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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE):
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended September 30, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission File Number: 0-22175
EMCORE CORPORATION
(Exact name of registrant as specified in its charter)
NEW JERSEY 22-2746503
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
394 ELIZABETH AVENUE, SOMERSET, NJ 08873
(Address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (732) 271-9090
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, NO PAR VALUE
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of common stock held by non-affiliates of the
registrant as of December 23, 1998 was approximately $100,427,286 (based on the
closing sale price of $18.25 per share).
The number of shares outstanding of the registrant's no par value common stock
as of December 23, 1998 was 9,385,618.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's definitive Proxy Statement for the 1999 Annual
Meeting of Shareholders (to be filed with the Securities and Exchange
Commission on or before January 28, 1999) are incorporated by reference in Part
III of this Form 10-K.
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CAUTIONARY STATEMENT IDENTIFYING IMPORTANT FACTORS
THAT COULD CAUSE THE COMPANY'S ACTUAL RESULTS TO DIFFER
FROM THOSE PROJECTED IN FORWARD LOOKING STATEMENTS:
In connection with the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995, readers of this document are advised that it
contains both statements of historical facts and forward looking statements.
This report includes forward-looking statements that reflect current
expectations or beliefs of EMCORE Corporation concerning future results and
events. The words "expects," "intends," "believes," "anticipates," "likely,"
"will," and similar expressions identify forward-looking statements. These
forward-looking statements are subject to certain risks and uncertainties which
could cause actual results and events to differ materially from those
anticipated in the forward-looking statements. Factors that might cause such a
difference include, but are not limited to, statements about future financial
performance of the Company and the effect of the acquisition of MicroOptical
Devices, Inc. ("MODE") on the Company's business; the uncertainty of additional
funding; continued acceptance of the Company's MOCVD technologies, as well as
the market success of microlaser VCSEL technologies; the Company's ability to
achieve and implement the planned enhancements of products and services on a
timely and cost effective basis and customer acceptance of those product
introductions; product obsolescence due to advances in technology and shifts in
market demand; competition and resulting price pressures; business conditions;
economic and stock market conditions, particularly in the U.S., Europe and
Japan, and their impact on sales of the company's products and services; risks
associated with foreign operations, including currency and political risks; and
such other risk factors as may have been or may be included from time to time in
the Company's reports filed with the Securities and Exchange Commission.
PART I
ITEM 1. BUSINESS
COMPANY OVERVIEW
EMCORE Corporation (together with its subsidiary, "EMCORE" or the
"Company"), founded in 1984, designs and develops compound semiconductor
materials and process technology and is a leading manufacturer of production
systems used to fabricate compound semiconductor wafers. The Company provides
its customers, both in the U.S. and internationally, with materials science
expertise, process technology and compound semiconductor production systems
that enable the manufacture of commercial volumes of high-performance
electronic and optoelectronic devices. In 1996, in response to the growing need
of its customers to cost effectively get to market faster with high volumes of
new and improved high-performance products, the Company expanded its product
offerings to include the design, development and production of compound
semiconductor wafers and package-ready devices.
INDUSTRY OVERVIEW
Recent advances in information technologies have created a growing need
for power efficient, high-performance electronic systems that operate at very
high frequencies, have increased storage capacity and computational and display
capabilities, and can be produced cost-effectively in commercial volumes. In
the past, electronic systems manufacturers have relied on advances in silicon
semiconductor technology to meet many of these demands. However, the newest
generation of high-performance electronic and optoelectronic applications
require certain functions which are generally not achievable using
silicon-based components. To address these market demands, electronic system
manufacturers are increasingly incorporating new electronic and optoelectronic
devices into their products in order to improve performance or enable new
applications.
Compound semiconductors have emerged as an enabling technology to meet
the complex requirements of today's advanced information systems. Compound
semiconductor devices can be used to perform individual functions as discrete
devices, such as high-brightness light-emitting diodes ("HB LEDs"), lasers and
solar cells, or can be combined into integrated circuits, such as transmitters,
receivers and alpha-numeric displays. Many compound semiconductor materials
have unique physical properties that allow electrons to move at least four
times faster than through silicon-based devices. This higher electron mobility
enables a compound semiconductor device to operate at much higher speeds than
silicon devices with lower power consumption and less noise and distortion. In
addition, unlike silicon-based devices, compound semiconductor devices have
optoelectronic capabilities that enable them to emit and detect light. As a
result, electronics manufacturers are increasingly integrating compound
semiconductor
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devices into their products in order to achieve higher performance in a wide
variety of applications, including satellite, fiberoptic and wireless
communications, telecommunications, computers, and consumer and automotive
electronics.
Historically, developers of compound semiconductor devices have met
capacity needs with in-house systems and technologies. However, the
requirements for the production of commercial volumes of high-performance
compound semiconductor devices have often exceeded the capabilities of such
in-house solutions. The Company believes that wafers fabricated using metal
organic chemical vapor deposition ("MOCVD") possess better uniformity, as well
as better optical and electronic properties, than wafers fabricated by
traditional methods. The Company believes that its proprietary TurboDiscTM
MOCVD system provides a low cost of ownership and is the critical enabling
process step in the volume manufacture of high-performance electronic and
optoelectronic devices. The Company works closely with its customers in
designing and developing materials processes to be used in production systems
for its customers' end-use applications. The Company has sold more than 225
systems worldwide to a broad base of leading electronics manufacturers,
including: Spectrolab, Inc. (a subsidiary of Hughes Electronics Company,
"Hughes-Spectrolab"), General Motors Corp. ("General Motors"), Hewlett Packard
Co., Honeywell, Inc., Lucent Technologies, Inc., Rockwell International Corp.
("Rockwell"), Samsung Co., Siemens AG, L.M. Ericsson AB, Texas Instruments Inc.
and 13 of the largest electronics manufacturers in Japan.
SATELLITE COMMUNICATIONS. Compound semiconductor solar cells are used
to power satellites because they are more tolerant to radiation levels in space
and have higher power-to-weight ratios than silicon-based solar cells, thereby
increasing satellite life and payload capacity. Compound semiconductor devices
are also used in ultra-high frequency satellite up-converters and
down-converters to cost-effectively deliver information to fixed and mobile
users over wide geographic areas. The Company is developing high efficiency
gallium arsenide solar cells to increase satellite payload capacity and reduce
launch weight.
DATA COMMUNICATIONS. To accommodate the exponential growth in voice,
data and video traffic resulting from the Internet and networking generally,
telecommunications companies, data communications, switch and router companies
and Internet service providers are relying on fiber optic networks utilizing
high-speed switching technologies to increase transmission rates. New and
emerging standards, including Gigabit Ethernet, asynchronous transfer mode
("ATM") and FibreChannel, provide a solid infrastructure for bringing fiber
optics into these networks. As these standards are rapidly deployed in networks
worldwide, the need for high-speed fiber optic technologies to support them
grows proportionally. The Company supports these standards through its recently
announced high speed vertical cavity surface-emitting laser ("VCSEL")
components, arrays, and subassemblies developed to meet the needs of these and
other demanding applications.
TELECOMMUNICATIONS. The most common deployment of fiber optic equipment
is currently in high capacity trunk lines for long distance and inter-exchange
telecommunications. Long distance carriers continue to upgrade their networks to
incorporate more and more fiber optic technology. The market for
telecommunications will continue to expand as carriers convert copper
interconnections to higher capacity fiber optic cable. In addition to extending
and expanding the existing infrastructure, the trend is moving to higher and
higher bit rate connections - from 2.5Gbs to 10Gbs, driving the need for greater
sophistication in laser and compound semiconductor technology. The Company's
in-depth material science expertise and its recently announced achievements in
high speed microlasers allow the Company to offer fully integrated VCSEL
component and array solutions in the industry and enable the development of
1300nm VCSELs, which will help make low cost, high performance broadband access
and fiber-in-the-loop possible.
WIRELESS COMMUNICATIONS. Compound semiconductor devices have multiple
applications in wireless communication products, including cellular telephones,
pagers, personal communication systems ("PCS") handsets, direct broadcast
systems ("DBS") and global positioning systems. Compound semiconductor devices
are used in high frequency transmitters, receivers and power amplifiers to
increase capacity, improve signal to noise performance and lower power
consumption, which in turn reduces network congestion, increases roaming range
and extends battery life. In addition, HB LEDs are used in electronic displays
on these products in order to reduce size, weight and power consumption and to
improve display visibility.
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COMPUTERS AND PERIPHERALS. As computer manufacturers continue to
integrate faster and faster microprocessors into their systems designs, the gap
between the internal central processing unit ("CPU") speed and the external bus
continues to grow. As this gap increases, computer suppliers are concerned less
with processor speed, and more with overall system performance. Computer
manufacturers are increasingly looking to compound semiconductor products and
specifically to on board photonic interconnects to greatly enhance system
performance. Several major computer and microprocessor manufacturers have
expressed interest in integrating the Company's VCSEL technology into their next
generation products.
CONSUMER ELECTRONICS. Consumer electronics manufacturers are using
compound semiconductor devices to improve the performance of many existing
products and to develop new applications. For example, next generation compact
disc players are utilizing shorter wavelength compound semiconductor lasers to
read and record information on high density digital videodiscs ("DVDs") which
store at least four times more information than a conventional compact disc. In
addition, compound semiconductor devices are increasingly being used in
advanced display technologies. Ultra-thin LED flat panel displays are being
used in a variety of applications, including point-of-purchase displays and
outdoor advertising with live-action billboards, and are being developed for
use in laptop computers and flat panel television screens. Gallium nitride
based HB LEDs are being developed for lighting applications that in the future
may replace incandescent light bulbs.
AUTOMOTIVE ELECTRONICS. Compound semiconductor devices are increasingly
being used by automotive manufacturers to improve vehicle performance while
reducing weight and costs through lower power consumption. These devices are
utilized in a wide variety of applications, including dashboard displays,
indicator lights, engine sensors, anti-lock braking systems and other
electronic systems. In addition, the Company believes that the use of
electronic components within automobiles is likely to increase as manufacturers
design vehicles to comply with state and federal environmental and safety
regulations. Automotive production cycles generally last three to five years,
providing a relatively predictable source of demand for compound semiconductor
devices once an electronic component is designed into a specific vehicle model.
