, respectively. As of March 30, 1997, U.S.
Robotics' assets and stockholder's equity totaled $1,407.3 million and $863.5
million, respectively.
The Company anticipates that as a result of the merger, the combined
company will incur restructuring charges and direct transaction costs relating
to the business combination, estimated to be between $325 million and $375
million. These non-recurring costs will be charged to operations in the first
quarter of fiscal 1998. See Note 17 of Notes to Consolidated Financial
Statements.
The following information has not been restated to include the operating
results of U.S. Robotics, and does not represent results of the combined
company. The following discussion, including Business Environment and Risk
Factors, represents 3Com on a standalone basis. For information regarding 3Com
and U.S. Robotics on a combined basis, refer to the Joint Proxy
Statement/Prospectus dated May 8, 1997. For historical information regarding
U.S. Robotics on a standalone basis, refer to its quarterly report on Form 10-Q
for the quarter ended March 30, 1997, and its report on Form 10-K for the year
ended September 29, 1996.
BUSINESS COMBINATIONS
On October 31, 1996, the Company acquired OnStream Networks, Inc.
(OnStream), a provider of Asynchronous Transfer Mode (ATM) and broadband wide
area network (WAN) and access products. The Company issued approximately 3.3
million shares of its common stock in exchange for all the outstanding stock of
OnStream, and assumed and exchanged all options to purchase OnStream stock for
options to purchase approximately 400,000 shares of the Company's common stock.
The acquisition was accounted for as a pooling-of-interests. Financial data of
the Company has been restated for the quarter ended August 31, 1996 to include
the historical financial information of OnStream for that period. As the
historical operations of OnStream were not significant to any period presented,
the Company's financial statements for periods prior to fiscal 1997 have not
been restated.
To enhance its product offerings and accelerate its time-to-market in new
technologies, the Company completed several business combinations in previous
years. In fiscal 1996, the Company acquired Chipcom Corporation (Chipcom), a
provider of computer networking multi-function platforms,
24
including hubs, switching, and network management products, Primary Access
Corporation (Primary Access), a provider of integrated network access systems,
and AXON Networks, Inc. (AXON), a developer and manufacturer of remote network
management and data network traffic management products. In fiscal 1995, the
Company acquired Sonix Communications, Ltd. (Sonix), a provider of ISDN
connectivity solutions in the United Kingdom, and NiceCom, Ltd. (NiceCom), an
innovator of ATM technology, and Chipcom acquired Artel Communications
Corporation (Artel), a provider of high-performance communication systems for
the internetworking and video distribution markets and DSI ExpressNetworks, Inc.
(DSI), a developer of intelligent hubs and internetworking products.
The impact of acquisition-related charges on the Company's operating
expenses, net income and earnings per share are discussed below. See Notes 3 and
12 of Notes to Consolidated Financial Statements for additional information on
the above business combinations.
RESULTS OF OPERATIONS
The following table sets forth for the fiscal years indicated, the percentage of
total sales represented by the line items reflected in the Company's
consolidated statements of income:
Years Ended May 31,
----------------------------------------
1997 1996 1995
------ ----- -----
Sales...................................................................... 100.0% 100.0% 100.0%
Cost of sales ............................................................. 46.1 47.1 46.3
------ ----- -----
Gross margin .............................................................. 53.9 52.9 53.7
Operating expenses:
Sales and marketing ................................................... 21.0 20.5 20.0
Research and development .............................................. 10.7 10.0 10.5
General and administrative ............................................ 4.1 4.2 4.2
Non-recurring charges:
Purchased in-process technology..................................... - 2.2 4.3
Acquisition-related charges and other............................... 0.2 3.0 0.6
------ ------ -----
Total operating expenses .................................................. 36.0 39.9 39.6
------ ------ -----
Operating income .......................................................... 17.9 13.0 14.1
Other income - net ........................................................ 0.7 0.3 0.3
------ ------ -----
Income before income taxes ................................................ 18.6 13.3 14.4
Income tax provision ...................................................... 6.7 5.7 5.3
------ ------ -----
Net income ................................................................ 11.9% 7.6% 9.1%
====== ====== =====
Excluding non-recurring charges:
Total operating expenses .............................................. 35.7% 34.6% 34.6%
Operating income ...................................................... 18.1 18.2 18.9
Net income ............................................................ 12.1 12.0 12.3
Comparison of fiscal years ended May 31, 1997 and 1996
Fiscal 1997 sales increased 35 percent to $3.1 billion from $2.3 billion in
fiscal 1996. The Company believes that the increase in fiscal 1997 sales is due
to several factors, including growth in the data networking market as the
Internet, corporate intranets, client server applications and remote access
services stimulate customers to migrate from shared to switched media and to
larger bandwidth and higher speed technologies, such as Fast Ethernet and ATM,
to support data, voice and video multimedia traffic. The
25
Company also believes that the strength of the Company's product offerings at
the edge of the network, including workgroup switches and hubs, the impact of a
strong new product cycle in systems and adapter products, the continuous
expansion of 3Com's product offerings, and the ability to deliver complete data
networking solutions for different connectivity environments contributed to the
increase in sales over the prior year.
Although the Company experienced relatively strong year over year growth,
the Company's growth rate has moderated in the last half of fiscal 1997. The
Company believes this moderation reflects recent slowed growth in the networking
industry, in combination with increased competitive pricing pressures in the
form of aggressive price reductions and product promotions for certain products,
particularly network adapters, stackable hubs, and workgroup switches. The
Company also experienced declines in its router business, which the Company
believes are primarily due to delays in certain large enterprise customer
orders. The Company believes that the industry is transitioning from shared to
switched networks, from lower to higher-speed technologies, and to more
volume-based pricing and distribution, and that these transitions may be
adversely affecting customer purchasing decisions. Competitive pricing pressures
in adapters, stackable hubs and workgroup switches have resulted in average
selling prices declining more rapidly than in the past. The Company believes
such pricing trends, as well as the uncertainties created by the trend towards
switched networks, may adversely affect the industry's and the Company's growth
rates in the coming quarters, and consequently, the Company's historical growth
rates should not be relied upon as an indication of its future performance. See
Business Environment and Risk Factors discussed below.
Sales of network systems products (i.e., internetworking platforms, remote
access servers, hubs, switching products and customer service) increased 30
percent from fiscal 1996, and represented 57 and 59 percent of total sales in
fiscal years 1997 and 1996, respectively. The increase in fiscal 1997 network
systems product sales was led primarily by the SuperStack(R) II workgroup
switching family, the CELLplex(R) ATM High-Function switching family, SuperStack
II Ethernet and Fast Ethernet hubs, and the ONcore(R) intelligent switching
system. The increase in network systems products was partially offset by
declines in sales of the AccessBuilder(R) 8000 access concentrator. The Company
experienced a significant increase in unit volume in workgroup switching
products and Ethernet and Fast Ethernet stackable hubs, partially offset by a
decline in average selling prices resulting from increased competition and
pricing pressures. Customer service revenue is included in network systems
products (previously this revenue was classified as other products), and
accordingly, all sales composition and growth percentages reflect this
reclassification.
Sales of network adapters increased 45 percent from fiscal 1996, and
represented 42 and 40 percent of total sales in fiscal years 1997 and 1996,
respectively. The increase in fiscal 1997 network adapter sales represented a
significant increase in unit volume, partially offset by a decline in average
selling prices. The increase in sales was led primarily by the Fast EtherLink(R)
PCI adapters, the EtherLink PC Card adapters, and the EtherLink III family of
network adapters. During the third quarter of fiscal 1997, a major competitor
reduced its average selling prices on Fast Ethernet adapter products by
approximately 40 percent. The Company immediately responded with similar price
cuts. As a result, the Company has recently experienced an accelerated
transition from 10 Mb Ethernet to Fast Ethernet adapters.
Sales of other products represented one percent of total sales in fiscal
1997 and 1996, and are not significant to the Company's operations.
Sales outside of the United States increased 36 percent from the same
period a year ago, and comprised 53 percent of total sales in fiscal years 1997
and 1996. International sales increased in all major geographic
26
regions, with especially strong growth in the Asia Pacific and Latin America
regions, however, in the latter half of fiscal 1997, sales in certain European
countries moderated. The Company believes that the growth in international sales
is due primarily to the Company's continued global expansion through the opening
of new sales offices, and the expansion of its worldwide field sales, service
and support programs. Sales in the U.S. increased 34 percent compared to fiscal
1996. Substantially all of the Company's sales are denominated in U.S. Dollars.
The Company's operations were not significantly impacted by fluctuations in
foreign currency exchange rates in fiscal years 1997, 1996 and 1995.
Gross margin as a percentage of sales was 53.9 percent in fiscal 1997,
compared to 52.9 percent in fiscal 1996. The 1.0 percentage point increase in
gross margin in fiscal 1997 primarily reflected an improved shipment mix of
higher margin workgroup switching and hub products and lower margin network
access concentrators, and lower product material costs of certain adapter
products. Factors causing the increase in gross margin were partially offset by
a higher mix of certain lower margin adapter products. During the third quarter
of fiscal 1997, the Company reduced its average selling prices on Fast Ethernet
adapter products by approximately 40 percent in response to the aforementioned
increased competition, thus causing a recent decline in gross margins, which was
not completely reflected in fiscal 1997. The Company believes that the
competitive pricing pressures in the Fast Ethernet adapters, stackable hub and
workgroup switching products may well result in future declines in gross
margins.
Total operating expenses in fiscal 1997 were $1,131.4 million, compared to
$928.6 million in fiscal 1996. Excluding an acquisition-related charge of $6.6
million related to the acquisition of OnStream (see Note 12 of Notes to
Consolidated Financial Statements), total operating expenses in fiscal 1997
would have been $1,124.8 million, or 35.7 percent of sales. Excluding an
acquisition-related charge of $69.0 million related to the acquisition of
Chipcom, a charge of $52.4 million for purchased in-process technology
associated with the acquisition of AXON and a charge of approximately $1.0
million for a settlement of litigation, total operating expenses in fiscal 1996
would have been $806.3 million, or 34.6 percent of sales.
Sales and marketing expenses in fiscal 1997 increased $183.8 million or 39
percent from fiscal 1996. The increase in such expenses reflected increased
costs associated with the 35 percent increase in sales, a 52 percent
year-over-year increase in sales and marketing personnel, as the Company
continued to invest in the expansion of its direct sales force, and an increase
in the Company's customer support programs and marketing promotions. As a
percentage of sales, sales and marketing expenses were 21.0 percent in fiscal
1997, compared to 20.5 percent in fiscal 1996.
Research and development expenses in fiscal 1997 increased $102.2 million
or 44 percent from the prior year. As a percentage of sales, research and
development expenses increased to 10.7 percent in fiscal 1997, from 10.0 percent
in fiscal 1996. The increase in research and development expenses was primarily
attributable to the cost of developing 3Com's new products and technologies,
primarily switching, network management and value-added software, and the
Company's expansion into new technologies and markets. The Company believes the
timely introduction of new technologies and products is crucial to its success,
and plans to continue to make acquisitions or strategic investments to
accelerate time to market where appropriate. As of May 31, 1997, most of the
in-process research and development projects acquired in connection with the
Company's business acquisitions have been completed. The Company estimates that
the remaining costs in connection with the completion of outstanding acquired
research and development projects are not significant, and are primarily made up
of labor costs for design, prototype development and testing. The increase in
research and development expenses is consistent with the Company's continued
commitment to develop and introduce high quality, innovative products.
27
General and administrative expenses in fiscal 1997 increased $32.6 million
or 33 percent from the prior year. The increase in general and administrative
expenses reflects the worldwide expansion of the Company's infrastructure
through internal growth and acquisitions, including an increase in personnel of
35 percent compared to the prior year, increased investment in the Company's
worldwide information systems and costs associated with the Company's expansion
into the Asia Pacific region. As a percentage of sales, such expenses decreased
to 4.1 percent in fiscal 1997, compared to 4.2 percent in fiscal 1996.
Other income (net) was $20.9 million in fiscal 1997, compared to $6.8
million in fiscal 1996. These amounts consist primarily of interest income,
which increased $12.8 million in fiscal 1997, due primarily to larger cash and
investment balances.
The Company's effective income tax rate was 36.0 percent in fiscal 1997.
Excluding the merger costs associated with the OnStream merger which were not
tax deductible, the effective tax rate for fiscal 1997 would have been 35.6
percent. The Company's effective income tax rate was 42.3 percent in fiscal
1996. Excluding the charge for purchased in-process technology associated with
the acquisition of AXON, which was not tax deductible, and the nondeductible
portion of the merger costs associated with the Chipcom acquisition, the
effective tax rate for fiscal 1996 would have been 35.0 percent.
Net income for fiscal 1997 was $374.0 million, or $2.01 per share, compared
to net income of $177.9 million, or $1.00 per share for fiscal 1996. Excluding
the aforementioned acquisition-related charge of $6.6 million, the Company would
have realized net income of $380.6 million, or $2.05 per share for fiscal 1997.
Net income for fiscal 1996 included the aforementioned acquisition-related
charge of $69.0 million, the $52.4 million charge for purchased in-process
technology and the $1.0 million charge for a litigation settlement. Excluding
these charges, the Company would have realized net income of $280.0 million, or
$1.58 per share for fiscal 1996.