The high-performance characteristics of compound semiconductors,
combined with the requirements of advanced information systems, have led to the
widespread deployment of compound semiconductor devices within a broad range of
electronic systems. The Company believes that the following factors have
resulted in an increased demand for compound semiconductor production systems,
wafers and devices which enable electronic systems manufacturers to reach the
market faster with high volumes of high-performance products and applications:
o Launch of new wireless services such as PCS and wireless high
speed data systems;
o Rapid build-out of satellite communications systems;
o Widespread deployment of fiber optic networks and the
increasing use of optical systems;
o Increasing use of infrared emitters and optical detectors in
computer systems;
o Emergence of advanced consumer electronics applications, such
as DVDs, flat panel displays and lighting; and,
o Increasing use of high-performance electronic devices in
automobiles.
THE EMCORE SOLUTION
EMCORE provides its customers with materials science expertise, process
technology and MOCVD production systems that enable the manufacture of
commercial volumes of high-performance compound semiconductor wafers and
devices. EMCORE believes that its proprietary TurboDiscTM deposition technology
makes possible one of the most cost-effective production systems for the
commercial volume manufacture of high-performance compound semiconductor wafers
and devices. EMCORE is capitalizing on its technology base to address the
critical need of electronics manufacturers to cost-effectively get to market
faster with high volumes of new and improved high-performance products. EMCORE
offers its customers a broad range of products and services and a vertically
integrated product line which includes device design, materials and process
development, MOCVD production systems, epitaxial wafers and package-ready
devices. The Company believes that its knowledge base and materials
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science expertise uniquely position the Company to become a valuable source for
a broad array of solutions for the compound semiconductor industry.
STRATEGY
The Company believes that its close collaborations with its customers
over the past fourteen years have contributed to its position in the MOCVD
process technology and production systems market. The Company's objective is to
capitalize on this position to become a leading supplier of compound
semiconductor wafers and package-ready devices. The key elements of the
Company's strategy include:
PROVIDE COMPLETE COMPOUND SEMICONDUCTOR SOLUTIONS. The Company's
vertically-integrated product offerings allow it to provide complete compound
semiconductor solutions to a broad range of electronics manufacturers in order
to meet their diverse technology requirements. The Company plans to capitalize
on the growing need of electronics manufacturers to reach the market faster and
more cost-efficiently with high volumes of end products. The Company assists
its customers with device design, process development and optimal configuration
of production systems. Moreover, the Company can also serve its customers as a
reliable source for high-volume production of wafers or devices. Through its
materials science expertise, process technology and commercial production
systems, the Company intends to become an integral part of its customers'
compound semiconductor product life cycle.
FORM STRATEGIC RELATIONSHIPS WITH CUSTOMERS. By developing enabling
technologies, the Company seeks to form strategic alliances with its customers
in order to obtain long-term development and high volume production contracts.
For example, the Company currently has a strategic relationship with General
Motors under which it has developed and enhanced the device structure and
production process for, and is manufacturing and shipping Magneto Resistive
Sensors ("MR Sensors") products for use in General Motors' automotive
applications. During fiscal 1998, the Company formed a joint venture with
Uniroyal Technology Corporation ("UTC"), and in November 1998, it also formed
joint ventures with Optek Technology, Inc. and Union Miniere Inc. Additionally,
the Company has entered into strategic agreements with AMP Incorporated, Space
Systems/Loral ("Loral") and Lockheed Martin Corporation. The Company intends to
actively seek similar strategic relationships with other key customers in order
to further expand its technological and production base.
EXPAND TECHNOLOGY LEADERSHIP. The Company has developed and optimized
its compound semiconductor processes and has developed higher performance
production systems through substantial investments in research and development.
The Company works closely with its customers to identify specific performance
criteria in its production systems, wafers and package-ready devices. The
Company intends to continue to expend substantial resources in research and
development in order to enhance the performance of its production systems and
to further expand its process and materials science expertise, including the
development of new low cost, high volume wafers and package-ready devices for
its customers.
STRATEGIC INITIATIVES
Throughout fiscal 1998, the Company has taken steps or formed strategic
relationships to take advantage of market opportunities. In December 1997, the
Company acquired MicroOptical Devices, Inc. ("MODE"). At the date of
acquisition, MODE (a development stage company) was substantially dedicated to
the research and development of enabling compound semiconductor technologies. In
February 1998, MODE announced its first commercial high speed laser
(Gigalase(TM)) and thereafter commenced commercial volume shipments. Having
achieved commercial product development, MODE now designs, develops and markets
high-quality VCSEL optical components and subassemblies. The Company's
technology is expected to enable significant performance and cost improvements
in optoelectronic systems. VCSELs offer significant advantages over traditional,
edge-emitting laser diodes, including: ultra high modulation rates, low power
consumption, high coupling efficiencies and reduced complexity and cost of
packaging. VCSELs represent a revolutionary approach to the fabrication of
semiconductor lasers and enhance the performance and cost-effectiveness of
communications equipment, computer systems and many other electronic systems
using lasers. As a result, leading electronics systems manufacturers are
integrating VCSELs into a broad array of end-market applications including
Internet access, digital cross connect telecommunications switches, DVD,
fiberoptic switching and routing, such as Gigabit Ethernet. In addition, VCSEL
technology is being evaluated for incorporation into multi-layered printed
circuit boards in order to greatly increase the speed at which on-board
components interface. The Company believes that utilizing VCSELs for
chip-to-chip and board-to-board data transfer
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will significantly reduce the performance gap between the frequency of the
microprocessor and other components within computer systems.
In addition to the MODE acquisition, the Company launched three joint
ventures during the past twelve months. In July 1998, the Company formed and is
a minority investor in Uniroyal Optoelectronics, LLC, a joint venture with UTC
to manufacture, sell and distribute HB LEDs. The global demand for HB LEDs is
experiencing rapid growth because LEDs have a long useful life (ten years) and
consume far less power than incandescent/fluorescent lighting.
In November 1998, the Company formed a joint venture with Optek
Technology, Inc., a packager and distributor of optoelectronic devices including
sensors, to market an expanded line of MR Sensors to the automotive and related
industries. The "Emtek" joint venture combines the Company's strength in
producing a package-ready die with Optek's strength in packaging and
distribution thus enabling the Company to offer off-the-shelf products which
should enhance market penetration.
Also in November 1998, the Company formed a joint venture ("Umcore") in
a partnership with Union Miniere Inc. to explore and develop alternate uses of
germanium using the Company's material science and production platform
expertise.
In November 1998, the Company signed a four year Long Term Purchase
Agreement (the "Long Term Purchase Agreement") with Loral, a wholly owned
subsidiary of Loral Space & Communications. Under the Long Term Purchase
Agreement, once EMCORE completes Loral's space qualification and test
procedures, the Company will supply Loral with compound semiconductor high
efficiency gallium arsenide solar cells for Loral's satellite requirements.
Subject to the foregoing requirements, the Company received an initial purchase
order for $5.25 million of solar cells.
In September 1998, the Company entered into an agreement with Lockheed
Martin Missiles and Space ("LMMS"), a strategic business unit of Lockheed
Martin Corporation, for the technical management and support of a LMMS and
Sandia National Laboratory ("Sandia") Cooperative Research and Development
Agreement ("CRADA") for the advancement, transfer and commercialization of a
new compound semiconductor high efficiency solar cell. Pursuant to this
strategic agreement, (i) LMMS will grant the Company a sub-license for all
CRADA related intellectual property developed on behalf of and in conjunction
with LMMS and (ii) the Company and LMMS will jointly qualify and validate the
high efficiency solar cells for operational satellite use. The Company has also
received a $2.5 million contract under the U.S. Air Force's Broad Agency
Announcement ("BAA") Program for the development of high efficiency advanced
solar cells.
In September 1998, the Company signed a four year purchase agreement
with AMP Incorporated to provide high speed VCSELs. AMP Incorporated presently
uses the Company's VCSEL's in transceivers for Gigabit Ethernet applications.
In October 1998, the Company opened a new facility, EMCOREwest, in
Sandia Science and Technology Park, Albuquerque, New Mexico. The Company plans a
three-phase construction project which will allow the facility to expand from an
initial 50,000 square feet in October 1998 to 70,000 square feet by 2002.
Production of wafers and devices at EMCOREwest is scheduled to begin in the
second calendar quarter of 1999. In connection with the construction of this
facility, the City of Albuquerque has issued a $55 million Industrial Revenue
Bond (the "IRB") to the Company, which provides the Company with New Mexico
tax-exempt status on the property and the purchase of equipment and supplies.
The Company estimates that total tax savings over the 20-year life of the bond
will exceed $10.0 million. MODE also completed the build-out of its fabrications
space in Albuquerque, New Mexico with an additional 20,000 square feet of
cleanroom and test facilities.
RECENT DEVELOPMENTS
On June 22, 1998, the Company entered into an $8.0 million revolving
loan agreement (the "1998 Agreement") with First Union National Bank (the
"Bank") which expires December 31, 1999. The 1998 Agreement bears interest at a
rate equal to one-month LIBOR plus three quarters of one percent per annum (6.4%
at September 30, 1998). The 1998 Agreement is guaranteed by the Company's
Chairman and Chief Executive Officer. In exchange for guaranteeing the facility,
the Chairman and the Chief Executive Officer were granted an aggregate of
284,684 common stock purchase warrants exercisable at $11.375 per share until
May 1,
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2001. These warrants are callable at the Company's option at $0.85 per warrant
at such time as the Company's Common Stock has traded at or above 150% of the
exercise price for a period of 30 days. The Company borrowed $5.0 million on
June 22, 1998 and the remaining $3.0 million on July 10, 1998.
On September 17, 1998, the Company borrowed $7.0 million from its
Chairman. The loan bears interest at 9.75% per annum. In addition, on October
22, 1998 the Company borrowed an additional $1.5 million from its Chairman on
identical terms. The entire sum of $8.5 million borrowed from the Chairman plus
interest was repaid from the proceeds of the Private Placement (defined below).
On November 30, 1998, the Company completed a private placement (the
"Private Placement") of an aggregate of 1,550,000 shares of Series I Redeemable
Convertible Preferred Stock (the "Series I Preferred Stock") to Hakuto Co.,
Ltd. ("Hakuto"), Union Miniere Inc. ("UMI") and UTC. The net proceeds to the
Company from the Private Placement were approximately $21.2 million which has
been used (i) to repay $8.5 million of debt, plus interest, to the Company's
Chairman of the Board, Dr. Thomas Russell, (ii) to fund the Company's $5.0
million portion of a joint venture between the Company and UTC to develop and
manufacture HB LEDs and (iii) to fund the Company's $600,000 portion of a
research and development joint venture with UMI to develop alternative
applications for germanium substrates. The remaining net proceeds from the
Private Placement will be used to acquire capital equipment for the Company's
new Albuquerque, New Mexico manufacturing facility and for working capital.
Effective as of November 30, 1998, the Company and the Bank have
renewed the Company's $10.0 million credit facility (the "1997 Agreement") with
the Bank, which, as amended, will expire on October 1, 1999. In connection with
the amendment of the 1997 Agreement, Thomas Russell agreed to provide a
guarantee in the event the Company does not meet certain financial covenants by
May 15, 1999.
The Company has recorded a net loss in each of the third and fourth
quarters of fiscal 1998 due primarily to the adverse effect of work-stoppage
strikes at General Motors, a decline in systems sales particularly in Asia
related to the Asian financial crisis as well as a general slowdown in the
semiconductor market overall, a slower than expected ramp-up in production at
MODE and increased research and development spending. The Company expects to
post losses for the next two fiscal quarters.
PRODUCTS
PRODUCTION SYSTEMS AND MATERIALS PROCESSES. The Company is a leading
supplier of MOCVD compound semiconductor production systems, and, in 1996, had
a 23% share of this market according to VLSI Research Inc. which regularly
publishes research on this market. The Company has shipped more than 225
systems to date and believes that its TurboDiscTM systems offer significant
cost advantages over competing systems. The Company believes that its MOCVD
production systems produce materials with superior uniformity of thickness,
electrical properties and material composition. EMCORE has a variety of models
that are optimized for the application and throughput of the customer. The
Company believes that the high throughput capabilities of its TurboDiscTM
systems enhances the low cost manufacture of compound semiconductor materials
as well as superior reproducibility of thickness, composition, electrical
profiles and layer accuracy required for electronic and optoelectronic devices.
The Company's production systems also achieve a high degree of reliability with
an average time available for production, based on customer data, of
approximately 95%.
WAFER AND DEVICE FABRICATION. Since its inception, the Company has
worked closely with its customers in designing and developing materials
processes to be used in production systems for its customers' end-use
applications. Recently, the Company has begun to leverage its process and
materials science knowledge base to manufacture wafers and package-ready
devices in its own facility. The Company's expansion into wafer and
package-ready device production was spurred almost entirely by requests from
customers whose epitaxial wafer needs exceed their available in-house
production capabilities. The Company fabricates wafers and package-ready
devices at its facilities in Somerset, New Jersey and Albuquerque, New Mexico
and has a combined clean room area totaling approximately 12,000 square feet.
The Company is working with its customers to design, engineer and
manufacture commercial quantities of wafers and/or package-ready compound
semiconductor devices such as MR Sensors, HBTs, HEMTs, FETs, HB LEDs, VCSELs,
solar cells and other electronic and optoelectronic devices.
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MR SENSORS. In January 1997, the Company initiated shipments of
compound semiconductor MR Sensors using indium antimonide-based epi-materials.
The technology is licensed to the Company from General Motors. The primary user
of the product has to date been General Motors Powertrain with over five
million devices delivered as of September 30, 1998 for crank and cam speed and
position sensing applications for three engine builds. In November 1998, the
Company formed a joint venture with Optek Technology, Inc. to market an
expanded line of MR Sensors to the automotive and related industries.
HIGH EFFICIENCY SOLAR CELLS. The Company is working closely with
several large telecommunications concerns to assist these customers in
developing solar cell and other process technology for use on their
communications satellites. After extensive working collaborations, the Company
has developed the materials process and a production system for solar cell
materials with efficient performance characteristics. As a result of this
collaboration, the Company's technology has produced gallium arsenide solar
cells that are not only approximately 50% more efficient in light-to-power
conversion than silicon-based solar cells but also are more
radiation-resistant. The resulting advance allows a satellite manufacturer to
increase the useful life and payload capacity of its satellites. Over the last
two years, the Company's customers have purchased several MOCVD production
systems for this purpose. In December 1998, the Company signed the Long Term
Purchase Agreement with Loral under which the Company will supply Loral with
compound semiconductor high-efficiency gallium arsenide solar cells for Loral's
satellites.
VCSELS. In February 1998, the Company, through its wholly-owned
subsidiary MODE, annouced its first commercial high speed laser and has
commenced commercial volume customer shipments. The Company now designs,
develops and markets optical VCSEL components, arrays and subassemblies, which
utilize compound semiconductor microlaser diodes that emit light vertically from
the surface of a fabricated wafer. The Company believes the advantage of its
VCSELs include ultra high modulation rates for advanced information processing,
low power consumption, high fiber optic coupling efficiencies, circular output
beams and photolithographically defined geometrics. The Company works closely
with original equipment manufacturers ("OEMs") to incorporate their design
requirements into the Company's VCSEL technology and test methodologies. In
September 1998, MODE formed a strategic alliance with AMP Incorporated to
develop and market a family of optical transceivers for the Gigabit Ethernet,
FibreChannel and ATM markets. These transceivers incorporate specific design
requirements into the processes and test methodologies of the Company's VCSEL
components.
HB LEDS. Early in 1998 the Company formed a joint venture with UTC to
manufacture, sell and distribute HB LEDs. The global demand for HB LEDs is
experiencing rapid growth because LEDs have a long useful life (ten years) and
consume far less power than incandescent/ fluorescent lighting. The Company
believes it is the leading supplier of gallium nitride based MOCVD systems used
to produce blue and green HB LEDs.
CUSTOMERS
The Company's customers include several of the largest semiconductor,
telecommunications and computer manufacturing companies in the world. In fiscal
year 1996, only one customer accounted for more than 10% of the Company's
revenues; sales to this customer accounted for 23.6% of the Company's revenues
in fiscal 1996. For the fiscal year 1997, two customers each accounted for more
than 10% of the Company's revenues; sales to these customers each accounted for
15.0% and 10.2% of the Company's revenues during fiscal year 1997. For fiscal
year 1998, two customers accounted for more than 10% of the Company's revenues;
sales to these customers accounted for 17.3% and 12.8% of the Company's
revenues during fiscal year 1998.
SALES AND MARKETING
The Company markets and sells its products through its direct sales
force in Europe, North America, Taiwan and through representatives and
distributors in the rest of Asia. To market and service its systems in China,
Japan and Singapore, the Company relies on a single marketing, distribution and
service provider, Hakuto. The Company's agreements with Hakuto have a term of
ten years, expiring March 2008. Hakuto has exclusive distribution rights for
the Company's products in Japan. Hakuto has marketed and serviced the Company's
products since 1988, is a minority shareholder in the Company, and the
President of Hakuto is a member of the Company's Board of Directors.
International sales as a percentage of total sales in fiscal 1996, 1997
and 1998 were 42.5%, 42.0% and 39.1%, respectively. Sales to customers in the
U.S. in fiscal 1996, 1997 and 1998 were approximately, $16.0 million, $27.7
million and $26.6 million, respectively, while the Company's sales in Asia for
the same time periods were $8.2
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million, $14.6 million and $15.5 million, respectively, and sales in Europe
were $3.6 million, $5.5 million and $1.6 million, respectively. The Company
receives all payments for all products and services in U.S. dollars.
SERVICE AND SUPPORT
The Company maintains an international service and support network
responsible for on-site maintenance and process monitoring on either a
contractual or time-and-materials basis. Customers may purchase annual service
contracts under which the Company is required to maintain an inventory of
replacement parts and to service the equipment upon the request of the
customer. The Company also sells replacement parts from inventory for customer
needs. The Company pursues a program of system upgrades for customers to
increase the performance of older systems. The Company generally does not offer
extended payment terms to its customers and generally adheres to a warranty
policy of up to one year. Consistent with industry practice, the Company
maintains an inventory of components for servicing systems in the field and it
believes that its inventory is sufficient to satisfy foreseeable short-term
customer requirements.
RESEARCH AND DEVELOPMENT
To maintain and improve its competitive position, the Company's
research and development efforts are focused on designing new proprietary
products, improving the performance of existing systems, wafers and
package-ready devices and reducing costs in the product manufacturing process.
The Company has dedicated 16 EMCORE TurboDiscTM systems for both research and
production which are capable of processing virtually all compound semiconductor
materials. The research and development staff utilizes x-ray, optical and
electrical characterization equipment which provide instant data allowing for
shortened development cycles and rapid customer response. The Company's
recurring research and development expenses in fiscal 1996, 1997 and 1998 were
approximately $5.4 million, $9.0 million and $16.5 million, respectively. The
Company also incurred a one-time, non-cash research and development expense in
fiscal 1998 in the amount of $29.3 million in connection with the acquisition
of MODE. The Company expects that it will continue to expend substantial
resources on research and development.
The Company also competes for research and development funds. In view
of the high cost of development, the Company solicits research contracts that
provide opportunities to enhance its core technology base or promote the
commercialization of targeted products. The Company presently has three such
contracts in process. The contracts fall under the Small Business Innovative
Research programs or similar government sponsored programs. From inception
until September 30, 1998, government and other external research contracts have
provided approximately $13.2 million to support the Company's research and
development efforts. The Company is also positioned to market technology and
process development expertise directly to customers who require it for their
own product development efforts.