Comparison of fiscal years ended May 31, 1996 and 1995
Fiscal 1996 sales increased 46 percent to $2.3 billion from $1.6 billion in
fiscal 1995. The Company believes that the increase in fiscal 1996 sales was due
to several factors, including continued strength in the data networking market
as customers migrate to new technologies such as LAN switching and Fast
Ethernet, increases in worldwide personal computer sales, rapid growth in sales
outside the U.S., and the continuous expansion of 3Com's product offerings and
its ability to deliver complete data networking solutions for different
connectivity environments.
Sales of network systems products increased 56 percent from fiscal 1995,
and represented 59 and 55 percent of total sales in fiscal years 1996 and 1995,
respectively. The increase in fiscal 1996 network systems product sales was led
primarily by the LinkBuilder FMS II stackable hub, the LANplex and LinkSwitch
families of switching products, the AccessBuilder 8000 integrated network access
system and the ONcore intelligent switching system. The increase in network
systems products was partially offset by declines in sales of certain product
lines acquired from Chipcom.
Sales of network adapters increased 35 percent from fiscal 1995, and
represented 40 and 43 percent of total sales in fiscal years 1996 and 1995,
respectively. The increase in fiscal 1996 network adapter sales represented a
significant increase in unit volume, primarily the result of increased sales of
the EtherLink III network adapter and the EtherLink PC Card adapter and the
introduction of the Fast EtherLink PCI adapter.
28
The trend toward decreasing average selling prices in all adapter products
continued in fiscal 1996, but was mostly offset by the increased mix of Fast
Ethernet and PC Card products, which carry higher average selling prices.
Sales of other products represented one percent of total sales in fiscal
1996 and two percent of total sales in fiscal 1995, and were not significant to
the Company's operations.
Sales outside of the United States increased 48 percent from the same
period a year ago, and comprised 53 percent of total sales in fiscal 1996,
compared to 52 percent in fiscal 1995. The Company believes that the increase in
international sales was a result of strong growth in the Asia Pacific region,
the breadth of the Company's product offerings, its continued global expansion
through the opening of new sales offices in Asia, Latin America and Europe, and
the expansion of worldwide service and support programs. Sales in the U.S.
increased 44 percent compared to fiscal 1995.
Gross margin as a percentage of sales was 52.9 percent in fiscal 1996,
compared to 53.7 percent in fiscal 1995. The 0.8 percentage point reduction in
gross margin in fiscal 1996 resulted primarily from a higher mix of certain
lower margin adapter and network access system products and increased provisions
for obsolete and excess inventory. Factors causing the decline in gross margin
were partially offset by a favorable shipment mix toward the Company's switching
products and reductions in adapter product material costs.
Total operating expenses in fiscal 1996 were $928.6 million, compared to
$630.9 million in fiscal 1995. Excluding the acquisition-related charge of $69.0
million related to the acquisition of Chipcom, the charge of $52.4 million for
purchased in-process technology associated with the acquisition of AXON, and a
charge of approximately $1.0 million for a settlement of litigation (see Note 12
of Notes to Consolidated Financial Statements), total operating expenses in
fiscal 1996 would have been $806.3 million, or 34.6 percent of sales. Excluding
a charge of $68.7 million for purchased in-process technology associated with
the acquisitions of NiceCom and DSI, a non-recurring charge of $10.1 million,
which consisted of approximately $11.2 million in merger transaction costs
associated with the acquisitions of Artel, Primary Access and Sonix, and a
credit of $1.1 million for the reduction in accrued costs relating to the fiscal
1991 restructuring, total operating expenses in fiscal 1995 would have been
$552.1 million, or 34.6 percent of sales.
Sales and marketing expenses in fiscal 1996 increased $156.5 million or 49
percent from fiscal 1995. The increase in such expenses reflected increased
selling costs related to the 46 percent increase in sales, higher costs
associated with marketing promotions and sales support programs, and a
year-over-year increase in sales and marketing personnel of 35 percent. The
Company believes the increase in sales and marketing expenses was also a direct
result of the Chipcom acquisition. As a percentage of sales, sales and marketing
expenses were 20.5 percent in fiscal 1996, compared to 20.0 percent in fiscal
1995.
Research and development expenses in fiscal 1996 increased $66.8 million or
40 percent from the prior year. The increase in research and development
expenses was primarily attributable to the cost of developing new products,
including the Company's expansion into new technologies and markets. Full time
research and development personnel increased 27 percent in fiscal 1996. As a
percentage of sales, research and development expenses were 10.0 percent in
fiscal 1996, compared to 10.5 percent in fiscal 1995.
29
General and administrative expenses in fiscal 1996 increased $30.9 million
or 47 percent from the prior year. The increase in general and administrative
expenses reflected the worldwide expansion of the Company's infrastructure
through internal growth and acquisitions. As a percentage of sales, such
expenses remained flat at 4.2 percent in fiscal 1996 and 1995.
Other income (net) was $6.8 million in fiscal 1996, compared to $4.9
million in fiscal 1995. The fiscal 1996 increase was primarily caused by
interest income, which increased $9.3 million in fiscal 1996, due to larger cash
and investment balances and higher interest rates. Partially offsetting this
increase in other income was the issuance of $110.0 million of convertible
subordinated notes in the second quarter of fiscal 1995, which in addition to
increasing cash balances, contributed to an increase in interest expense of $5.5
million in fiscal 1996.
The Company's effective income tax rate was 42.3 percent in fiscal 1996.
Excluding the purchased in-process technology charge associated with the
acquisition of AXON, which was not tax deductible, and the nondeductible portion
of the merger costs associated with the Chipcom acquisition, the effective tax
rate would have been 35.0 percent. The Company's effective income tax rate was
36.9 percent in fiscal 1995. Excluding the charges for purchased in-process
technology associated with the acquisitions of NiceCom and DSI and the merger
costs associated with the Sonix and Primary Access acquisitions, which were not
tax deductible, the effective tax rate would have been 36.0 percent.
Net income for fiscal 1996 was $177.9 million, or $1.00 per share, compared
to net income of $144.6 million, or $0.84 per share for fiscal 1995. Net income
for fiscal 1996 included the aforementioned acquisition-related charge of $69.0
million, the $52.4 million charge for purchased in-process technology and the
$1.0 million charge for a litigation settlement. Excluding these charges, the
Company would have realized net income of $280.0 million, or $1.58 per share for
fiscal 1996. Net income for fiscal 1995 included the aforementioned $68.7
million charge for purchased in-process technology, the $11.2 million charge for
merger costs and the $1.1 million credit for the reduction in the restructuring
reserve. Excluding these charges and credits, the Company would have realized
net income of $195.5 million, or $1.14 per share for fiscal 1995.
BUSINESS ENVIRONMENT AND RISK FACTORS
This report contains certain forward looking statements, including
statements regarding future trends in sales, gross margin, expense and liquidity
levels, and the amount of the expected non-recurring charge to operations for
the U.S. Robotics merger. Actual results could vary materially based upon a
number of factors, including but not limited to those set forth below. The
Company's future operating results may be affected by various trends and factors
which the Company must successfully manage in order to achieve favorable
operating results. In addition, there are trends and factors beyond the
Company's control which affect its operations. In accordance with the provisions
of the Private Securities Litigation Reform Act of 1995, the cautionary
statements set forth below identify important factors that could cause actual
results to differ materially from those in any forward-looking statements which
may be contained in this report. Such trends and factors include, but are not
limited to, adverse changes in general economic conditions or conditions in the
specific markets for the Company's products, governmental regulation or
intervention affecting communications or data networking, fluctuations in
foreign exchange rates, and other factors, including those listed below.
30
The Company participates in a highly volatile and rapidly growing industry
which is characterized by vigorous competition for market share and rapid
technological development carried out amidst uncertainty over adoption of
industry standards and protection of proprietary intellectual property rights.
This has in the past resulted and could result in aggressive pricing practices,
such as those recently adopted by a competitor in the adapter market, and
growing competition, both from start-up companies and from well-capitalized
computer systems and communications companies. The Company's ability to compete
in this environment depends upon a number of competitive and market factors, and
is subject to the risks set forth in this report and other factors.
The market for the Company's products is intensely competitive and
characterized by rapidly changing technology. The Company's success depends, in
substantial part, on the timely and successful introduction of new products. An
unexpected change in one or more of the technologies affecting data networking,
or in market demand for products based on a particular technology, such as the
recent change from shared to switched networks and the slowdown in sales of
certain products for the edge of the network, could have a material adverse
effect on the Company's operating results if the Company does not respond timely
and effectively to such changes. The Company is engaged in research and
development activities in certain emerging LAN and WAN high-speed technologies,
such as ATM, ISDN, DSL, Fast Ethernet, Gigabit Ethernet and data-over-cable. As
the industry standardizes on high-speed technologies, there can be no assurance
that the Company will be able to respond promptly and cost-effectively to
compete in the marketplace. In addition, if the PC industry migrates toward
standardizing the integration of network interface capabilities on the PC
motherboard, and if the Company does not manage its business to cost-effectively
transition toward this technology, it could have an adverse impact on the
Company.
Although long-term annual growth rates for the networking industry have
recently been in the 30 to 50 percent range, there can be no assurance that this
industry growth rate will continue at the same level, or that the Company's
results in any particular quarter will fall within that range. In particular,
based on recent softening of demand for networking products and competitive
pricing pressures, the Company anticipates that its results may fall below those
levels in the coming quarters.
The Company's customers historically request fulfillment of orders in a
short period of time, resulting in a minimal backlog. Quarterly sales and
results of operations generally depend on the volume and timing of orders, and
the ability to fulfill them within the quarter. As a result, the lack of backlog
provides limited visibility to the Company's future sales trends.
Recruiting and retaining skilled personnel, especially in certain locations
in which the Company operates, is highly competitive. Unless the Company can
successfully recruit and retain such personnel, the Company's ability to achieve
continued growth in sales and earnings may be adversely affected.
The Company operates in an industry in which the ability to compete is
dependent on the development or acquisition of proprietary technology, which
must be protected both to preserve the benefits of exclusive use of the
Company's own technology, and enable the Company to license technology from
other parties on acceptable terms. The Company attempts to protect its
intellectual property rights through a combination of patents, copyrights,
trademarks and trade secret laws. There can be no assurance that the steps taken
by the Company will be sufficient to prevent misappropriation of intellectual
properties or that competitors will not independently develop technologies that
are equivalent or superior to the technologies of the Company.
31
Some key components of the Company's products are currently available only
from single sources. There can be no assurance that in the future the Company's
suppliers will be able to meet the Company's demand for components in a timely
and cost-effective manner. The Company's operating results and customer
relationships could be adversely affected by either an increase in prices for,
or an interruption or reduction in supply of, any key components.
The Company distributes a significant portion of its products through third
party distributors and resellers. Due to consolidation in the distribution and
reseller channels and the Company's increased volume of sales into these
channels, the Company has experienced an increased concentration of credit risk.
While the Company continually monitors and manages this risk, financial
difficulties on the part of one or more of the Company's resellers may have a
material adverse effect on the Company. Likewise, the Company's expansion into
certain emerging geographic markets, characterized by economic and political
instability and currency fluctuations, may subject the Company's resellers to
financial difficulties which may have an adverse impact on the Company.
The Company will continue to invest in expanding its sales, marketing,
service, logistics and manufacturing operations worldwide. The Company's sales
and earnings may be adversely affected unless the Company can successfully
assimilate and train new employees in a timely manner. The Company may also be
adversely affected if it cannot successfully expand its sales and distribution
capabilities, in particular, the new manufacturing and distribution facility in
the Asia Pacific region, in a timely manner.
Acquisitions of complementary businesses and technologies, including
technologies and products under development, are an active part of the Company's
overall business strategy. Certain of the Company's major competitors have also
been engaged in merger and acquisition transactions. Such consolidations by
competitors are creating entities with increased market share, customer base,
technology and marketing expertise, sales force size, or proprietary technology
in segments in which the Company competes. These developments may adversely
affect the Company's ability to compete in such segments.
On June 12, 1997, the Company merged with U.S. Robotics (see Note 17 of
Notes to Consolidated Financial Statements) and has completed several other
acquisitions in recent years. There can be no assurance that products,
technologies, distribution channels, management information systems, key
personnel and businesses of acquired companies will be effectively assimilated
into the Company's business or product offerings, or that such integration will
not adversely affect the Company's business, financial condition or results of
operations. The difficulties of such integration may be increased by the size
and number of such acquisitions and the requirements of coordinating
geographically separated organizations, such as the U.S. Robotics merger. There
can be no assurance that any acquired products, technologies or businesses will
contribute at anticipated levels to the Company's sales or earnings, or that the
sales, earnings and technologies under development from acquired businesses will
not be adversely affected by the integration process or other general factors.
If the Company is not successful in the integration of such acquisitions, there
could be an adverse impact on the financial results of the Company.
The high-growth nature of the computer networking industry, coupled with
critical time-to-market factors, has caused increased competition and
consolidation. As a result, there has been a significant increase in the
acquisition cost of computer networking companies. Future acquisitions are
therefore more likely to result in costs that are material to the Company's
operations. There can be no assurance
32
that the Company will continue to be able to identify and consummate suitable
acquisition transactions in the future. However, should the Company consummate
acquisitions in the future, the impact may result in increased dilution of the
Company's earnings.
The Company's business is characterized by the continuous introduction of
new products and the management of the transition of those products from prior
generations of technology or product platforms. In each product transition
cycle, the Company faces the challenge of managing the inventory of its older
products, including materials, work-in-process, and products held by resellers.
If the Company is not successful in managing these transitions, there could be
an adverse impact on the financial results of the Company.
The Company's products are covered by product warranties and the Company
may be subject to contractual commitments concerning product features or
performance. If unexpected circumstances arise such that the product does not
perform as intended and the Company is not successful in resolving product
quality or performance issues, there could be an adverse impact on sales and
earnings.
The market price of the Company's common stock has been, and may continue
to be, extremely volatile. Factors such as new product or pricing announcements
by the Company or its competitors, quarterly fluctuations in the Company's
operating results, challenges associated with integration of businesses and
general conditions in the data networking market, such as a decline in industry
growth rates, may have a significant impact on the market price of the Company's
common stock. These conditions, as well as factors which generally affect the
market for stocks of high technology companies, could cause the price of the
Company's stock to fluctuate substantially over short periods.
Notwithstanding the Company's increased geographical diversification, the
Company's corporate headquarters and a large portion of its research and
development activities and other critical business operations are located in
California, near major earthquake faults. The Company's business, financial
condition and operating results could be materially adversely affected in the
event of a major earthquake.
Because of the foregoing factors, as well as other factors affecting the
Company's operating results, past trends and performance should not be presumed
by investors to be an accurate indicator of future results or trends.
LIQUIDITY AND CAPITAL RESOURCES
Cash, cash equivalents and temporary cash investments at May 31, 1997 were
$889.9 million, increasing $390.6 million, or 78 percent from May 31, 1996. At
the end of fiscal 1996, cash, cash equivalents and temporary cash investments
were $499.3 million.
For the fiscal year ended May 31, 1997, net cash generated from operating
activities was $600.9 million. Trade receivables at May 31, 1997 increased
$164.3 million to $523.5 million from May 31, 1996. Days sales outstanding in
receivables was 57 days at the end of fiscal 1997, compared to 49 days at the
end of fiscal 1996. The increase in the days sales outstanding metric was
primarily a result of the non-linearity of sales during the fourth quarter of
fiscal 1997. Inventory levels at May 31, 1997 decreased $12.3 million from the
prior fiscal year-end to $228.8 million. Inventory turnover increased to 6.5
turns at May 31, 1997, compared to 5.4 turns at May 31, 1996.
33
During the fiscal year ended May 31, 1997, the Company made $247.8 million
in capital expenditures. Major capital expenditures included purchases and
upgrades of desktop systems, purchases of land in Santa Clara, California, the
U.K. and Ireland, upgrades and additions to product manufacturing lines and
facilities in Ireland and Santa Clara, purchase of a building in the U.K., and
the continuing development of the Company's worldwide information systems. As of
May 31, 1997, the Company had outstanding approximately $95 million in capital
expenditure commitments primarily associated with the construction and expansion
of office and manufacturing space in the U.K., Singapore, and Ireland.
During the year ended May 31, 1997, the Company received cash of $68.7
million from the sale of its common stock to employees through its employee
stock purchase and option plans.
During the third quarter of fiscal 1997, the Company signed an operating
lease which combines and replaces three prior operating lease agreements on the
Company's existing headquarters site and on land adjacent to its existing
headquarters site. The combined lease includes approximately 870,000 square feet
of office and manufacturing space and two parking garages, and expires in
November 2001 with an option to extend the lease term for two successive periods
of five years each. The Company has an option to purchase the combined property
for $152.6 million, or at the end of the lease arrange for the sale of the
property to a third party with the Company retaining an obligation to the owner
for the difference between the sale price and $152.6 million, subject to certain
provisions of the lease. Lease payments on the new lease commenced in the third
quarter of fiscal 1997 and are not materially different from the aggregate
payments under the previously separate leases.
During the second quarter of fiscal 1997, a wholly-owned subsidiary of the
Company signed a lease for seven acres of land in Changi, Republic of Singapore.
The Company began construction of 325,000 square feet of office and
manufacturing space in December 1996, and plans to occupy the manufacturing
facility in the third quarter of fiscal 1998.
During the second quarter of fiscal 1997, the Company purchased a 14 acre
parcel of land and signed a lease for an adjacent 58 acre parcel of land, both
of which are near its existing headquarters in Santa Clara. The lease expires in
November 1998 with an option to extend the lease term for two successive periods
of five years each. The Company has an option to purchase the property for $49.5
million, or at the end of the lease arrange for the sale of the property to a
third party with the Company retaining an obligation to the owner for the
difference between the sale price and $49.5 million, subject to certain
provisions of the lease.
The three aforementioned leases require the Company to maintain specified
financial covenants, all of which the Company was in compliance with as of May
31, 1997.
The Company has a $100 million revolving bank credit agreement which
expires December 20, 1999. Payment of cash dividends are permitted under the
credit agreement, subject to certain limitations based on net income levels of
the Company. The Company has not paid and does not anticipate it will pay cash
dividends on its common stock. The credit agreement requires the Company to
maintain specified financial covenants. As of May 31, 1997, there were no
outstanding borrowings under the credit agreement and the Company was in
compliance with all required covenants.
34
The Company anticipates a significant decrease in cash and cash equivalents
and temporary cash investments in the first half of fiscal 1998 to retire some
or all of U.S. Robotics' existing debt, and to fund the cash components of the
merger reserve. See Note 17 of Notes to Consolidated Financial Statements.
Based on current plans and business conditions, the Company believes that
its existing cash and cash equivalents, temporary cash investments, cash to be
generated from operations and the available revolving credit agreement will be
sufficient to satisfy anticipated operating cash requirements for at least the
next twelve months.
EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENT
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 128 (SFAS 128), "Earnings per
Share." This Statement establishes and simplifies standards for computing and
presenting earnings per share. SFAS 128 will be effective for the Company's
third quarter of fiscal 1998, and requires restatement of all previously
reported earnings per share data that are presented. Early adoption of this
Statement is not permitted. SFAS 128 replaces primary and fully diluted earnings
per share with basic and diluted earnings per share. The Company expects that
basic earnings per share amounts will be accretive compared to the Company's
primary earnings per share amounts, and diluted earnings per share amounts will
not be materially different from the Company's fully diluted earnings per share
amounts.
35
ITEM 8. Financial Statements and Supplementary Data
Index to Consolidated Financial Statements and Financial Statement Schedule
Page
Financial Statements:
Independent Auditors' Reports:
Report of Deloitte & Touche LLP............................................................................ 37
Report of Price Waterhouse LLP............................................................................. 38
Consolidated Statements of Income for the years ended May 31, 1997, 1996 and 1995.............................. 39
Consolidated Balance Sheets at May 31, 1997 and 1996........................................................... 40
Consolidated Statements of Shareholders' Equity for the years ended May 31, 1997, 1996
and 1995................................................................................................... 41
Consolidated Statements of Cash Flows for the years ended May 31, 1997, 1996
and 1995................................................................................................... 42
Notes to Consolidated Financial Statements..................................................................... 43
Quarterly Results of Operations (Unaudited).................................................................... 61
Financial Statement Schedule:
Schedule II - Valuation and Qualifying Accounts and Reserves................................................... S-1
All other schedules are omitted, because they are not required, are not
applicable, or the information is included in the consolidated financial
statements and notes thereto.
36
Independent Auditors' Report
To the Shareholders and Board of Directors of 3Com Corporation:
We have audited the consolidated balance sheets of 3Com Corporation and its
subsidiaries as of May 31, 1997 and 1996, and the related consolidated
statements of income, shareholders' equity, and cash flows for each of the three
years in the period ended May 31, 1997. Our audits also included the financial
statement schedule listed in the Index at Item 8. These financial statements and
financial statement schedule are the responsibility of the Company's management.
Our responsibility is to express an opinion on the financial statements and
financial statement schedule based on our audits. The consolidated financial
statements give retroactive effect to the fiscal 1996 merger of 3Com Corporation
with Chipcom Corporation, which has been accounted for as a pooling-of-interests
as described in Note 3 to the consolidated financial statements. We did not
audit the consolidated statements of income, shareholders' equity, and cash
flows of Chipcom Corporation for the year ended December 31, 1994, which were
combined with 3Com Corporation's statements for the year ended May 31, 1995, and
reflect revenues of $267,776,000, and net income of $18,560,000. We also did not
audit the information in the financial statement schedule relating to Chipcom
Corporation for the year ended December 31, 1994, which information is included
in 3Com Corporation's schedule for the year ended May 31, 1995. Those statements
and financial statement schedule information were audited by other auditors
whose reports have been furnished to us, and our opinion, insofar as it relates
to the amounts included for Chipcom Corporation for fiscal 1995, is based solely
on the reports of such other auditors.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits and the reports of the other auditors provide a
reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of 3Com Corporation and its
subsidiaries at May 31, 1997 and 1996, and the results of their operations and
their cash flows for each of the three years in the period ended May 31, 1997 in
conformity with generally accepted accounting principles. Also, in our opinion,
based on our audits and the report of the other auditors, such financial
statement schedule, when considered in relation to the basic consolidated
financial statements taken as a whole, presents fairly in all material respects
the information set forth therein.
/s/ Deloitte & Touche LLP
San Jose, California
June 23, 1997
37
Report of Independent Accountants
To the Board of Directors and Stockholders of Chipcom Corporation
In our opinion, the consolidated statements of income, of stockholders' equity
and of cash flows of Chipcom Corporation and its subsidiaries (not presented
separately herein) present fairly, in all material respects, the results of
their operations and their cash flows for the year ended December 31, 1994, in
conformity with generally accepted accounting principles. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audit. We conducted our audit of these statements in accordance with
generally accepted auditing standards which require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audit provides a reasonable basis for the opinion expressed
above. We have not audited the consolidated financial statements of Chipcom
Corporation for any period subsequent to December 31, 1994.
/s/ Price Waterhouse LLP
- ------------------------
PRICE WATERHOUSE LLP
Boston, Massachusetts
February 7, 1995
38
Consolidated Statements of Income
Years Ended May 31,
----------------------------------------------
(In thousands, except per share data) 1997 1996 1995
---------- ---------- ----------
Sales $3,147,106 $2,327,101 $1,593,469
Cost of sales 1,452,350 1,096,846 738,093
---------- ---------- ----------
Gross margin 1,694,756 1,230,255 855,376
Operating Expenses:
Sales and marketing 659,573 475,769 319,310
Research and development 335,266 233,107 166,327
General and administrative 129,952 97,395 66,462
Purchased in-process technology -- 52,353 68,696
Acquisition-related charges and other 6,600 69,950 10,125
---------- ---------- ----------
Total 1,131,391 928,574 630,920
---------- ---------- ----------
Operating income 563,365 301,681 224,456
Other income--net 20,889 6,788 4,895
---------- ---------- ----------
Income before income taxes 584,254 308,469 229,351
Income tax provision 210,304 130,615 84,792
---------- ---------- ----------
Net income $ 373,950 $ 177,854 $ 144,559
========== ========== ==========
Net income per common and equivalent share:
Primary $ 2.02 $ 1.01 $ 0.85
Fully diluted $ 2.01 $ 1.00 $ 0.84
Common and equivalent shares used in computing per share amount:
Primary 185,316 176,517 169,443
Fully diluted 186,019 176,972 171,079
See Notes to Consolidated Financial Statements.
39
Consolidated Balance Sheets
Years Ended May 31,
----------------------------------
(Dollars in thousands)
1997 1996
----------- -----------
Assets
Current Assets:
Cash and cash equivalents $ 351,237 $ 216,759
Temporary cash investments 538,706 282,578
Trade receivables, less allowance for doubtful accounts
($37,259 and $26,921 in 1997 and 1996, respectively) 523,501 359,182
Inventories 228,754 241,018
Deferred income taxes 108,360 79,259
Other 80,725 60,915
----------- -----------
Total current assets 1,831,283 1,239,711
Property and equipment - net 377,349 246,652
Deposits and other assets 57,643 38,754
----------- -----------
Total $ 2,266,275 $ 1,525,117
=========== ===========
Liabilities and Shareholders' Equity
Current Liabilities:
Accounts payable $ 148,846 $ 120,211
Accrued and other liabilities 279,263 211,620
Income taxes payable 168,942 82,690
----------- -----------
Total current liabilities 597,051 414,521
Long-term debt 110,000 110,000
Other long-term obligations 5,391 5,492
Deferred income taxes 36,323 16,299
Shareholders' Equity:
Preferred stock, no par value, 3,000,000 shares authorized;
none outstanding -- --
Common stock, $.01 par value, 400,000,000 shares authorized;
shares outstanding: 1997--178,373,867;
1996--168,799,586 784,685 597,452
Unamortized restricted stock grants (5,165) (4,487)
Retained earnings 736,881 379,358
Unrealized net gain on available-for-sale securities 2,320 7,159
Accumulated translation adjustments (1,211) (677)
----------- -----------
Total shareholders' equity 1,517,510 978,805
----------- -----------
Total $ 2,266,275 $ 1,525,117
=========== ===========
See Notes to Consolidated Financial Statements.