INTELLECTUAL PROPERTY AND LICENSING
The Company's success and competitive position both for production
systems, wafers and package-ready devices depend significantly on its ability
to maintain trade secrets, patents and other intellectual property protections.
Trade secrets are routinely employed in the Company's manufacturing processes.
A "trade secret" is information that has value to the extent it is not
generally known, not readily ascertainable by others through legitimate means,
and protected in a way that maintains its secrecy. In order to protect its
trade secrets, the Company takes certain measures to ensure their secrecy, such
as executing non-disclosure agreements with its employees, customers and
suppliers.
To date, the Company has been issued eleven U.S. patents and seven are
either pending or under review. These U.S. patents will expire between 2005 and
2013. None of these U.S. patents claim any material aspect of the current or
planned commercial versions of the Company's systems, wafers or devices.
MODE is a licensee of certain VCSEL technology and associated patent
rights owned by Sandia pursuant to a License Agreement dated September 18, 1997,
between MODE and Sandia (the "Sandia License"). The Sandia License grants MODE
(i) exclusive rights (subject to certain rights granted to Department of Energy
("DOE") and AT&T Corporation ("AT&T")) to develop, manufacture and sell products
containing Sandia VCSEL technologies for barcode scanning and plastic fiber
communications applications under five U.S. patents that expire between 2007 and
2015, and (ii) nonexclusive rights with respect to all other applications of
these patents. The Sandia License also grants MODE a nonexclusive right to
employ a proprietary oxidation fabrication method in the
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manufacture of VCSEL products under a sixth U.S. patent that expires in 2014.
The Company's success and competitive position as a producer of VCSEL products
depends on the continuation of its rights under the Sandia License, the scope
and duration of those rights and the ability of Sandia to protect its
proprietary interests in the underlying technology and patents. MODE's rights
under the Sandia License are subject to termination by Sandia prior to
expiration of the underlying patents in the event that MODE breaches certain
terms specified therein, including failure by MODE to make minimum royalty
payments.
ENVIRONMENTAL REGULATIONS
The Company is subject to federal, state and local laws and regulations
concerning the use, storage, handling, generation, treatment, emission,
release, discharge and disposal of certain materials used in its research and
development and production operations, as well as laws and regulations
concerning environmental remediation and employee health and safety. The
Company has retained an environmental consultant to advise it in complying with
applicable environmental and health and safety laws and regulations, and
believes that it is currently, and in the past has been, in substantial
compliance with all such laws and regulations.
BACKLOG
As of September 30, 1998, the Company had an order backlog of
approximately $22.6 million compared to backlog of $24.4 million as of
September 30, 1997. The Company includes in backlog only customer purchase
orders which have been accepted by the Company and for which shipment dates
have been assigned within the twelve months to follow and research contracts
that are in process or awarded. Wafer and device agreements extending longer
than one year in duration are included in backlog only for the ensuing 12
months. Some of these agreements currently extend over three years. The Company
receives partial advance payments or irrevocable letters of credit on most
production system orders. The Company recognizes revenue upon shipment. For
research contracts with the U.S. government and commercial enterprises with
durations greater than six months, the Company recognizes revenue to the extent
of costs incurred plus a portion of estimated gross profit, as stipulated in
such contracts, based on contract performance. Subsequent to year end, the
Company's backlog has increased significantly. As of December 15, 1998, the
Company's order backlog exceeded $41.0 million, an increase of 81.4% since
September 30, 1998.
MANUFACTURING
In May 1998, the Company received ISO 9001 and QS 9002 quality
certification. The Company's manufacturing operations are located at the
Company's headquarters in Somerset, New Jersey and in Albuquerque, New Mexico
and include systems engineering and production, wafer fabrication, and design
and production of devices. Many of the Company's manufacturing operations are
computer monitored or controlled, therefore enhancing reliability and yield.
The Company manufactures its own systems and outsources some components and
sub-assemblies, but performs all final system integration, assembly and
testing. The Company fabricates wafers and devices at its facilities in
Somerset, New Jersey and Albuquerque, New Mexico and has a combined clean room
area totaling approximately 12,000 square feet.
Outside contractors and suppliers are used to supply raw materials and
standard components and to assemble portions of end systems from Company
specifications. The Company depends on sole, or a limited number of, suppliers
of components and raw materials. The Company generally purchases these single
or limited source products through standard purchase orders. The Company also
seeks to maintain ongoing communications with its suppliers to guard against
interruptions in supply and has, to date, generally been able to obtain
sufficient supplies in a timely manner and maintains inventories it believes
are sufficient to meet its near term needs. The Company has recently
implemented a vendor program through which it inspects quality and reviews
supplies and prices in order to standardize purchasing efficiencies and design
requirements to maintain as low a cost of sales as possible. However, operating
results could be materially adversely affected by a stoppage or delay of
supply, receipt of defective parts or contaminated materials, and increase in
the pricing of such parts or the Company's inability to obtain reduced pricing
from its suppliers in response to competitive pressures.
COMPETITION
The markets in which the Company competes are highly competitive. The
Company competes with several companies for sales of MOCVD systems including
Aixtron, Nippon-Sanso and Thomas Swann. The primary
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competitors for the Company's wafer foundry include Epitaxial Products Inc.,
Kopin Corporation and Quantum Epitaxial Designs, Inc. The Company's principal
competitors for sales of VCSEL-related products include Honeywell, Inc. and
Mitel Corporation. The Company also faces competition from manufacturers that
implement in-house systems for their own use. In addition, the Company competes
with many research institutions and universities for research contract funding.
The Company also sells its products to current competitors and companies with
the capability of becoming competitors. As the markets for the Company's
products grow, new competitors are likely to emerge, and present competitors may
increase their market share.
The Company believes that the primary competitive factors in the
markets in which the Company's products compete are yield, throughput, capital
and direct costs, system performance, size of installed base, breadth of
product line and customer satisfaction, as well as customer commitment to
competing technologies. The Company believes that in order to remain
competitive, it must invest significant financial resources in developing new
product features and enhancements and in maintaining customer satisfaction
worldwide.
EMPLOYEES
At September 30, 1998, the Company employed 308 full-time employees, up
13.7% from 271 as of September 30, 1997 and up 66.5% from the 185 employees at
September 30, 1996. The increase in the number of employees since the end of
fiscal 1996 is a direct result of the Company's increased manufacturing
operation needs to meet the demand for its compound semiconductor production
systems, wafers and package-ready devices. None of the Company's employees are
covered by a collective bargaining agreement. The Company considers its
relationship with its employees to be good.
ITEM 2. PROPERTIES
The Company's executive office and manufacturing facility are located
in Somerset, New Jersey, where the Company leases a 75,000 square foot
facility. This facility lease expires on February 2000. The Company has two
five-year renewal options. MODE's office and manufacturing facility are located
in Albuquerque, New Mexico, where MODE leases an aggregate of approximately
27,500 square feet in two adjacent buildings. One of these leases expires in
July 1999 and the other in April 2001, each with two three-year renewal
options. The Company has another office and manufacturing facility in
Albuquerque, New Mexico where it has recently completed building its own 50,000
square foot facility, of which 25,000 square feet is currently occupied.
ITEM 3. LEGAL PROCEEDINGS
Neither the Company nor its subsidiary is aware of any pending or
threatened litigation against it which would have a material adverse effect on
its business, financial condition and results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II.
ITEM 5.
MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
SHAREHOLDER MATTERS
The Company's Common Stock is quoted on the NASDAQ National Market
under the symbol "EMKR". The following table sets forth the quarterly high and
low sales prices for the Company's Common Stock since its initial public
offering in March 6, 1997.
FISCAL 1997
Second Quarter................................... $12 3/4 $ 9 1/4
Third Quarter.................................... $19 1/2 $11
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Fourth Quarter................................... $25 1/4 $16
FISCAL 1998
First Quarter.................................... $23 3/8 $15 1/2
Second Quarter................................... $19 5/8 $11
Third Quarter ................................... $16 3/4 $ 9
Fourth Quarter .................................. $13 1/2 $ 6
FISCAL 1999
First Quarter (through December 23, 1998)........ $18 1/4 $ 7 1/4
As of December 23, 1998 date there were 1,595 shareholders of record.
The Company has never declared or paid dividends on its Common Stock
since its formation. The Company currently does not intend to pay dividends on
its Common Stock in the foreseeable future so that it may reinvest its earnings
in the development of its business. The payment of dividends, if any, in the
future will be at the discretion of the Board of Directors.
RECENT SALES OF UNREGISTERED SECURITIES
On November 30, 1998, the Company sold an aggregate of 1,550,000 shares
of Series I Preferred Stock to Hakuto, UMI and UTC for an aggregate
consideration of $21.7 million before deducting costs and expenses of the
offering of approximately $500,000. The shares of Series I Preferred Stock are
convertible, at any time, at the option of the holders thereof, unless
previously redeemed, into shares of Common Stock at an initial conversion price
of $14.00 per share of Common Stock, subject to adjustment in certain cases.
The Series I Preferred Stock is redeemable, in whole or in part, at the option
of the Company at any time the Company's stock has traded at or above $28.00
per share for 30 consecutive trading days, at a price of $14.00 per share, plus
accrued and unpaid dividends, if any, to the redemption date. In addition, the
Series I Preferred Stock is subject to mandatory redemption by the Company on
November 17, 2003. The Company believes the sale of the shares of Series I
Preferred Stock is exempt from registration pursuant to Section 4(2) of the
Securities Act of 1933, as amended (the "Securities Act").