40
Consolidated Statements of Shareholders' Equity
Unrealized Net
Gain (Loss) on
Common Stock Unamortized Available- Accumulated
---------------- Restricted Retained For-Sale Translation
(In thousands) Shares Amount Stock Grants Earnings Securities Adjustments Total
-----------------------------------------------------------------------------
Balances, June 1, 1994 151,288 $340,943 $ (202) $ 73,686 $ - $ (305) $ 414,122
Common stock issued under stock plans
and for business acquisitions 8,494 44,364 (2,128) 42,236
Repurchase of common stock (1,570) (2,674) (16,916) (19,590)
Tax benefit from employee stock
transactions 45,794 45,794
Amortization of restricted stock grants 293 293
Stock options assumed in connection with
acquisitions 6,508 6,508
Adjustment to conform pooled entity-Sonix 2,416 844 (2,079) (69) (1,304)
Adjustment to conform fiscal year of
pooled entity-Primary Access 284 143 780 923
Unrealized loss on available-for-
sale securities (22) (22)
Accumulated translation adjustments 205 205
Net income 144,559 144,559
------- -------- -------- -------- ------ -------- ----------
Balances, May 31, 1995 160,912 435,922 (2,037) 200,030 (22) (169) 633,724
Common stock issued under stock plans 7,619 74,648 (3,502) 71,146
Repurchase of common stock (23) (52) (923) (975)
Tax benefit from employee stock
transactions 79,774 79,774
Amortization of restricted stock grants 1,052 1,052
Stock options assumed in connection with
acquisitions 3,671 3,671
Adjustment to conform fiscal year of
pooled entity-Chipcom 292 3,489 2,397 151 6,037
Unrealized gain on available-for-
sale securities 7,030 7,030
Accumulated translation adjustments (508) (508)
Net income 177,854 177,854
------- -------- -------- -------- ------ -------- ----------
Balances, May 31, 1996 168,800 597,452 (4,487) 379,358 7,159 (677) 978,805
Common stock issued under stock plans 6,282 71,102 (2,412) 68,690
Tax benefit from employee stock
transactions 90,757 90,757
Amortization of restricted stock grants 1,734 1,734
Adjustment to conform pooled
entity-OnStream 3,292 25,374 (16,427) 8,947
Unrealized loss on available-for-
sale securities (4,839) (4,839)
Accumulated translation adjustments (534) (534)
Net income 373,950 373,950
------- -------- -------- -------- ------ -------- ----------
Balances, May 31, 1997 178,374 $784,685 $(5,165) $736,881 $2,320 $(1,211) $1,517,510
======= ======== ======== ======== ====== ======== ==========
See Notes to Consolidated Financial Statements.
41
Consolidated Statements of Cash Flows
Years Ended May 31,
-----------------------------------------
(Dollars in thousands)
1997 1996 1995
--------- --------- ---------
Cash flows from operating activities:
Net income $ 373,950 $ 177,854 $ 144,559
Adjustments to reconcile net income to cash
provided by operating activities:
Depreciation and amortization 140,540 90,969 57,687
Deferred income taxes (4,498) (7,474) (27,980)
Purchased in-process technology -- 52,353 68,696
Adjustments to conform pooled entities 4,850 (3,048) 3,013
Non-cash acquisition-related charges and other -- 44,320 (1,100)
Changes in assets and liabilities net of effects of acquisitions:
Trade receivables (162,960) (124,753) (87,348)
Inventories 8,140 (71,852) (81,738)
Other current assets (29,741) (21,088) (13,667)
Accounts payable 28,010 11,636 48,754
Accrued and other liabilities 65,573 57,707 44,934
Income taxes payable 177,009 103,719 82,429
--------- --------- ---------
Net cash provided by operating activities 600,873 310,343 238,239
--------- --------- ---------
Cash flows from investing activities:
Purchase of property and equipment (247,803) (179,982) (100,706)
Purchase of temporary cash investments (479,249) (301,960) (246,313)
Proceeds from temporary cash investments 221,228 231,904 140,377
Businesses acquired in purchase transactions -- (60,246) (70,174)
Other--net (26,654) (9,874) (1,378)
--------- --------- ---------
Net cash used for investing activities (532,478) (320,158) (278,194)
--------- --------- ---------
Cash flows from financing activities:
Common stock issued under stock plans 68,690 71,146 38,556
Repayments of notes payable and capital lease obligations (1,740) (2,997) (7,263)
Repurchase of common stock -- (975) (19,590)
Net proceeds from issuance of debt -- -- 107,330
Other--net (867) (508) 205
--------- --------- ---------
Net cash provided by financing activities 66,083 66,666 119,238
--------- --------- ---------
Increase in cash and cash equivalents 134,478 56,851 79,283
Cash and cash equivalents at beginning of year 216,759 159,908 80,625
--------- --------- ---------
Cash and cash equivalents at end of year $ 351,237 $ 216,759 $ 159,908
========= ========= =========
Other cash flow information:
Interest paid $ 11,830 $ 12,961 $ 5,903
Income taxes paid 46,523 34,921 33,272
Non-cash investing and financing activities--
Tax benefit from employee stock option transactions 90,757 79,774 45,794
Fair value of stock issued and options assumed
in business combinations -- 3,671 10,188
See Notes to Consolidated Financial Statements.
42
Notes to Consolidated Financial Statements
Note 1: Description of Business
Description of business. 3Com Corporation, founded in 1979, is committed to
providing customers global access to critical information through high-speed
networks designed to serve large enterprises, Internet service providers, small
businesses and homes. 3Com offers a broad range of networking products which
include routers, switches, hubs, remote access servers, adapters and network
management software for Ethernet, Token Ring, FDDI, ATM and other high-speed
networks. Headquartered in Santa Clara, California, 3Com has worldwide research
and development, manufacturing, marketing, sales and support capabilities.
On June 12, 1997, the Company merged with U.S. Robotics Corporation (U.S.
Robotics). U.S. Robotics is one of the world's leading suppliers of products and
systems that provide access to information. U.S. Robotics designs, manufactures,
markets and supports remote access servers, enterprise communications systems
and desktop and mobile client products, including modems, LAN adapter cards,
hand-held computing devices and telephony products, that connect computers and
other equipment over analog, digital, wireless and switched cellular networks,
enabling users to gain access to, manage, and share data, fax, voice, sound and
video information. The accompanying Consolidated Financial Statements and
related Notes thereto have not been restated to include the operating results
and financial position of U.S. Robotics. See Note 17.
Note 2: Significant Accounting Policies
Use of estimates in the preparation of financial statements. The preparation of
financial statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Principles of consolidation. The consolidated financial statements include the
accounts of 3Com Corporation and its wholly-owned subsidiaries ("the Company").
All significant intercompany balances and transactions are eliminated in
consolidation.
Cash equivalents are highly liquid debt investments acquired with a maturity of
three months or less.
Temporary cash investments consist of short-term investments acquired with
maturities exceeding three months. While the Company's intent is to hold debt
securities to maturity, consistent with Statement of Financial Accounting
Standards (SFAS) No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," the Company has classified all securities as available-for-sale, as
the sale of such securities may be required prior to maturity to implement
management strategies. Such securities are reported at fair value with
unrealized gains or losses excluded from earnings and reported as a separate
component of shareholders' equity, net of applicable taxes.
Concentration of credit risk and major customers. Financial instruments which
potentially subject the Company to concentrations of credit risk consist
principally of temporary cash investments and trade receivables. The Company
invests in instruments with an investment credit rating of AA and better. The
Company also places its investments for safekeeping with high-credit-quality
financial institutions, and by policy, limits the amount of credit exposure from
any one financial institution.
43
Due to consolidation in the distribution and reseller channels and the Company's
increased volume of sales into these channels, the Company has experienced an
increased concentration of credit risk, and, as a result, may maintain
individually significant receivable balances with such distributors. While the
Company continuously monitors and manages this risk, financial difficulties on
the part of one or more of the Company's resellers may have a material adverse
effect on the Company. As of and for the year ended May 31, 1997, the Company
had one customer which accounted for 13 percent of total sales and 15 percent of
trade receivables. The Company did not have any customers which individually
accounted for more than 10 percent of total sales or trade receivables for
fiscal years 1996 and 1995.
Inventories are stated at the lower of standard cost (which approximates
first-in, first-out cost) or market.
Property and equipment is stated at cost. Equipment under capital leases is
stated at the lower of fair market value or the present value of the minimum
lease payments at the inception of the lease.
In March 1995, the Financial Accounting Standards Board (FASB) issued SFAS 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of." The Company adopted this statement effective as of the
beginning of fiscal 1997. The adoption did not have a material effect on the
Company's consolidated financial statements.
Depreciation and amortization are computed over the shorter of the estimated
useful lives, lease terms, or terms of license agreements of the respective
assets, on a straight-line basis - generally 2-7 years, except for buildings
which are depreciated over 25 years.
Purchased technology is included in other assets and is amortized over four
years.
Revenue recognition. The Company recognizes revenue when the product has been
shipped, no material vendor or post-contract support obligations remain
outstanding, except as provided by a separate service agreement, and collection
of the resulting receivable is probable. The Company accrues related product
return reserves, warranty and royalty expenses at the time of sale. Service and
subscription revenue is recognized over the contract term. The Company extends
limited product return and price protection rights to certain distributors and
resellers. Such rights are generally limited to a certain percentage of sales
over a three to six-month period. Historically, actual amounts recorded for
product returns and price protection have not varied significantly from
estimated amounts. The Company warrants products for periods ranging from 90
days to life, depending upon the product.
Foreign currency translations. Substantially all of the Company's revenues are
denominated in U.S. dollars. For foreign operations with the local currency as
the functional currency, assets and liabilities are translated at year-end
exchange rates, and statements of income are translated at the average exchange
rates during the year. Gains or losses resulting from foreign currency
translation are accumulated as a separate component of shareholders' equity.
For foreign operations with the U.S. dollar as the functional currency, assets
and liabilities are translated at the year-end exchange rates except for
inventories, prepaid expenses, and property and equipment, which are translated
at historical exchange rates. Statements of income are translated at the average
exchange rates during the year except for those expenses related to balance
sheet amounts that are translated using historical exchange rates. Gains or
losses resulting from foreign currency translation are included in other income
- - net in the statements of income and were not significant for any of the years
presented.
Stock-based compensation. In October 1995, the FASB issued SFAS 123, "Accounting
for Stock-Based Compensation." As permitted under the provisions of SFAS 123,
the Company has elected to follow Accounting Principles Board Opinion No. 25
(APB 25) and related Interpretations in accounting for its stock-based awards to
employees. Under APB 25, the Company generally recognizes no compensation
expense with respect to such awards. See Note 9.
44
Net income per common and equivalent share is computed using the weighted
average number of common and common equivalent shares outstanding including the
dilutive effects of stock options, using the treasury stock method. The effect
of the assumed conversion of the 10.25% convertible subordinated notes was
antidilutive for the periods presented.
Effects of recent accounting pronouncement. In February 1997, the FASB issued
SFAS 128, "Earnings per Share." This Statement establishes and simplifies
standards for computing and presenting earnings per share. SFAS 128 will be
effective for the Company's third quarter of fiscal 1998, and requires
restatement of all previously reported earnings per share data that are
presented. Early adoption of this Statement is not permitted. SFAS 128 replaces
primary and fully diluted earnings per share with basic and diluted earnings per
share. The Company expects that basic earnings per share amounts will be
accretive compared to the Company's primary earnings per share amounts, and
diluted earnings per share amounts will not be materially different from the
Company's fully diluted earnings per share amounts.
Note 3: Business Combinations
Unless otherwise stated, for acquisitions accounted for under the
pooling-of-interests method, all financial data of the Company has been restated
to include the historical financial data of these acquired companies. No
significant adjustments were required to conform the accounting policies of the
acquired companies. For acquisitions accounted for as purchases, the Company's
consolidated results of operations include the operating results of the acquired
companies from their acquisition dates. Acquired assets and liabilities were
recorded at their estimated fair values at the dates of acquisition, and the
aggregate purchase price plus costs directly attributable to the completion of
acquisitions have been allocated to the assets and liabilities acquired.
For the Year Ended May 31, 1997. On October 31, 1996, the Company acquired
OnStream Networks, Inc. (OnStream) by issuing approximately 3.3 million shares
of its common stock in exchange for all the outstanding stock of OnStream. The
Company also assumed and exchanged all options to purchase OnStream stock for
options to purchase approximately 400,000 shares of the Company's common stock.
The acquisition was accounted for as a pooling-of-interests. Financial data of
the Company has been restated for the quarter ended August 31, 1996 to include
the historical financial information of OnStream for that period, in accordance
with generally accepted accounting principles and pursuant to Regulation S-X.
Such restatement increased the Company's sales and decreased net income by $3.2
million and $1.5 million, respectively, for the quarter ended August 31, 1996.
Financial information as of May 31, 1997 and for the year then ended reflects
the Company's and OnStream's operations for those periods. As the historical
operations of OnStream were not significant to any period presented, the
Company's financial statements for periods prior to fiscal 1997 have not been
restated. The financial effect of the results of operations of OnStream prior to
fiscal 1997 has been accounted for as a $16.4 million charge against retained
earnings in fiscal 1997. As a result of the acquisition, in the second quarter
of fiscal 1997 the Company recorded acquisition-related charges, primarily
transaction costs, totaling $6.6 million. OnStream was a provider of
Asynchronous Transfer Mode (ATM) and broadband wide area network (WAN) and
access products.
For the Year Ended May 31, 1996. On June 9, 1995, the Company acquired Primary
Access Corporation (Primary Access) by issuing approximately 4.6 million shares
of its common stock for all of the outstanding stock of Primary Access. The
Company also assumed and exchanged all options and warrants to purchase Primary
Access stock for options and warrants to purchase approximately 1.0 million
shares of the Company's common stock. The acquisition was accounted for as a
pooling-of-interests. Primary Access maintained its financial records on a 52-53
week fiscal year ending nearest to September 30. The results of operations of
Primary Access for the eight-month period ended May 31, 1994 reflected sales of
$14.6 million and net income of $780,000, which has been reported as an
45
increase to the Company's fiscal 1995 retained earnings. Primary Access
developed, manufactured and marketed network access systems.
On October 13, 1995, the Company acquired Chipcom Corporation (Chipcom) by
issuing approximately 18.3 million shares of its common stock in exchange for
all the outstanding common stock of Chipcom. The Company also assumed and
exchanged all options to purchase Chipcom common stock for options to purchase
approximately 2.4 million shares of the Company's common stock. The acquisition
was accounted for as a pooling-of-interests. Chipcom maintained its financial
records on a 52-53 week fiscal year ending nearest to December 31. The restated
consolidated statements of income and cash flows for the year ended May 31, 1995
includes the statement of operation and cash flows of Chipcom for the year ended
December 31, 1994. The results of operations of Chipcom for the five-month
period ended May 31, 1995 reflected sales of $118.1 million and net income of
$2.4 million, and has been reported as an increase to the Company's fiscal 1996
retained earnings. As a result of the acquisition, during the second quarter of
fiscal 1996, the Company recorded acquisition-related charges of approximately
$69.0 million. See Note 12. Chipcom designed, manufactured and distributed
computer networking multifunction platforms.
On March 12, 1996, the Company acquired substantially all of the assets and
assumed substantially all of the liabilities of AXON Networks, Inc. (AXON). The
aggregate purchase price of $65.3 million consisted of cash, net of cash
acquired, of approximately $60.2 million, which was paid using funds from the
Company's working capital, assumption of stock options with a fair value of
approximately $3.7 million, and $1.4 million of costs directly attributable to
the completion of the acquisition. Approximately $52.4 million of the total
purchase price represented the value of in-process technology that had not yet
reached technological feasibility and had no alternative future use and was
charged to the Company's operations in the fourth quarter of fiscal 1996. The
acquisition was accounted for as a purchase. AXON developed, manufactured and
marketed remote network management and data network traffic management products.
For the Year Ended May 31, 1995. On October 18, 1994, the Company acquired
substantially all of the assets and assumed substantially all of the liabilities
of NiceCom, Ltd. (NiceCom), and assumed all outstanding NiceCom stock options.
The purchase price consisted of cash, net of cash acquired, of approximately
$48.0 million which was paid using funds from the Company's working capital and
the issuance of approximately 186,000 shares of common stock of the Company,
with a fair value of $3.7 million. In addition, the Company assumed stock
options with a fair value of $5.7 million and incurred direct transaction costs
of approximately $2.0 million. NiceCom developed asynchronous transfer mode
(ATM) switches and an Ethernet-to-ATM solution to provide a migration path from
existing Ethernet LANs to ATM networking.
On October 14, 1994, the Company acquired all of the outstanding shares and
assumed all outstanding stock options of a company engaged in the development of
network adapter technology. The purchase price consisted of approximately $2.3
million in cash plus the assumption of stock options with a fair value of
approximately $400,000. The purchase price was paid using funds from the
Company's working capital.
The acquisitions were accounted for as purchases. Acquired assets and
liabilities were recorded at their estimated fair value at the date of
acquisition. The aggregate purchase price of $61.6 million, plus $2.0 million of
costs directly attributable to the completion of the acquisitions, has been
allocated to the assets and liabilities acquired. Approximately $60.8 million of
the total purchase price represented the value of in-process technology that had
not yet reached technological feasibility and had no alternative future use and
was charged to the Company's operations in the second quarter of fiscal 1995.
46
On May 1, 1995, the Company acquired Sonix Communications Limited (Sonix) by
issuing approximately 2.4 million shares of common stock for all of the
outstanding stock of Sonix. The acquisition was accounted for as a
pooling-of-interests. All financial data of the Company for fiscal 1995 has been
restated to include the operating results of Sonix. As the historical operations
of Sonix were not significant to any year presented, the Company's financial
statements for years prior to fiscal 1995 have not been restated. The financial
effect of the results of operations of Sonix prior to fiscal 1995 has been
accounted for as a $2.1 million charge against retained earnings in fiscal 1995.
Sonix developed, manufactured and marketed a range of networking connectivity
solutions using ISDN technology.
In the Company's first quarter of fiscal 1995, Chipcom acquired Artel
Communications Corporation (Artel) by issuing approximately 1.2 million shares
of common stock in exchange for all of the outstanding common stock of Artel.
The merger was accounted for as a pooling-of-interests. Artel designed,
manufactured and marketed high-performance communication systems for the
internetworking and video distribution markets.
In the Company's third quarter of fiscal 1995, Chipcom acquired all of the
outstanding common stock of DSI ExpressNetworks, Inc. (DSI). Cash paid,
including transaction costs, was approximately $4.4 million. Chipcom acquired
assets with a fair value of $19.5 million and assumed liabilities of $15.2
million. The acquisition was accounted for as a purchase. Approximately $7.9
million of the total purchase price represented the value of in-process
technology that had not yet reached technological feasibility and had no
alternative future use and was charged to the Company's operations in fiscal
1995. DSI was engaged in the development of intelligent hubs and related
internetworking products.
Note 4: Investments
Available-for-sale securities consist of:
May 31, 1997
-------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
(Dollars in thousands) Cost Gains Losses Fair Value
-------------------------------------------
State and municipal securities $361,052 $ 498 $ (288) $361,262
Corporate debt securities 130,519 83 (99) 130,503
U.S. Government and agency
securities 47,024 12 (95) 46,941
-------- -------- -------- --------
Temporary cash investments 538,595 593 (482) 538,706
Corporate equity securities 9,330 3,754 -- 13,084
-------- -------- -------- --------
Total $547,925 $ 4,347 $ (482) $551,790
======== ======== ======== ========
47
May 31, 1996
-------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Estimated
(Dollars in thousands) Cost Gains Losses Fair Value
-------------------------------------------
State and municipal securities $152,998 $ 135 $ (296) $152,837
Corporate debt securities 79,299 11 (107) 79,203
U.S. Government and agency
securities 50,910 11 (383) 50,538
-------- -------- -------- --------
Temporary cash investments 283,207 157 (786) 282,578
Corporate equity securities 3,010 12,609 -- 15,619
-------- -------- -------- --------
Total $286,217 $ 12,766 $ (786) $298,197
======== ======== ======== ========
Corporate equity securities are included in other current assets
Realized gains or losses on sales of available-for-sale securities for the years
ended May 31, 1997 and 1996 were not significant. The cost of securities sold is
based on the specific identification method.
The contractual maturities of available-for-sale debt securities at May 31, 1997
are as follows:
Amortized Estimated
(Dollars in thousands) Cost Fair Value
-----------------------
Within one year $317,983 $317,963
Over one year to two years 220,612 220,743
-------- --------
Temporary cash investments $538,595 $538,706
======== ========
Note 5: Inventories
Inventories at May 31 consist of:
(Dollars in thousands) 1997 1996
-------- --------
Finished goods $148,316 $132,363
Work-in-process 17,652 22,310
Raw materials 62,786 86,345
-------- --------
Total $228,754 $241,018
======== ========
48
Note 6: Property and Equipment
Property and equipment at May 31 consists of:
(Dollars in thousands) 1997 1996
----------- -----------
Land $ 36,495 $ 15,257
Buildings 43,471 35,226
Machinery and equipment 455,460 325,262
Furniture and fixtures 45,522 35,475
Leasehold improvements 47,297 30,218
Construction in progress 66,909 29,514
----------- -----------
Total 695,154 470,952
Accumulated depreciation and
amortization (317,805) (224,300)
----------- -----------
Property and equipment - net $ 377,349 $ 246,652
=========== ===========
Note 7: Accrued and Other Liabilities
Accrued and other liabilities at May 31 consist of:
(Dollars in thousands) 1997 1996
-------- --------
Accrued payroll and related expenses $ 63,512 $ 49,761
Accrued product warranty 44,987 30,574
Accrued distributor rebates 29,164 14,976
Deferred revenue 28,950 19,448
Other accrued liabilities 112,650 96,861
-------- --------
Accrued and other liabilities $279,263 $211,620
======== ========
Note 8: Borrowing Arrangements and Commitments
During the third quarter of fiscal 1997, the Company signed an operating lease
which combines and replaces three prior operating lease agreements on the
Company's existing headquarters site and on land adjacent to its existing
headquarters site. The combined lease includes approximately 870,000 square feet
of office and manufacturing space and two parking garages, and expires in
November 2001 with an option to extend the lease term for two successive periods
of five years each. The Company has an option to purchase the combined property
for $152.6 million, or at the end of the lease arrange for the sale of the
property to a third party with the Company retaining an obligation to the owner
for the difference between the sale price and $152.6 million, subject to certain
provisions of the lease. Lease payments on the new lease commenced in the third
quarter of fiscal 1997 and are not materially different from the aggregate
payments under the previously separate leases.
During the second quarter of fiscal 1997, a wholly-owned subsidiary of the
Company signed a lease for seven acres of land in Changi, Republic of Singapore.
The Company began construction of 325,000 square feet of office and
manufacturing space in December 1996, and plans to occupy the manufacturing
facility in the third quarter of fiscal 1998.
49
During the second quarter of fiscal 1997, the Company purchased a 14 acre parcel
of land and signed a two-year lease for an adjacent 58 acre parcel of land, both
of which are near its existing headquarters in Santa Clara. The lease expires in
November 1998 with an option to extend the lease term for two successive periods
of five years each. The Company has an option to purchase the property for $49.5
million, or at the end of the lease arrange for the sale of the property to a
third party with the Company retaining an obligation to the owner for the
difference between the sale price and $49.5 million, subject to certain
provisions of the lease.
The three aforementioned leases require the Company to maintain specified
financial covenants, all of which the Company was in compliance with as of May
31, 1997. Future minimum lease payments are included in the table below.
The Company leases its facilities and certain equipment under operating leases.
Leases expire at various dates from 1997 to 2013 and certain facility leases
have renewal options with rentals based upon changes in the Consumer Price Index
or the fair market rental value of the property.
Future operating lease commitments are as follows:
Fiscal year (in thousands)
- -------------------------------------------------------------------------------
1998 $ 39,321
1999 29,782
2000 22,903
2001 16,354
2002 8,955
Thereafter 9,976
-----------
Total $ 127,291
===========
Rent expense was $36.4 million, $28.2 million, and $19.9 million for fiscal
years ended May 31, 1997, 1996 and 1995, respectively.
As of May 31, 1997, the Company had approximately $95 million in capital
expenditure commitments, primarily associated with the construction and
expansion of office and manufacturing space in the U.K., Singapore, and Ireland.
The Company has a $100 million revolving bank credit agreement which expires on
December 20, 1999. Under the agreement, the Company may select among various
interest rate options, including borrowing at the bank's prime rate. The credit
agreement requires that the Company maintain specified financial ratios and
minimum net worth. Payment of cash dividends are permitted under the credit
agreement, subject to certain limitations based on net income levels of the
Company. The Company has not paid and does not anticipate it will pay cash
dividends on its common stock. As of May 31, 1997, there were no outstanding
borrowings under the credit agreement and the Company was in compliance with all
required covenants.
In November 1994, the Company completed a private placement of $110 million
aggregate principal amount of convertible subordinated notes under Rule 144A of
the Securities Act of 1933. The notes mature in 2001. Interest is payable
semi-annually at 10.25% per annum. The notes are convertible at the option of
the note holders into the Company's common stock at an initial conversion price
of $34.563 per share. Beginning in November 1997, the notes become redeemable at
the option of the Company at an initial redemption price of 102.929% of the
principal amount. The Company has reserved 3.2 million shares of common stock
for the conversion of these notes.
50
Note 9: Common Stock
On September 26, 1996, the Company's Board of Directors approved an amendment to
the Company's articles of incorporation establishing a par value of $.01 per
share for the Company's common stock. On June 11, 1997, the shareholders of the
Company approved a proposal to change the Company's state of incorporation from
California to Delaware. The reincorporation was effected immediately prior to
the consummation of the merger with U.S. Robotics and, among other things,
resulted in an increase in the number of authorized shares of its common stock
from 400 million to 990 million, and preferred stock from 3 million to 10
million.