On June 22, 1998 the Company issued 227,747 warrants to purchase common
stock of the Company to Thomas Russell, Chairman of the Board of Directors of
the Company and 56,937 warrants to purchase common stock of the Company to
Reuben Richards, President, Chief Executive Officer and a director of the
Company. The warrants are exercisable at a price of $11.375 and expire on May
1, 2001. These warrants are callable at the Company's option at $.85 per
warrant at such time as the Company's Common Stock has traded at or above 150%
of the exercise price for a period of 30 days. These warrants were granted in
exchange for the guarantee by these executives of the 1998 Agreement entered
into by the Company on June 22, 1998 with the Bank. The credit facility is
being used to finance general corporate purposes, including, but not limited
to, the construction of a facility in Albuquerque, New Mexico. The term of the
credit facility is 18 months and the interest rate is at LIBOR plus 0.75%. The
Company received a fairness opinion from its investment bank, Hempstead &
Company, that this transaction was fair from a financial point of view to the
Company's non-participating shareholders. The Company believes the issuance of
the warrants is exempt from registration pursuant to Section 4(2) of the
Securities Act.
On December 5, 1997, the Company issued 1,461,866 shares of Common
Stock, 200,966 common stock purchase options and 47,118 common stock purchase
warrants in exchange for all of the outstanding capital stock of MODE. The
purchase price was approximately $32.8 million and was recorded under the
purchase method of accounting. The Company believes the issuance of Common
Stock, options and warrants in connection with the acquisition of MODE is
exempt from registration pursuant to Section 4(2) of the Securities Act.
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ITEM 6. SELECTED FINANCIAL DATA
The selected financial data set forth below should be read in
conjunction with "Management's Discussion and Analysis of Financial Condition
and Results of Operations" and the consolidated financial statements and notes
thereto included elsewhere in this report. The following table shows selected
financial data for the most recent five years:
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) YEARS ENDED SEPTEMBER 30,
---------------------------------------------------------------
1994 1995 1996 1997 1998
-------- -------- -------- -------- --------
STATEMENT OF INCOME DATA:
Revenue $ 9,038 $ 18,137 $ 27,779 $ 47,753 $ 43,760
Cost of sales 5,213 9,927 18,607 30,094 24,675
---------------------------------------------------------------
Gross profit 3,825 8,210 9,172 17,659 19,085
Operating expenses:
Selling, general and administrative 2,645 4,452 6,524 9,347 14,082
Goodwill -- -- -- -- 922
Research and development
Recurring 1,064 1,852 5,401 9,001 16,495
One-time acquired in-process, -- -- -- -- 29,294
non-cash
---------------------------------------------------------------
Operating income (loss) 116 1,906 (2,753) (689) (41,708)
Stated interest expenses, net 286 255 297 519 974
Imputed warrant interest, non-cash -- -- 126 3,988 601
Equity in net loss of unconsolidated -- -- -- -- 198
affiliate
Other expense -- 10 -- -- --
---------------------------------------------------------------
(Loss) income before income taxes and
extraordinary item (170) 1,641 (3,176) (5,196) (43,481)
Provision for income taxes -- 125 -- 137 --
Extraordinary loss -- -- -- 286 --
---------------------------------------------------------------
Net (loss) income $ (170) $ 1,516 $ (3,176) $ (5,619) $(43,481)
===============================================================
Net (loss) income per share $ (2.91) $ 0.89 $ (1.06) $ (1.20) $ (4.95)
===============================================================
Shares used in computing net (loss)
income per share 58 1,701 2,994 4,669 8,775
---------------------------------------------------------------
(IN THOUSANDS) AS OF SEPTEMBER 30,
---------------------------------------------------------------
1994 1995 1996 1997 1998
-------- -------- -------- -------- --------
BALANCE SHEET DATA:
Working capital $ 1,041 $ 2,208 $ 1,151 $ 12,156 $ (2,017)
Total assets 5,415 10,143 20,434 39,463 66,158
Long-term obligations 3,000 3,000 8,947 7,577 26,513
Redeemable preferred stock 16,274 -- -- -- --
Shareholders' equity (deficit) (96) 1,509 522 21,831 12,518
---------------------------------------------------------------
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
The compound semiconductor industry is experiencing dramatic growth with
increasing demands for higher performance and functionality in applications for
products as diverse as electronic displays, advanced automotive and aircraft
engines, wireless communications, telecommunications, CDs, DVDs, CATV, fiber
optic transmitters, bar code scanners, satellites, cellular phones, laser
printers, and holographic memories.
EMCORE, founded in 1984, designs and develops compound semiconductor
materials and process technology and is a leading manufacturer of production
systems used to fabricate compound semiconductor wafers. The Company provides
its customers, both in the U.S. and internationally, with materials science
expertise, process technology and compound semiconductor production systems that
enable the manufacture of commercial volumes of high-performance electronic and
optoelectronic devices. In response to the growing need of its customers to cost
effectively get to market faster with higher volumes of new and improved high
performance products, the Company expanded its product offerings to include the
design, development and production of compound semiconductor wafers,
package-ready devices and discreet components and now offers its customers a
broad range of products and services and a vertically integrated product line.
EMCORE believes that its proprietary TurboDisc(TM) deposition technology makes
possible one of the most cost-effective production systems for the commercial
volume manufacture of high-performance compound semiconductor wafers and
devices. The Company is a leading manufacturer of MOCVD systems, the enabling
technology behind compound semiconductor products and the resulting dramatic
improvements in speed, capacity and functionality. MOCVD is the means by which
chemicals are deposited in atomic layers on a substrate, and many compound
semiconductor products are produced on MOCVD equipment. The Company's MOCVD
technology and fifteen years of material science knowledge and know how,
position the Company to capitalize on market opportunities.
To this extent, the Company has concentrated on several products serving
large opto-electronics markets: HB LEDs, high efficiency solar cells, VCSELs,
antimonide MR Sensors and epitaxial services. All of these products are based on
the Company's TurboDisc(TM) production system, the enabling technology.
The Company's two product lines, systems and materials, differ
significantly. Systems-related revenues include sales of Turbo-disc(TM) systems
as well as spare parts and services. The book to ship time period on systems is
approximately four to six months, while the average selling price is in excess
of $1.0 million. Materials revenues include wafers, devices and process
development technology. The materials sales cycle is generally shorter than
systems and average selling prices vary significantly based on the products.
Generally, the Company achieves a higher gross profit on its materials related
products.
In conjunction with the vertical expansion of the Company's product
lines, EMCORE began fiscal 1998 with a capital plan requiring $35.0 million.
These funds were required to build the Company's manufacturing and development
infrastructure and to take advantage of market windows for new products which
the Company had under development. The Company believes it now has the majority
of the infrastructure required to address the needs of the compound
semiconductor industry.
To expand its technology base into the data communications and
telecommunications markets, on December 5, 1997, the Company purchased MODE for
a purchase price of $32.8 million. EMCORE's acquisition of MODE (a development
stage company), constituted a significant and strategic investment for the
Company to acquire and gain access to MODE's in-process research and development
of micro-optical technology. The Company's over-riding investment consideration
was that if MODE's research and development efforts (with continued research and
development funding contemplated and acquired after acquisition) yielded
commercial products for targeted applications EMCORE would possess a broader
array of enabling technologies and would be better positioned for entry into
certain existing large and/or high growth technology dependent markets. MODE is
one of the market leaders in the design and development of high-quality optical
components and subassemblies which offer superior performance at lower cost over
conventional semiconductor laser technologies. MODE's microlasers and optical
subassemblies are expected to provide design, performance and significant cost
advantages over their technical predecessors such as edge-emitting solid state
lasers. Through the integration of VCSELs with leading OEM systems design,
VCSELs are expected to provide enhanced performance benefits to market
applications such as Internet access, onboard photonics, gigabit ethernet, local
area networks, microarea network, DVD and fiberoptic switching. On February 23,
1998, MODE announced the introduction of its first commercial product, a
Gigalase VCSEL. Subsequent to such announcement, MODE's Gigalase product efforts
were primarily directed toward engineering, testing and quality control
activities to facilitate commercial production which commenced in May 1998. On
December 14, 1998, MODE announced its second commercial product a Gigarray
VCSEL.
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As part of the acquisition, the Company incurred a one-time in-process
research and development write-off of $29.3 million which is reflected in the
accompanying financial statements. The Company also recorded goodwill of
approximately $3.4 million. This is being charged against operations over a
three year period, and will therefore, impact financial performance through
December 2000.
In addition to the MODE acquisition, the Company launched three joint
ventures during the past year. In July 1998, the Company formed and is a
minority investor in Uniroyal Optoelectronics, LLC a joint venture with UTC to
manufacture, sell and distribute HB LEDs. In November 1998, the Company formed a
joint venture with Optek Technology, Inc., a packager and distributor of
optoelectronic devices including sensors, to market an expanded line of MR
Sensors to the automotive and related industries. Combining the Company's
strength in producing the package-ready die along with Optek's strength in
packaging and distribution allows the Company to alter the shelf products which
should allow for greater market penetration. Also in November 1998, the Company
and Union Miniere Inc. formed UMCORE to explore and develop alternate uses of
germanium using the Company's material science and production platform
expertise.
In November 1998, the Company signed the Long Term Purchase Agreement
with Loral, a wholly owned subsidiary of Loral Space & Communications. The Long
Term Purchase Agreement, once EMCORE completes Loral's space qualification and
test procedures, enlists EMCORE as a supplier of compound semiconductor high
efficiency gallium arsenide solar cells for Loral's satellite requirements.
Subject to the foregoing requirements, the Company received an initial purchase
order for $5.25 million of solar cells.
In September 1998, the Company entered into an agreement with LMMS for
the technical management and support of a LMMS and Sandia CRADA for the
advancement, transfer and commercialization of a new compound semiconductor high
efficiency solar cell. The Company also signed a four year purchase agreement
with AMP Incorporated to provide high speed VCSELs. AMP Incorporated presently
uses the Company's VCSELs in transceivers for Gigabit Ethernet applications.
The Company believes it possesses the technological "know how" to
capitalize on all of these market opportunities. However, there can be no
assurance that the Company will maintain sufficient growth in sales levels to
support the associated labor, equipment and facility costs.