Shareholder Rights Plan. In September 1989, the Company's Board of Directors
approved an amendment and restatement of the stock purchase rights plan and
declared a dividend distribution of one common stock purchase right for each
outstanding share of its common stock. The Company's Board of Directors approved
an amendment and restatement of the rights plan in December 1994. The rights
become exercisable based on certain limited conditions related to acquisitions
of stock, tender offers and certain business combination transactions of the
Company. In the event one of the limited conditions is triggered, each right
entitles the registered holder to purchase for $250 a number of shares of 3Com
common stock (or any acquiring company) with a fair market value of $500. The
rights are redeemable at the Company's option for $.01 per right and expire on
December 13, 2004.
Stock Option Plans. The Company has stock option plans under which employees and
directors may be granted options to purchase common stock. Options are generally
granted at not less than the fair market value at grant date, vest over a two-
or four-year period, and expire ten years after the grant date.
A summary of option transactions under the plans follows:
(Shares in thousands) Number Weighted average Range of
of shares exercise price exercise prices
--------- -------------- ---------------
Outstanding, June 1, 1994 27,566 $0.22-$51.29
Granted and assumed 8,164 0.02- 46.93
Exercised (6,932) 0.22- 33.33
Canceled (1,271) 0.37- 51.29
--------- ------------
Outstanding, May 31, 1995 27,527 0.02- 46.93
Granted and assumed 6,912 $39.39 4.65- 51.63
Exercised (6,661) 8.43 0.02- 46.13
Canceled (1,489) 20.12 0.02- 51.00
--------- -------- ------------
Outstanding, May 31, 1996 26,289 16.65 0.02- 51.63
Granted and assumed 8,220 50.83 1.72- 80.13
Exercised (5,459) 8.50 0.02- 62.88
Canceled (1,012) 38.82 0.02- 80.13
--------- -------- ------------
Outstanding, May 31, 1997 28,038 $26.69 $0.02-$80.13
========= ======== ============
As of May 31, 1997, there were 4.8 million shares available for future grant.
51
Outstanding options as of May 31, 1997 Exercisable at May 31, 1997
-------------------------------------------------------------- ---------------------------------
Range of Number Weighted average Weighted average Number Weighted average
exercise prices: of shares exercise price contractual life of shares exercise price
--------- -------------- ---------------- --------- --------------
(in thousands) (in years) (in thousands)
$ 0.02-$13.21 11,101 $ 6.05 5.4 9,028 $ 5.42
$13.28-$48.25 12,030 $32.28 8.1 4,323 $28.22
$48.38-$80.13 4,907 $59.68 9.2 757 $57.67
------ ------ --- ------ ------
Total 28,038 $26.69 7.2 14,108 $15.21
====== ====== === ====== ======
There were 12.8 million options exercisable as of May 31, 1996, with a weighted
average exercise price of $8.43 per share.
In connection with the fiscal 1997 business combination with OnStream, the
Company assumed all outstanding options to purchase common stock of OnStream and
exchanged them for options to acquire approximately 400,000 shares of the
Company's common stock at exercise prices of $0.43 to $42.79 per share. See Note
3.
Employee Stock Purchase Plan. The Company has an employee stock purchase plan,
under which eligible employees may authorize payroll deductions of up to 10
percent of their compensation (as defined) to purchase common stock at a price
of 85 percent of the lower of the fair market value as of the beginning or the
end of the offering period.
Restricted Stock Plan. The Company has a restricted stock plan, under which
shares of common stock are reserved for issuance at no cost to key employees.
Compensation expense, equal to the fair market value on the date of the grant,
is recognized as the granted shares vest over a one-to-four year period.
Common Stock Reserved for Issuance. As of May 31, 1997, the Company had common
stock reserved for issuance as follows:
(In thousands)
Shareholder Rights Plan 178,374
Stock Option Plans 32,805
Employee Stock Purchase Plan 5,283
Convertible subordinated notes 3,183
Restricted Stock Plan 633
-------
Total shares reserved for issuance 220,278
=======
Stock Repurchase Program. In the second quarter of fiscal 1997, the Board of
Directors voted to rescind the Company's previously announced share repurchase
program. This action was taken by the Board as a result of uncertainties
regarding the Securities and Exchange Commission's interpretation of Staff
Accounting Bulletin No. 96 (SAB 96). Specifically, SAB 96 raises the possibility
that under certain circumstances, companies which have announced share
repurchase programs will not have the flexibility to employ the
pooling-of-interests accounting method when making acquisitions. The Company's
previously announced share repurchase program was authorized by the Board of
Directors in March of 1990. The Company did not repurchase any shares of common
stock during fiscal 1997.
Accounting for Stock-Based Compensation. As permitted under SFAS 123, the
Company has elected to follow APB 25 and related Interpretations, in accounting
for stock-based awards to employees. Under APB 25, the Company generally
recognizes no compensation expense with respect to such awards.
52
Pro forma information regarding net income and earnings per share is required by
SFAS 123. This information is required to be determined as if the Company had
accounted for its stock-based awards to employees (including employee stock
options and shares issued under the Employee Stock Purchase Plan, collectively
called "options") granted subsequent to May 31, 1995 under the fair value method
of that statement. The fair value of options granted in fiscal years 1997 and
1996 reported below has been estimated at the date of grant using the
Black-Scholes option pricing model with the following assumptions:
Employee Employee Stock
Stock Option Plans Purchase Plan
-------------------- ------------------
1997 1996 1997 1996
-------------------- ------------------
Risk-free interest rate 6.1% 5.4% 5.4% 5.4%
Volatility 54.0% 54.0% 54.0% 54.0%
Dividend yield 0.0% 0.0% 0.0% 0.0%
The expected lives of options under the Employee Stock Option and Employee Stock
Purchase Plans are estimated at one year after vest date, and six months,
respectively.
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions, including the expected stock price volatility. Because
the Company's options have characteristics significantly different from those of
traded options, and because changes in the subjective input assumptions can
materially affect the fair value estimate, in the opinion of management, the
existing models do not necessarily provide a reliable single measure of the fair
value of its options. The weighted average estimated fair value of employee
stock options granted during fiscal years 1997 and 1996 was $23.18 and $18.02
per share, respectively. The weighted average estimated fair value of shares
granted under the Employee Stock Purchase Plan during fiscal years 1997 and 1996
was $12.46 and $12.86, respectively.
For purposes of pro forma disclosures, the estimated fair value of the options
is assumed to be amortized to expense over the options' vesting period. The
Company's pro forma information follows:
1997 1996
--------- ---------
Net income: As reported $373,950 $177,854
Pro forma 312,009 152,398
Earnings per share: As reported $2.01 $1.00
Pro forma 1.68 .86
The effects on pro forma disclosures of applying SFAS 123 are not likely to be
representative of the effects on pro forma disclosures of future years. Because
SFAS 123 is applicable only to options granted subsequent to May 31, 1995, the
full effect on pro forma net income and earnings per share will not be reflected
until fiscal 1999.
Note 10: Foreign Exchange Contracts
Intercompany balances and balance sheet exposures. The Company does not use
derivative financial instruments for speculative or trading purposes. The
Company enters into foreign exchange forward contracts to hedge certain balance
sheet exposures and intercompany balances against future movements in foreign
exchange rates. Gains and losses on the foreign exchange contracts are included
in other income - net, which offset foreign exchange gains or losses from
revaluation of foreign currency-denominated balance sheet items and intercompany
balances. The contracts require the Company to
53
exchange foreign currencies for U.S. dollars or vice versa, and generally mature
in one month, unless otherwise noted below. At May 31, 1997, the Company had
outstanding foreign exchange forward contracts of $18.9 million which have
remaining maturities of one month. At May 31, 1997, the Company did not have any
outstanding foreign exchange forward contracts with maturities greater than one
month.
At May 31, 1996, the Company had outstanding foreign exchange forward contracts
of $24.1 million, excluding the foreign exchange contracts related to the
purchase of manufacturing equipment and the refurbishment of a U.K. facility. At
May 31, 1996, the outstanding foreign exchange contracts related to the
manufacturing equipment and refurbishment of the U.K. facility were $5.6 million
and $10.7 million, respectively. During fiscal 1997, the manufacturing equipment
was purchased and the refurbishment of the U.K. facility was completed.
Note 11: Financial Instruments Fair Value Disclosure
The following summary disclosures are made in accordance with the provisions of
SFAS No. 107, "Disclosures About Fair Value of Financial Instruments," which
requires the disclosure of fair value information about both on- and off-balance
sheet financial instruments where it is practicable to estimate the value. Fair
value is defined in SFAS 107 as the amount at which an instrument could be
exchanged in a current transaction between willing parties, rather than in a
forced or liquidation sale, which is not the Company's intent.
Because SFAS 107 excludes certain financial instruments and all non-financial
instruments from its disclosure requirements, any aggregation of the fair value
amounts presented would not represent the underlying value of the Company.
May 31, 1997 May 31, 1996
--------------------- --------------------
Carrying Estimated Carrying Estimated
(Dollars in thousands) Amount Fair Value Amount Fair Value
-------------------------------------------
Assets:
Cash and cash equivalents $351,237 $351,237 $216,759 $216,759
Temporary cash investments 538,706 538,706 282,578 282,578
Corporate equity securities 13,084 13,084 15,619 15,619
Liabilities:
Convertible subordinated notes $110,000 $161,425 $110,000 $182,463
Commitments:
Foreign exchange contracts $ 18,856 $ 18,864 $ 29,752 $ 29,711
The following methods and assumptions were used in estimating the fair values of
financial instruments:
Cash and cash equivalents. The carrying amounts reported in the balance sheets
for cash and cash equivalents approximate their estimated fair values.
Temporary cash investments, corporate equity securities, convertible
subordinated notes, and foreign exchange contracts. The fair value of temporary
cash investments, corporate equity securities, convertible subordinated notes,
and foreign exchange contracts are based on quoted market prices.
54
Note 12: Acquisition-related Charges and Other
Acquisition-related charges for the year ended May 31, 1997 consisted of direct
transaction costs of $6.6 million, primarily investment banking and other
professional fees, related to the acquisition of OnStream. See Note 3.
Acquisition-related charges for the year ended May 31, 1996 consisted of
acquisition costs of $69.0 million related to the acquisition of Chipcom. See
Note 3. The $69.0 million charge included $60.8 million of exit expenses and
$8.2 million of direct transaction costs, primarily for investment banking and
other professional fees. Exit expenses included approximately $37.8 million of
costs of eliminating duplicate and discontinued products, $5.1 million of
severance and related costs for approximately 80 employees primarily associated
with duplicate or discontinued product lines, field sales and administrative
functions, $4.3 million of costs of eliminating duplicate facilities and $13.6
million of other acquisition-related costs. In addition to the
acquisition-related charges in fiscal 1996 was a charge of approximately $1.0
million for a litigation settlement.
Acquisition-related charges for the year ended May 31, 1995 consisted of direct
transaction costs of $11.2 million related to 3Com's acquisitions of Sonix and
Primary Access, and Chipcom's acquisition of Artel. See Note 3. Offsetting the
acquisition-related charges in fiscal 1995 was a $1.1 million reduction in
accrued costs associated with the fiscal 1991 restructuring based on revised
estimates of future costs.
Note 13: Other Income - Net
Other income - net consists of: Years ended May 31,
---------------------------------------
(Dollars in thousands) 1997 1996 1995
-------- -------- --------
Interest income $ 34,447 $ 21,636 $ 12,338
Interest expense (11,830) (12,611) (7,144)
Other (1,728) (2,237) (299)
-------- -------- --------
Total $ 20,889 $ 6,788 $ 4,895
======== ======== ========
55
Note 14: Income Taxes
The provision for income taxes consists of: Years ended May 31,
-----------------------------------
(Dollars in thousands) 1997 1996 1995
--------- --------- ---------
Current:
Federal $ 126,610 $ 67,645 $ 69,113
State 39,648 22,957 22,112
Foreign 49,520 46,163 23,380
--------- --------- ---------
Total current 215,778 136,765 114,605
--------- --------- ---------
Deferred:
Federal (4,254) (3,195) (22,333)
State (7,166) (3,449) (7,790)
Foreign 5,946 494 310
--------- --------- ---------
Total deferred (5,474) (6,150) (29,813)
--------- --------- ---------
Total $ 210,304 $ 130,615 $ 84,792
========= ========= =========
The components of the net deferred tax assets at May 31 consist of:
(Dollars in thousands) 1997 1996
--------- ---------
Deferred tax assets:
Reserves not recognized for tax purposes $ 99,526 $ 65,537
Net operating loss carryforwards 23,691 24,229
Amortization and depreciation 17,918 20,418
Other 18,016 17,494
Valuation allowance (26,785) (27,491)
--------- ---------
Total deferred tax assets 132,366 100,187
--------- ---------
Deferred tax liabilities:
Unremitted earnings (57,863) (32,406)
Net unrealized gain on available-for-sale
securities (1,546) (4,821)
Other (920) --
--------- ---------
Net deferred tax assets $ 72,037 $ 62,960
========= =========
The valuation allowance relates primarily to the remaining portion of acquired
net operating losses as the Company believes that, due to various limitations,
it is more likely than not that such benefits will not be realized. The
allowance also relates to certain expenses, the realization of which is not
assured on future state income tax returns. The valuation allowance decreased
$706,000 and $491,000 in fiscal 1997 and 1996, respectively, and increased $15.8
million in fiscal 1995.
56
The provision for income taxes differs from the amount computed by applying the
federal statutory income tax rate to income before taxes as follows:
Years ended May 31,
----------------------
1997 1996 1995
---- ---- ----
Tax computed at federal statutory rate 35.0% 35.0% 35.0%
State income taxes, net of federal effect 3.6 4.1 4.1
Foreign sales corporation (0.4) (0.7) (1.1)
Tax exempt investment income (0.6) (0.6) (0.9)
Provision for combined foreign and U.S.
taxes on certain foreign income at
rates less than U.S. rates (2.4) (4.6) (3.5)
Research tax credits (0.5) (0.1) (1.5)
Non-deductible purchased in-process technology
and acquisition-related charges 0.6 7.6 3.1
Other 0.7 1.6 1.8
---- ---- ----
Total 36.0% 42.3% 37.0%
==== ==== ====
Income before income taxes for the fiscal years ended May 31, 1997, 1996 and
1995 includes income of $340.9 million, $241.1 million, and $131.2 million,
respectively from the Company's foreign subsidiaries. The Company has not
provided for federal income taxes on approximately $173.5 million of
undistributed earnings of its foreign subsidiaries in countries in which the
statutory tax rates are less than the U.S. rates. The Company intends to
reinvest in subsidiary operations indefinitely. If such undistributed earnings
were to be remitted, the related tax liability would be approximately $48.2
million.
Note 15: Geographic Area Information
The Company operates in a single industry segment: the design, manufacture,
marketing, and support of data networking systems. The Company's foreign
operations consist primarily of central distribution, order administration,
manufacturing and research and development facilities in Western Europe, and
sales, marketing and customer service activities conducted through sales
subsidiaries throughout the world.
Sales, operating income and identifiable assets, classified by the major
geographic areas in which the Company operates, are as follows:
(Dollars in thousands) 1997 1996 1995
---------- ---------- ----------
Sales to unaffiliated customers:
United States operations $1,482,438 $1,104,350 $ 767,484
Export sales from United States operations 560,485 456,906 302,670
European operations 1,104,183 764,992 523,151
Other -- 853 164
---------- ---------- ----------
Total $3,147,106 $2,327,101 $1,593,469
========== ========== ==========
57
Transfers from geographic areas
(eliminated in consolidation):
United States operations $ 237,470 $ 218,500 $ 144,862
European operations 573,180 300,482 123,360
Other 25,461 28,154 439
----------- ----------- -----------
Total $ 836,111 $ 547,136 $ 268,661
=========== =========== ===========
Operating income (loss):
United States operations $ 162,377 $ 103,020 $ 105,305
European operations 395,017 247,399 143,349
Other 5,215 21,185 (2,351)
Eliminations 756 (69,923) (21,847)
----------- ----------- -----------
Total $ 563,365 $ 301,681 $ 224,456
=========== =========== ===========
Identifiable assets:
United States operations $ 1,614,593 $ 1,091,091
European operations 617,229 441,668
Other 84,799 32,015
Eliminations (50,346) (39,657)
----------- -----------
Total $ 2,266,275 $ 1,525,117
=========== ===========
Operating income for the United States operations for the years ended May 31,
1996 and 1995 included charges of approximately $52.4 million and $68.7 million,
respectively, for purchased in-process technology resulting from the Company's
acquisitions in those years. See Note 3. In connection with the acquisition of
Chipcom, approximately $63.0 million of acquisition-related costs was charged to
the United States operations in fiscal 1996. See Note 12. Transfers between
geographic areas are accounted for at prices representative of unaffiliated
party transactions.
Note 16: Litigation
On October 13, 1995, the Company acquired Chipcom, which had already been named
as a defendant in the litigation described below. Five complaints were filed
between May 30, 1995 and June 16, 1995 that alleged violations by the defendants
of Sections 10(b) and 20(a) of the Securities and Exchange Act of 1934, and
sought unspecified damages. The cases were consolidated for pretrial purposes
pursuant to an order entered by the Court on June 15, 1995. The consolidated
action is entitled In re: Chipcom Securities Litigation, Civil Action No.
95-111114-DPW. A Consolidated Complaint was filed on September 13, 1995, and an
Amended Consolidated Complaint was filed on November 30, 1995.
The defendants' motion to dismiss the Amended Consolidated Complaint was granted
without leave to amend on May 1, 1996. The dismissal covers all five cases. The
plaintiffs appealed the order granting the dismissal. On October 1, 1996, the
parties to these cases agreed upon what the Company considers to be favorable
financial terms for settlement of all five cases, which amount the Company does
not consider material to its operations, financial position, or liquidity.
Pursuant to the settlement which was approved by the District Court on June 26,
1997, all claims of all persons which are related to the subject matter of the
Consolidated Complaint were settled and released.
58
On March 24, 1997, a putative shareholder class action lawsuit, entitled Hirsch
v 3Com Corporation, et al., Civil Action No. CV764977 was filed against the
Company and certain of its officers and directors in the California Superior
Court, Santa Clara County. The complaint alleges, among other things, fraud,
negligent misrepresentation and violations of the California securities laws,
including that during the putative class period, sales of the Company's stock by
officers and directors of 3Com and acquisitions made with the Company's stock
occurred at inflated prices in light of undisclosed information. Specifically,
the complaint alleges violations of Sections 25400 and 25500 of the California
Corporations Code, Sections 1709 and 1710 of the California Civil Code, and
Sections 17200 et seq. and 17500 et seq. of the California Business and
Professions Code. The complaint, which covers a putative period of September 24,
1996 through February 10, 1997, does not specify the damages sought. Management
believes that the action is not meritorious and intends to vigorously contest
it. An adverse resolution of the action could have a material adverse effect on
the Company's results of operations and financial condition in the quarter in
which such adverse resolution occurs.
U.S. Robotics and certain of its directors were named as defendants in eleven
lawsuits relating to the merger between the Company and U.S. Robotics (the
Merger) brought in the Delaware Chancery Court ("the Court"). See Note 17. The
Company has been named as a defendant in nine of these actions. The lawsuits,
which purport to be stockholder class actions brought on behalf of all U.S.
Robotics stockholders, allege, inter alia, that the directors of U.S. Robotics
have breached their fiduciary duties by approving the Merger Agreement, and that
the Company aided and abetted this alleged breach of duty. An agreement in
principle to settle this litigation has been reached with plaintiffs' counsel on
what the Company considers to be favorable financial terms, which amount the
Company does not consider to be material to its operations, financial position,
or liquidity. This settlement will not be final until approved by the Court
after a hearing.
Note 17: Subsequent Event
On June 12, 1997 the Company merged with U.S. Robotics by issuing approximately
158 million shares of its common stock in exchange for all outstanding common
stock of U.S. Robotics. The Company also assumed and exchanged all options to
purchase U.S. Robotics' stock for options to purchase approximately 31 million
shares of the Company's common stock. The transaction was accounted for as a
pooling-of-interests. U.S. Robotics is the leading supplier of products and
systems for accessing information across the wide area network, including modems
and remote access products.
The Company anticipates that as a result of the merger, the combined company
will incur restructuring charges and direct transaction costs relating to the
business combination, estimated to be between $325 million and $375 million.
These non-recurring costs will be charged to operations in the first quarter of
fiscal 1998. Restructuring charges will include costs related to the closure and
elimination of duplicate owned and leased facilities, the write-off of inventory
associated with duplicate and discontinued products, the write-off of fixed
assets, and severance and outplacement costs. Direct transaction costs will
consist primarily of investment banking and other professional fees.
The following unaudited pro forma summary presents the consolidated results of
operations assuming the merger with U.S. Robotics had occurred on June 1, 1994.
U.S. Robotics maintained its financial records on a 52-53 week fiscal year
ending nearest to September 30. The pro forma consolidated statement of income
for the year ended May 31, 1997 includes the U.S. Robotics' statement of income
for the twelve months ended March 30, 1997. The pro forma consolidated
statements of income for the fiscal years ended May 31, 1996 and 1995 include
the U.S. Robotics' statements of income for the fiscal years ended September 29,
1996 and October 1, 1995, respectively. This presentation has the effect of
including U.S. Robotics' results of operations for the six month period ended
September 29, 1996 in both the combined years ended May 31, 1997 and 1996, and
reflects sales of $1,158.2 million and net income of $76.8 million, which has
been reported as a decrease to the Company's fiscal 1997 retained earnings. The
pro forma combined results below reflect reclassifications to conform financial
statement
59
presentation and adjustments to conform the companies fixed asset capitalization
policies. These pro forma results have been prepared for comparative purposes
only and do not purport to be indicative of what would have occurred had this
transaction been effected on the date indicated above or of results which may
occur in the future.
(Unaudited. In thousands, except per share amounts) Years Ended May 31,
1997 1996 1995
- --------------------------------------------------------------------------------
Sales:
3Com $ 3,147,106 $ 2,327,101 $ 1,593,469
U.S. Robotics 2,493,791 1,977,512 889,347
Reclassifications to conform
accounting policies (36,751) (20,105) (3,056)
----------- ----------- -----------
Combined $ 5,604,146 $ 4,284,508 $ 2,479,760
=========== =========== ===========
Net income:
3Com $ 373,950 $ 177,854 $ 144,559
U.S. Robotics 237,258 170,021 65,951
Adjustments to conform
accounting policies (13,585) (7,259) (6,954)
----------- ----------- -----------
Combined $ 597,623 $ 340,616 $ 203,556
=========== =========== ===========
Net income per share
(on a fully diluted basis):
3Com $ 2.01 $ 1.00 $ 0.84
U.S. Robotics (1) 1.41 1.02 0.43
Adjustments to conform
accounting policies (0.04) (0.02) (0.02)
----------- ----------- -----------
Combined $ 1.69 $ 0.99 $ 0.63
=========== =========== ===========
(1) Adjusted for effect of exchange ratio of 1.75 shares of 3Com Common Stock
for each share of U.S. Robotics common stock.
If the merger with U.S. Robotics had been consummated on May 31, 1997,
consolidated total assets, liabilities, shareholders' equity and working capital
would have increased by $1,342.9 million, $520.3 million, $822.6 million, and
$529.5 million, respectively. Such May 31, 1997 pro forma consolidated balance
sheet information includes the balance sheet of U.S. Robotics as of March 30,
1997.
60
Quarterly Results of Operations (Unaudited)
Fiscal 1997 Quarters Ended Fiscal 1996 Quarters Ended
------------------------------------------- ------------------------------------------------
May 31, Feb. 28, Nov. 30, Aug. 31, May 31, Feb. 29, Nov. 30, Aug. 31,
1997 1997 1996 1996 1996 1996 1995 1995
- --------------------- -------- -------- -------- -------- -------- -------- -------- --------
(Dollars in thousands,
except per share data)
Sales $829,892 $786,778 $820,296 $710,140 $660,266 $606,002 $563,544 $497,289
-------- -------- -------- -------- -------- -------- -------- --------
Gross margin 433,811 428,462 448,990 383,493 350,508 321,183 296,825 261,739
Gross margin % 52.3% 54.5% 54.7% 54.0% 53.1% 53.0% 52.7% 52.6%
-------- -------- -------- -------- -------- -------- -------- --------
Operating income 131,584 129,371 162,518 139,892 71,711 113,010 29,921 87,039
-------- -------- -------- -------- -------- -------- -------- --------
Net income 89,164 87,645 105,569 91,572 29,498 74,590 16,345 57,421
Net income % 10.7% 11.1% 12.9% 12.9% 4.5% 12.3% 2.9% 11.5%
-------- -------- -------- -------- -------- -------- -------- --------
Fully diluted net
income per share $ 0.48 $ 0.47 $ 0.56 $ 0.50 $ 0.16 $ 0.42 $ 0.09 $ 0.33
-------- -------- -------- -------- -------- -------- -------- --------
Net income for the quarter ended November 30, 1996 included a charge of
approximately $6.6 million ($.04 per share) for merger-related costs. Net income
for the quarter ended May 31, 1996 included a charge of approximately $52.4
million ($.29 per share) for purchased in-process technology and a charge of
approximately $1.0 million (approximately $.01 per share) for a litigation
settlement. Net income for the quarter ended November 30, 1995 included a charge
of approximately $69.0 million ($.28 per share) for merger-related costs. See
Notes 3 and 12 to the Consolidated Financial Statements for additional
information on the above transactions. Excluding the non-recurring items noted
above, net income and net income per share on a fully diluted basis would have
been as follows:
Fiscal 1997 Quarters Ended Fiscal 1996 Quarters Ended
------------------------------------------- ------------------------------------------------
(Dollars in thousands, May 31, Feb. 28, Nov. 30, Aug. 31, May 31, Feb. 29, Nov. 30, Aug. 31,
except per share data) 1997 1997 1996 1996 1996 1996 1995 1995
- --------------------- -------- -------- -------- -------- -------- -------- -------- --------
Net income excluding
non-recurring items $89,164 $87,645 $112,169 $91,572 $82,469 $74,590 $65,553 $57,421
Net income per share
excluding non-
recurring items $ 0.48 $ 0.47 $ 0.60 $ 0.50 $ 0.46 $ 0.42 $ 0.37 $ 0.33
-------- ------- -------- ------- ------- ------- ------- -------
ITEM 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
61
PART III
ITEM 10. Directors and Executive Officers of 3Com
The information required by Item 10 of Form 10-K with respect to
identification of directors is incorporated by reference from the information
contained in the section captioned "Election of Directors" in 3Com's definitive
Proxy Statement for the Annual Meeting of Shareholders to be held October 7,
1997 (the "Proxy Statement"), a copy of which will be filed with the Securities
and Exchange Commission before the meeting date. For information with respect to
the executive officers of the Registrant, see "Executive Officers of the
Registrant" at the end of Part I of this report.