RESULTS OF OPERATIONS:
The following table sets forth the Statement of Income Data of the
Company expressed as a percentage of total revenues for the fiscal years ended
September 30, 1996, 1997 and 1998.
YEARS ENDED SEPTEMBER 30,
-------------------------------------------
1996 1997 1998
-------- -------- --------
Revenues 100.0% 100.0% 100.0%
Cost of Sales 67.0 63.0 56.4
-------- -------- --------
Gross profit 33.0 37.0 43.6
Operating expenses:
Selling, general and administrative 23.5 19.6 32.2
Goodwill 2.1
Research and development 19.4 18.8
One-time acquired in-process 37.7
Recurring 66.9
-------- -------- --------
Operating loss (9.9) (1.4) (95.3)
Stated interest expense, net 1.1 1.1 2.2
Imputed warrant interest expense, non-cash 0.4 8.4 1.4
Equity in net loss of associated companies -- -- 0.5
-------- -------- --------
Loss before income taxes and extraordinary item (11.4) (10.9) (99.4)
Provision for income taxes -- 0.3 --
-------- -------- --------
Net loss before extraordinary item (11.4) (11.2) (99.4)
Extraordinary item -- (0.6) --
-------- -------- --------
Net loss before extraordinary item (11.4)% (11.8)% (99.4)%
======== ======== ========
COMPARISON OF FISCAL YEARS ENDED SEPTEMBER 30, 1997 AND 1998
REVENUES
The Company's revenues decreased 8.4% from $47.8 million for the fiscal
year ended September 30, 1997 to $43.8 million for the fiscal year ended
September 30, 1998. The revenue decrease represented a shift in product mix
during the year. Equipment related revenues decreased approximately 22.3% while
materials related revenues increased approximately 26.5%. The decrease in
equipment revenues was primarily attributable to the financial issues in the
Asian economies as well as a general slowdown in the semiconductor equipment
market overall. While materials related revenues did experience a 26.5%
increase, the General Motors three month strike adversely affected
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revenue, as shipments to General Motors were halted during the strike.
International sales accounted for approximately 42.0% and 39.1% of revenues for
the fiscal years ended September 30, 1997 and 1998, respectively.
The Company believes that in the future its revenues and results of
operations in a given quarterly period could be impacted by the timing of
customer development projects and related purchase orders for the Company's
varied products, new merchandise announcements and releases by the Company, and
conditions in the economy, generally and in the compound semiconductor industry
environment, specifically.
COST OF SALES/GROSS PROFIT
Cost of sales includes direct material and labor costs, allocated
manufacturing and service overhead, and installation and warranty costs. Gross
profit increased from 37.0% of revenue to 43.6% of revenue for the fiscal years
ended September 30, 1997 and 1998, respectively. The gross profit percentage
increase was attributable to a shift in product mix towards higher gross margin
materials related revenues.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses increased by 50.7% from
$9.3 million for the year ended September 30, 1997, to $14.1 million for the
year ended September 30, 1998. The increase was largely due to sales personnel
headcount increases to support both domestic and foreign markets and general
headcount additions to sustain the internal administrative support necessary for
the Company's expanded product lines and new locations. During fiscal 1998, the
Company wrote-off a $1.0 million receivable due from an Asian customer which was
deemed to be uncollectible. As a percentage of revenue, selling, general and
administrative expenses increased from 19.6% of revenue during fiscal 1997 to
32.2% of revenue for fiscal 1998. The Company believes that selling, general
and administrative expenses will decrease as a percentage of revenues in fiscal
1999.
GOODWILL AMORTIZATION
In connection with the purchase of MODE, the Company recorded goodwill
of $3.4 million which is being amortized this amount over 36 months. Goodwill
amortization expense amounted to $922,000 for the year ended September 30, 1998.
Net goodwill at September 30, 1998 was $2,457,000.
RESEARCH AND DEVELOPMENT
Recurring research and development expenses increased by 83.3% from
$9.0 million for the year ended September 30, 1997, to $16.5 million for the
year ended September 30, 1998. The increase was primarily attributable to the
Company's acquisition of MODE and increased staffing and equipment costs
necessary to enhance current products and develop new product offerings.
Products introduced or under development include HB LEDs, high efficiency solar
cells, new generation TurboDisc(TM) production systems, VCSELs and other
optoelectronic devices. As a percentage of revenue, research and development
expenses increased from 18.9% of revenue during fiscal 1997 to 37.7% of revenue
for fiscal 1998. To maintain growth and market leadership in epitaxial
technology, the Company expects to continue to invest a significant amount of
its resources in research and development.
In connection with the MODE acquisition, the Company incurred a
one-time charge for the write-off of acquired in-process research and
development amounting to $29.3 million.
OPERATING LOSS
During fiscal 1998, operating loss increased from a loss of $0.7 million
for the fiscal year ended September 30, 1997, to a loss of $41.7 million for the
year ended September 30, 1998. The change in operating loss was primarily due to
the $29.3 million one-time charge for in-process research and development
written off in connection with the purchase of MODE. In addition, the General
Motors three month strike adversely affected operating performance as shipments
to General Motors were halted during the strike. General Motors is among the
Company's largest customers. The Company was unable to furlough or reduce their
workforce during the strike and thereby incurred charges without the benefit of
related revenues.
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OTHER EXPENSE
Other expenses decreased, particularly due to the reduced imputed
warrant interest expense associated with the Company's subordinated debt and
debt issuance guarantee cost. During fiscal 1996, the Company issued detachable
warrants along with subordinated notes to certain of its existing shareholders.
In fiscal year 1997, the Company also issued detachable warrants in return for
a $10.0 million demand note facility (the "Facility") guarantee by the Chairman
of the Board of the Company, who provided collateral for the Facility. The
Company subsequently assigned a value to these detachable warrants issued using
the Black-Scholes Option Pricing Model. The Company recorded the subordinated
notes at a carrying value that is subject to periodic accretions, using the
interest method, and reflected the Facility's detachable warrant value as debt
issuance cost which was written off in its entirety in fiscal 1997. The
consequent expense of these subordinated note accretion amounts and the now
terminated Facility's debt issuance cost is charged to "imputed warrant
interest, non-cash," and amounted to approximately $4.0 million and $600,000
for the fiscal years ended September 30, 1997 and 1998, respectively. In June
1998, the Company issued 284,684 warrants to its Chairman and its Chief
Executive Officer for providing a guarantee in connection with the 1998
Agreement, an $8.0 million 18 month credit facility with the Bank. The Company
assigned a value to these detachable warrants issued using the Black-Scholes
Option Pricing Model. As a result, the Company will record imputed warrant
interest, non-cash of approximately $1.3 million over the life of the credit
facility.
INCOME TAXES
The Company's effective income tax rate was 0.0% in fiscal 1998, 2.6% in
fiscal 1997 and 0.0% in fiscal 1996. The lower effective rate in fiscal 1998 and
1996, relative to fiscal 1997, was attributable to a federal income tax benefit
offset by net operating loss and expenses not utilized or deductible for tax
purposes.
As of September 30, 1998, the Company has net operating loss
carryforwards for regular tax purposes of approximately $22.0 million which
expire in the years 2003 through 2012. The Company believes that the
consummation of certain equity transactions and a significant change in the
ownership during fiscal year 1995 has constituted a change in control under
Section 382 of the Internal Revenue Code ("IRC"). Due to the change in control,
the Company's ability to use its federal net operating loss carryovers and
federal research credit carryovers to offset future income and income taxes,
respectively, are subject to annual limitations under IRC Section 382 and 383.
The Company believes that the acquisition of MODE and the consummation
of certain other equity transactions has constituted a change in control in
fiscal 1998 under Section 382 of the IRC. As such, Federal net operating loss
carryovers and research credit carryovers incurred subsequent to the Company's
fiscal 1995 change in control (as described above) will also be subject to
annual limitations under IRC Section 382 and 383.
EXTRAORDINARY ITEM
In the fiscal year ended September 30, 1997, the Company repaid $2.0
million of its outstanding subordinated notes due May 1, 2001. In connection
with this discharge of the Company's subordinated notes, an extraordinary loss
of $286,000 was recognized in fiscal 1997 relating to such early extinguishment
of debt.
NET LOSS
Net loss increased $5.6 million for the fiscal year ended September 30,
1997, to $43.5 million for the fiscal year ended September 30, 1998. This
increase was primarily attributable to the aforementioned acquisition of MODE
and subsequent write-off of in-process research and development of $29.3
million. In addition, the General Motors three month prolonged strike adversely
affected operating performance.
COMPARISON OF FISCAL YEARS ENDED SEPTEMBER 30, 1996 AND 1997
REVENUES
The Company's revenues for fiscal 1997 increased 71.9% from $27.8
million to $47.8 million for the fiscal year ended September 30, 1996. The
revenue increase was primarily attributable to increased demand of MOCVD
systems and package-ready devices, as well as the introduction of compound
semiconductor wafer products.
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International sales accounted for approximately 42.5% and 42.0% of revenues for
the fiscal years ended September 30, 1996 and 1997, respectively.
COST OF SALES/GROSS PROFIT
Cost of sales includes direct material and labor costs, allocated
manufacturing and service overhead, and installation and warranty costs. Gross
profit increased from 33.0% of revenue to 37.0% of revenue for the fiscal years
ended September 30, 1996 and 1997, respectively. The gross profit percentage
increase was attributable to higher margins on wafer, device and licensing
revenues.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses increased by 43.3% from
$6.5 million for the year ended September 30, 1996, to $9.3 million for the
year ended September 30, 1997. The increase was largely due to sales personnel
headcount increases to support both domestic and foreign markets and general
headcount additions to sustain the internal administrative support necessary
for the Company's increased business as well as higher expenses attributable to
increased revenues. As a percentage of revenue, selling, general and
administrative expenses decreased from 23.5% of revenue during fiscal 1996 to
19.6% of revenue for fiscal 1997.