ITEM 11. Executive Compensation
The information required by Item 11 of Form 10-K is incorporated by
reference from the information contained in the section captioned "Executive
Compensation and Other Matters" in the Proxy Statement.
ITEM 12. Security Ownership of Certain Beneficial Owners and Management
The information required by Item 12 of Form 10-K is incorporated by
reference from the information contained in the section captioned "General
Information" in the Proxy Statement.
ITEM 13. Certain Relationships and Related Transactions
The information required by Item 13 of Form 10-K is incorporated by
reference from the information contained in the section captioned "Compensation
Committee Interlocks and Insider Participation" in the Proxy Statement.
PART IV
ITEM 14. Exhibits, Financial Statement Schedule, and Reports on Form 8-K
(a)(1) Financial Statements - See Index to Consolidated Financial
Statements and Financial Statement Schedule at page 36 of this
Form 10-K.
(2) Financial Statement Schedule - See Index to Consolidated
Financial Statements and Financial Statement Schedule at page
36 of this Form 10-K.
(3) Exhibits - See Exhibit Index at page 63 of this Form 10-K.
(b) The Registrant did not file or amend any reports on Form 8-K
during the last quarter of the fiscal year ended May 31, 1997.
(c) See Exhibit Index at page 63 of this Form 10-K.
(d) See Index to Consolidated Financial Statements and Financial
Statement Schedule at page 36 of this Form 10-K.
62
EXHIBIT INDEX
Exhibit
Number Description
3.1 Amended and Restated Articles of Incorporation (Exhibit 19.1 to Form
10-Q) (5)
3.2 Certificate of Amendment of the Amended and Restated Articles of
Incorporation (Exhibit 3.2 to Form 10-K) (9)
3.3 Bylaws, as amended and restated (Exhibit 4.2 to Form S-8) (7)
3.4 Certificate of Amendment of the Amended and Restated Articles of
Incorporation (Exhibit 4.1 to Form S-8) (13)
3.5 Certificate of Amendment of the Amended and Restated Articles of
Incorporation, dated October 4, 1996, as filed on October 9, 1996 (16)
4.1 Reference is made to Exhibit 3.1 (Exhibit 4.1 to Form 10-K) (9)
4.2 Indenture Agreement between 3Com Corporation and The First National
Bank of Boston for the private placement of convertible subordinated
notes dated as of November 1, 1994 (Exhibit 5.2 to Form 8-K) (10)
4.3 Placement Agreement for the private placement of convertible
subordinated notes dated November 8, 1994 (Exhibit 5.1 to Form 8-K)
(10)
4.4 Amended and Restated Rights Agreement dated December 31, 1994 (Exhibit
10.27 to Form 10-Q) (10)
10.1 1983 Stock Option Plan, as amended (Exhibit 10.1 to Form 10-K) (6)*
10.2 Amended and Restated Incentive Stock Option Plan (3)*
10.3 License Agreement dated March 19, 1981 (1)
10.4 Second Amended and Restated 1984 Employee Stock Purchase Plan (Exhibit
10.5 to Form 10-Q)(14)*
10.5 License Agreement dated as of June 1, 1986 (Exhibit 10.16 to Form 10-K)
(2)
10.6 Amended 3Com Corporation Director Stock Option Plan (Exhibit 10.8 to
Form 10-Q)(14)*
10.7 Ground Lease dated July 5, 1989 (Exhibit 10.19 to Form 10-K) (4)
10.8 Sublease Agreement dated February 9, 1989 (Exhibit 10.20 to Form 10-K)
(4)
10.9 3Com Corporation Restricted Stock Plan, as Amended (Exhibit 10.17 to
Form 10-Q)(14)*
10.10 Form of Escrow and Indemnification Agreement for Directors and Officers
(Exhibit 10.15 to Form 10-Q) (8)
10.11 1994 Stock Option Plan (Exhibit 10.22 to Form 10-K) (9)*
10.12 Agreement and Plan of Merger dated as of July 26, 1995 among 3Com
Corporation, Chipcom Acquisition Corporation and Chipcom Corporation
(Exhibit 2.1 to Form S-4) (12)
10.13 Lease Agreement between BNP Leasing Corporation, as Landlord, and 3Com
Corporation, as Tenant, effective as of November 20, 1996 (Exhibit
10.37 to Form 10-Q) (16)
10.14 Purchase Agreement between BNP Leasing Corporation and 3Com
Corporation, effective as of November 20, 1996 (Exhibit 10.38 to Form
10-Q) (16)
10.15 Agreement and Plan of Reorganization among 3Com Corporation, OnStream
Acquisition Corporation and OnStream Networks, Inc. dated as of October
5, 1996 (Exhibit 2.1 to Form S-4) (15)
63
10.16 Lease Agreement between BNP Leasing Corporation, as Landlord, and 3Com
Corporation, as Tenant, effective as of February 3, 1997 for the
Combined Great America Headquarters site (Exhibit 10.19 to Form 10-Q).
(18)
10.17 Purchase Agreement between BNP Leasing Corporation and 3Com
Corporation, effective as of February 3, 1997 for the Combined Great
America Headquarters site (Exhibit 10.20 to Form 10-Q). (18)
10.18 Credit Agreement dated as of December 20, 1996 among 3Com Corporation,
Bank of America National Trust and Savings Association, as Agent, and
the Other Financial Institutions Party Hereto Arranged by BA
Securities, Inc. (Exhibit 10.21 to Form 10-Q. (18)
10.19 Amended and Restated Agreement and Plan of Merger by and among 3Com
Corporation, TR Acquisitions Corporation, 3Com (Delaware) Corporation,
and U.S. Robotics Corporation, dated as of February 26, 1997 and
amended as of March 14, 1997(17)
21.1 Subsidiaries of the Registrant
23.1 Deloitte & Touche LLP Consent
23.2 Consent of Price Waterhouse LLP
23.3 Report of Independent Accountants on Financial Statement Schedule
- --------------------------------------------------------------------------------
* Indicates a management contract or compensatory plan.
(1) Incorporated by reference to the corresponding Exhibit previously filed
as an Exhibit to Registrantis Registration Statement on Form S-1 filed
January 25, 1984 (File No. 2-89045)
(2) Incorporated by reference to the corresponding Exhibit or the Exhibit
identified in parentheses previously filed as an Exhibit to
Registrantis Form 10-K filed August 29, 1987 (File No. 0-12867)
(3) Incorporated by reference to Exhibit 10.2 to Registrant's Registration
Statement on Form S-4 filed on August 31, 1987 (File No. 33-16850)
(4) Incorporated by reference to the corresponding Exhibit or the Exhibit
identified in parentheses previously filed as an Exhibit to
Registrantis Form 10-K filed on August 28, 1989 (File No. 0-12867)
(5) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-Q filed on
January 2, 1991 (File No. 0-12867)
(6) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-K filed on
August 27, 1991 (File No. 0-12867)
(7) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Registration Statement
on Form S-8, filed on November 24, 1993 (File No. 33-72158)
(8) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-Q filed on
January 14, 1994 (File No. 0-12867)
64
(9) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-K filed on
August 31, 1994 (File No. 0-12867)
(10) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 8-K filed on
November 16, 1994 (File No. 0-12867)
(11) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrant's Form 10-Q filed on
January 13, 1995 (File No. 0-12867)
(12) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Registration Statement
on Form S-4, originally filed on August 31, 1995 (File No. 33-62297)
(13) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Registration Statement
on Form S-8, filed on October 19, 1995 (File No. 33-63547)
(14) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-Q, filed on
January 15, 1996 (File No. 0-12867)
(15) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Registration Statement
on Form S-4, originally filed on October 11, 1996 (File No. 333-13993)
(16) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-Q filed on
January 13, 1997 (File No. 0-12867)
(17) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Registration Statement
on Form S-4, filed on March 17, 1997 (File No. 333-23465)
(18) Incorporated by reference to the Exhibit identified in parentheses
previously filed as an Exhibit to Registrantis Form 10-Q filed on April
11, 1997 (File No. 0-12867)
65
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 the 26th day of
August, 1997.
3Com Corporation
(Registrant)
By /s/ Eric A. Benhamou
-----------------------------------------------
Eric A. Benhamou
Chairman, President and Chief Executive Officer
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 indicated on the 26th day of August, 1997.
Signature Title
/s/ Eric A. Benhamou Chairman of the Board, President and
- ---------------------------------- Chief Executive Officer
(Eric A. Benhamou) (Principal Executive Officer)
/s/ Casey Cowell Vice Chairman of the Board
- ----------------------------------
(Casey Cowell)
Senior Vice President, Finance
/s/ Christopher B. Paisley and Chief Financial Officer
- ---------------------------------- (Principal Financial and Accounting Officer)
(Christopher B. Paisley)
/s/ James L. Barksdale Director
- ----------------------------------
(James L. Barksdale)
/s/ Gordon A. Campbell Director
- ----------------------------------
(Gordon A. Campbell)
/s/ James E. Cowie Director
- ----------------------------------
(James E. Cowie)
/s/ David W. Dorman Director
- ----------------------------------
(David W. Dorman)
/s/ Jean-Louis Gassee Director
- ----------------------------------
(Jean-Louis Gassee)
/s/ Stephen C. Johnson Director
- ----------------------------------
(Stephen C. Johnson)
/s/ Philip C. Kantz Director
- ----------------------------------
(Philip C. Kantz)
/s/ Paul Yovovich Director
- ----------------------------------
(Paul Yovovich)
/s/ William F. Zuendt Director
- ----------------------------------
(William F. Zuendt)
66
SCHEDULE II
3Com Corporation
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
For the Years Ended May 31, 1995, 1996 and 1997
(Dollars in thousands)
Additions Reclassifications
Balance at charged to and charges Pooled Balance at
beginning costs and to other Business- end of
Description of period expenses accounts Deductions Net period
- ----------- -------- -------- -------- -------- -------- --------
Year ended May 31, 1995:
Allowance for doubtful accounts $ 12,130 $ 7,113 $ 1,214(5) $ 409(3) $ (26)(1) $ 20,022
Product return reserve 5,939 13,306 430(5) 7,682 -- 11,993
Accrued product warranty 15,016 23,014 185(5) 15,674 215(1) 22,756
Restructuring reserves:
Inventory reserve 925 -- -- 925 -- --
Property and equipment reserve 93 (93)(4) -- -- -- --
Accrued restructuring costs 2,736 (1,007)(4) -- 1,729 -- --
-------- -------- -------- -------- -------- --------
Total restructuring reserves $ 3,754 $ (1,100) $ -- $ 2,654 $ -- $ --
-------- -------- -------- -------- -------- --------
Year ended May 31, 1996:
Allowance for doubtful accounts $ 20,022 $ 11,638 $ 10(5) $ 4,016(3) $ (733)(2) $ 26,921
Product return reserve 11,993 51,485 -- 41,260 (2,957)(2) 19,261
Accrued product warranty 22,756 36,086 40(5) 28,491 183 (2) 30,574
Acquisition-related reserves:
Inventory reserve -- 27,057 -- 12,433 -- 14,624
Property and equipment reserve -- 9,451 -- 1,593 -- 7,858
Non-current asset reserve -- 7,812 -- 7,812 -- --
Accrued acquisition-related costs -- 24,680 -- 13,477 -- 11,203
-------- -------- -------- -------- -------- --------
Total acquisition-related
reserves $ -- $ 69,000 $ -- $ 35,315 $ -- $ 33,685
-------- -------- -------- -------- -------- --------
Year ended May 31, 1997:
Allowance for doubtful accounts $ 26,921 $ 17,016 $ -- $ 6,678(3) $ -- $ 37,259
Product return reserve 19,261 52,069 -- 37,004 -- 34,326
Accrued product warranty 30,574 48,783 -- 34,370 -- 44,987
Acquisition-related reserves:
Inventory reserve 14,624 -- -- 4,158 -- 10,466
Property and equipment reserve 7,858 -- -- 7,472 -- 386
Accrued acquisition-related costs 11,203 -- -- 5,089 -- 6,114
-------- -------- -------- -------- -------- --------
Total acquisition-related
reserves $ 33,685 $ -- $ -- $ 16,719 $ -- $ 16,966
======== ======== ======== ======== ======== ========
(1) Pooled business - net represents activity of Primary Access for the
period for October 1, 1995 through May 31, 1995 (see Note 3 to the
Consolidated Financial Statements).
(2) Pooled business - net represents activity of Chipcom for the period for
January 1, 1995 through May 31, 1995 (see Note 3 to the Consolidated
Financial Statements).
(3) Accounts written off - net of recoveries.
(4) Reduction in restructuring reserves based on current estimates of
future costs.
(5) Adjustments relating to purchased businesses.
S-1