RESEARCH AND DEVELOPMENT
Research and development expenses increased by 66.6% from $5.4 million
for the year ended September 30, 1996, to $9.0 million for the year ended
September 30, 1997. The increase was primarily attributable to increased
staffing and equipment costs necessary to enhance current products and research
and development activities for the emulation of the Company's two new product
lines (epitaxial wafers and package-ready devices). As a percentage of revenue,
research and development expenses decreased from 19.4% of revenue during fiscal
1996 to 18.8% of revenue for fiscal 1997. To maintain growth and market
leadership in epitaxial technology, the Company expects to continue to invest a
significant amount of its resources in research and development.
OPERATING LOSS
During fiscal 1997, operating loss decreased $2.1 million from a loss
of $2.8 million for the fiscal year ended September 30, 1996, to a loss of $0.7
million for the year ended September 30, 1997. The change in operating loss was
primarily due to higher revenues generating greater overall gross profit.
OTHER EXPENSE
During fiscal 1996, the Company issued detachable warrants along with
subordinated notes to certain of its existing shareholders. In the first
quarter of fiscal year 1997, the Company also issued detachable warrants in
return for the $10.0 million Facility guarantee by the Chairman of the Board of
the Company, who provided collateral for the Facility. The Company subsequently
assigned a value to these detachable warrants issued using the Black-Scholes
Option Pricing Model. The Company recorded the subordinated notes at a carrying
value that is subject to periodic accretions, using the interest method, and
reflected the Facility's detachable warrant value as debt issuance cost. The
consequent expense of these subordinated note accretion amounts and the now
terminated Facility's debt issuance cost is charged to "Imputed warrant
interest, non-cash," related to the warrant issuances in connection with the
$10.0 million Facility, and amounted to approximately $126,000 and $4.0 million
for the fiscal years ended September 30, 1996 and 1997, respectively.
Borrowings totaling $8.0 million under the Facility were utilized to
fund capital expenditures in connection with the build-out of the Company's
manufacturing facility during the six months ended March 31, 1997. The
resultant interest expense was the primary reason for the increase in "Stated
interest expense" for the year ended September 30, 1997. The outstanding $8.0
million under this demand note facility was repaid in March 1997.
EXTRAORDINARY ITEM
The Company repaid $10.0 million of its outstanding debt with proceeds
from its initial public offering ("IPO"). The entire $8.0 million outstanding
of its Facility was repaid and $2.0 million was used to repay a portion of
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the Company's outstanding subordinated notes due May 1, 2001. In connection with
this discharge of the Company's subordinated notes, an extraordinary loss of
$286,000 was recognized in fiscal 1997 relating to such early extinguishment of
debt.
NET LOSS
Net loss increased $2.4 million from $3.2 million for the fiscal year
ended September 30, 1996, to $5.6 million for the fiscal year ended September
30, 1997. This increase was primarily attributable to the aforementioned $4.0
million of non-cash imputed warrant interest associated with certain financing
transactions.
OTHER SELECTED SEPTEMBER 30, 1998 INFORMATION
BACKLOG
The Company's order backlog decreased 7.4% from $24.4 million for the
fiscal year ended September 30, 1997, to $22.6 million for the fiscal year
ended September 30, 1998. The Company includes in backlog only customer
purchase orders which have been accepted by the Company and for which shipment
dates have been assigned within the twelve months to follow and research
contracts that are in process or awarded. Wafer and device contract agreements
extending longer than one year in duration are included in backlog only for the
ensuing 12 months. Some of these agreements currently extend over three years.
The Company receives partial advance payments or irrevocable letters of credit
on most production system orders. Subsequent to year end, the Company's backlog
has increased significantly. As of December 15, 1998, the Company's order
backlog exceeded $41.0 million, an increase of 81.4% since September 30, 1998.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents increased by approximately $800,000 from $3.7
million at September 30, 1997, to $4.5 million at September 30, 1998. For the
year ended September 30, 1998, net cash used by operations amounted to $1.6
million, primarily due to the Company's net losses excluding the acquired
in-process research and development non-cash charge and increase in inventories
which was partially offset by the Company's non-cash depreciation and
amortization charges, its increase in accounts payable and advanced billings,
and its decrease in accounts receivable.
For the year ended September 30, 1998, net cash used in investment
activities amounted to $22.2 million primarily due to the purchase and
manufacture of new equipment for the Company's wafer and package ready device
product lines and clean room modifications and enhancements, as well as its
purchase of land and construction of a facility in Albuquerque, New Mexico to
be used for the manufacture of wafers and package ready devices.
On March 31, 1997, the Company entered into the 1997 Agreement, a $10.0
million revolving loan which bears interest at the rate of prime plus 50 basis
points (8.0% at September 30, 1998). As a result of the net loss for the quarter
ended June 30, 1998, the Company was not in compliance with the 1997 Agreement
fixed charge coverage ratio covenant. The Company received a waiver from the
bank regarding this non-compliance. The Company and the Bank amended the 1997
Agreement as of November 30, 1998 to, among other things, extend the expiration
until October 1, 1999 and modify certain financial covenants. In addition,
pursuant to the amendment of the 1997 Agreement, Thomas Russell, the Chairman of
the Board of the Company will guarantee the debt in the event that the Company
does not meet certain financial covenants. On June 22, 1998, the Company entered
into the 1998 Agreement, an $8.0 million loan agreement with the Bank, which
expires December 31, 1999. The 1998 Agreement bears interest at a rate equal to
one-month LIBOR plus three-quarters of one percent per annum (6.4% at September
30, 1998). As of September 30, 1998, the Company had borrowed approximately
$10.0 million under the 1997 Agreement and $8.0 million under the 1998
Agreement.
On September 17, 1998, the Company borrowed $7.0 million from its
Chairman, Thomas J. Russell. The loan bears interest at 9.75% per annum. In
addition, on October 23, 1998 the Company borrowed an additional $1.5 million
from its Chairman on identical terms. The entire $8.5 million, borrowed from
Thomas J. Russell was repaid from the proceeds of the Private Placement. The
Company received a waiver from the Bank regarding the repayment of this debt.
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Net cash provided by financing activities for the year ended September
30, 1998 amounted to approximately $24.6 million, primarily due to the
Company's proceeds of approximately $18.0 million from borrowings under the
1997 and 1998 Agreements and the $7.0 million note to the Company's Chairman.
The Company's operations are subject to a number of risks, including but
not limited to a history of net losses from operations, future capital needs,
dependence on key personnel, competition and risk of technological obsolescence,
governmental regulations and approvals, research and development results,
continued development of its compound semiconductor manufacturing and marketing
capabilities and a concentration of international sales in Asia. The Company's
operations for the year ended September 30, 1998, were primarily funded through
borrowings under existing credit facilities and short-term advances from the
Company's Chairman - aggregating $7.0 million as of September 30, 1998. The
Company's Chairman has from time to time provided credit enhancements in the
form of debt guarantees and has loaned the Company funds to support its
expansion and capital equipment requirements. The Company's Chief Executive
Officer has also provided credit enhancements in the form of debt guarantees for
the Company. Subsequent to September 30, 1998, the Company completed the Private
Placement, resulting in proceeds of $21.2 million. The Company repaid its
Chairman $8.5 million (including $1.5 million advanced to the Company subsequent
to September 30, 1998), invested approximately $5.6 million in two
unconsolidated ventures and the balance of approximately $7.0 million will be
used for general working capital purposes. In addition, the Company's $10.0
million credit facility was extended to October 1, 1999. The Company's operating
plans include, among other things attempting to improve (i) operating cash flow
through increased sales of compound semiconductor systems, wafers and
package-ready devices and (ii) managing its cost structure in relation to its
anticipated level of revenues. The Company believes that its current liquidity,
together with available credit facilities and the proceeds from the Private
Placement, should be sufficient to meet its cash needs for working capital
through fiscal 1999. However, if the proceeds from the Private Placement, cash
generated from operations and cash on hand are not sufficient to satisfy the
Company's liquidity requirements, the Company will seek to obtain additional
equity or debt financing. Additional funding may not be available when needed or
on terms acceptable to the Company. If the Company is required to raise
additional financing and if adequate funds are not available or are not
available on acceptable terms, the ability to continue to fund expansion,
develop and enhance products and services, or otherwise respond to competitive
pressures would be severely limited. Such a limitation could have a material
adverse effect on the Company's business, financial condition or operations.
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are
coded to accept or recognize only two digit entries in the date code field.
These systems and software products will need to accept four digit entries to
distinguish 21st century dates from 20th century dates. As a result, computer
systems and/or software used by many companies and governmental agencies may
need to be upgraded to comply with such Year 2000 requirements or risk system
failure or miscalculations causing disruptions of normal business activities.
STATE OF READINESS
The Company has made a preliminary assessment of the Year 2000
readiness of its operating financial and administrative systems, including the
hardware and software that support such systems. The Company's assessment plan
consists of (i) quality assurance testing of its internally developed
proprietary software; (ii) contacting third-party vendors and licensors of
material hardware, software and services that are both directly and indirectly
related to the Company's business; (iii) contacting vendors of third-party
systems; (iv) assessing repair or replacement requirements; (v) implementing
repair or replacement; and (vi) creating contingency plans in the event of Year
2000 failures. The Company plans to perform a Year 2000 simulation on its
systems during the second quarter of 1999 to test system readiness. Many
vendors of material hardware and software components of its systems have
indicated that the products used by the Company are currently Year 2000
compliant. The Company will require vendors of its other material hardware and
software components of its systems to provide assurances of their Year 2000
compliance. The Company plans to complete this process during the first half of
1999. Until such testing is completed and such vendors and providers are
contacted, the Company will not be able to completely evaluate whether its
systems will need to be revised or replaced.
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COSTS
To date, the Company has not incurred any material expenditures in
connection with identifying, evaluating or addressing Year 2000 compliance
issues. Most of the Company expenses have related to, and are expected to
continue to relate to, the operating costs associated with time spent by
employees in the evaluation process and Year 2000 compliance matters generally.
At this time, the Company does not possess the information necessary to
estimate the potential costs of revisions to its systems should such revisions
be required or the replacement of third-party software, hardware or services
that are determined not to be Year 2000 compliant. Although the Company does
not anticipate that such expenses will be material, such expenses if higher
than anticipated could have a material adverse effect on the Company's
business, results of operations and financial condition.
RISKS
The Company is not currently aware of any Year 2000 compliance
problems relating to its systems that would have a material adverse effect on
the Company business, results of operations and financial condition, without
taking into account the Company efforts to avoid or fix such problems. There
can be no assurance that the Company will not discover Year 2000 compliance
problems in its systems that will require substantial revision. In addition,
there can be no assurance that third-party software, hardware or services
incorporated into the Company material systems will not need to be revised or
replaced, all of which could be time-consuming and expensive. The failure of
the Company to fix or replace its internally developed proprietary software or
third-party software, hardware or services on a timely basis could result in
lost revenues, increased operating costs, the loss of customers and other
business interruptions, any of which could have a material adverse effect on
the Company business, result of operations and financial condition. Moreover,
the failure to adequately address Year 2000 compliance issues in its internally
developed proprietary software could result in claims of mismanagement,
misrepresentation or breach of contract and related litigation, which could be
costly and time-consuming to defend.
In addition, there can be no assurance that governmental agencies,
utility companies, third-party service providers and others outside of the
Company's control will be Year 2000 compliant. The failure by such entities to
be Year 2000 compliant could result in systemic failure beyond the control of
the Company's such as a telecommunications or electrical failure, which could
have a material adverse effect on the Company's business, results of operations
and financial condition.
CONTINGENCY PLAN
As discussed above, the Company is engaged in an ongoing Year 2000
assessment and has not yet developed any contingency plans. The results of the
Company's Year 2000 simulation testing and the responses received from
third-party vendors and service providers will be taken into account in
determining the nature and extent of any contingency plans.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 131, "Disclosures
about Segments of an Enterprise and Related Information" ("SFAS No. 131"),
which establishes standards for reporting information about operating segments
in annual financial statements. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
SFAS No. 131 is effective for fiscal years beginning after December 15, 1997.
The Company will be required to adopt this standard in its fiscal year ending
September 30, 1999. The adoption of SFAS No. 131 is not expected to have an
impact on the Company's results of operations, financial position or cash
flows.
In February 1998, FASB issued SFAS No. 132, "Employers' Disclosures
about Pension and Other Postretirement Benefits" ("SFAS No. 132"), which
requires disclosure about pension and postretirement benefits. SFAS No. 132
does not change the measurement or recognition of these plans. SFAS No. 132 is
effective for fiscal years beginning after December 15, 1997. The adoption of
SFAS No. 132 is not expected to have an impact on the Company's results of
operations, financial position or cash flows.
In March 1998, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position ("SOP") 98-1, "Accounting for the Cost
of Computer Software Developed or Obtained for Internal Use"
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("SOP 98-1"). SOP 98-1 is effective for financial statements for years
beginning after December 14, 1998. SOP 98-1 provides guidance over accounting
for computer software development or obtained for internal use including the
requirement to capitalize specified costs and amortization of such costs. The
Company does not expect the adoption of this standard to have a material effect
results of operations, financial position or cash flows.
In April 1998, the AICPA issued Statement of Position 98-5, "Reporting
on the Costs of Start-Up Activities" ("SOP 98-5"). SOP 98-5, which is effective
for fiscal years beginning after December 15, 1998, provides guidance on the
financial reporting of start-up costs and organization costs. It requires costs
of start-up activities and organization costs to be expensed as incurred. As
the Company has expensed these costs historically, the adoption of this
standard is not expected to have a significant impact on the Company's results
of operations, financial position or cash flows.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
During fiscal 1998, the Company was not a party to any derivative
contracts, hedging or other market risk transactions.
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24
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
EMCORE CORPORATION
BALANCE SHEET
AS OF SEPTEMBER 30, 1997 AND 1998
------------ ------------
1997 1998
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 3,653,145 $ 4,455,836
Restricted cash 312,500 62,500
Accounts receivable, net of allowance for doubtful accounts of approximately
$697,000 and $611,000 at September 30, 1997 and 1998, respectively 8,439,704 7,437,822
Accounts receivable - related party 2,500,000 500,000
Inventories, net 7,185,626 12,445,326
Costs in excess of billings on uncompleted contracts -- 77,531
Prepaid expenses and other current assets 120,393 130,075
------------ ------------
Total current assets 22,211,368 25,109,090
Property, plant and equipment, net 16,797,833 36,209,831
Goodwill -- 2,457,000
Other assets, net 453,608 2,381,723
------------ ------------
Total assets $ 39,462,809 $ 66,157,644
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Note payable - related party $ -- $ 7,000,000
Accounts payable 4,050,216 12,022,628
Accrued expenses 3,867,589 4,197,405
Advanced billings 1,998,183 3,180,370
Unearned service revenue 124,279 52,778
Capitalized lease obligation - current 15,030 673,036
------------ ------------
Total current liabilities 10,055,297 27,126,217
Long-term debt:
Bank loans -- 17,950,000
Subordinated notes, net 7,499,070 7,808,772
Capitalized lease obligation, net of current portion 77,870 754,517
------------ ------------
Total liabilities 17,632,237 53,639,506
------------ ------------
Commitments and contingencies
Shareholders' equity:
Preferred Stock, $.0001 par value, 5,882,353 shares authorized, no shares
outstanding in 1997 and 1998
Common stock, no par value, 23,529,411 shares authorized, 6,000,391 shares
issued and outstanding in 1997 and 9,375,952 shares issued and
outstanding in 1998 45,816,774 87,443,237
Accumulated deficit (23,777,658) (67,258,454)
------------ ------------
22,039,116 20,184,783
Notes receivable from warrant issuances and stock sales (208,544) (7,666,645)
------------ ------------
Total shareholders' equity 21,830,572 12,518,138
------------ ------------
Total liabilities and shareholders' equity $ 39,462,809 $ 66,157,644
============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
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EMCORE CORPORATION
STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED SEPTEMBER 30, 1996, 1997 AND 1998
------------ ------------ ------------
1996 1997 1998
------------ ------------ ------------
Revenues:
Systems and materials $ 24,066,506 $ 46,591,662 $ 42,820,791
Services 3,712,379 1,160,910 939,192
------------ ------------ ------------
Total revenues 27,778,885 47,752,572 43,759,983
Cost of sales:
Systems and materials 16,121,938 29,309,898 24,148,783
Services 2,484,482 784,117 526,706
------------ ------------ ------------
Total cost of sales 18,606,420 30,094,015 24,675,489
------------ ------------ ------------
Gross profit 9,172,465 17,658,557 19,084,494
------------ ------------ ------------
Operating expenses:
Selling, general and administrative 6,524,482 9,346,329 14,082,438
Goodwill amortization 921,941
Research and development - recurring 5,401,413 9,001,188 16,494,888
Research and development - one-time acquired
in-process, non-cash -- -- 29,294,000
------------ ------------ ------------
Operating loss (2,753,430) (688,960) (41,708,773)
------------ ------------ ------------
Other expenses:
Stated interest, net of interest income of $71,460,
$236,945, and $448,227 for the years ended
September 30, 1996, 1997 and 1998, respectively 297,093 519,422 972,992
Imputed warrant interest expense, non-cash 125,791 3,988,390 600,536
Equity in net loss of unconsolidated affiliate -- -- 198,495
------------ ------------ ------------
Loss before income taxes and
extraordinary item (3,176,314) (5,196,772) (43,480,796)
Provision for income taxes -- 137,000 --
------------ ------------ ------------
Net loss before extraordinary item (3,176,314) (5,333,772) (43,480,796)
Extraordinary item - loss on early
extinguishment of debt -- 285,595 --
------------ ------------ ------------
Net loss $ (3,176,314) $ (5,619,367) $(43,480,796)
============ ============ ============
Per share data:
Basic shares used in per share data calculations 2,994,466 4,668,822 8,775,270
Diluted shares used in per share data calculations 2,994,466 4,668,822 8,775,270
Net loss per basic share before extraordinary item $ (1.06) $ (1.14) $ (4.95)
============ ============ ============
Net loss per basic share $ (1.06) $ (1.20) $ (4.95)
============ ============ ============
Net loss per diluted share before
extraordinary item $ (1.06) $ (1.14) $ (4.95)
============ ============ ============
Net loss per diluted basic share $ (1.06) $ (1.20) $ (4.95)
============ ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
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EMCORE CORPORATION
STATEMENTS OF SHAREHOLDERS' EQUITY
AS OF SEPTEMBER 30, 1996, 1997 AND 1998
Common Stock Shareholders' Total
----------------------------- Accumulated Notes Shareholders'
Shares Amount Deficit Receivable Equity
--------------- ------------- ---------------- ---------------- ---------------
BALANCE AT SEPTEMBER 30, 1995 2,994,461 $16,637,566 $(14,981,977) $(146,107) $1,509,482
Issuance of common stock purchase 2,340,000 2,340,000
warrants
Notes receivable due from shareholders
in connection with issuance of
detachable warrants (151,579) (151,579)
Net loss (3,176,314) (3,176,314)
--------------- ------------- ---------------- ---------------- ---------------
BALANCE AT SEPTEMBER 30, 1996 2,994,461 18,977,566 (18,158,291) (297,686) 521,589
Issuance of common stock purchase
warrants 3,601,455 3,601,455
Issuance of common stock in initial
public offering, net of issuance cost
of $3,110,345 2,875,000 22,764,655 22,764,655
Issuance of common stock on exercise of
warrants 94,124 384,027 384,027
Issuance of common stock on exercise of
stock options 34,965 53,640 53,640
Redemptions of notes receivable from
shareholders 31,842 31,842
Forgiveness of notes receivable from
shareholder 57,300 57,300
Compensatory stock issuances 1,841 35,431 35,431
Net loss (5,619,367) (5,619,367)
--------------- ------------- ---------------- ---------------- ---------------
BALANCE AT SEPTEMBER 30, 1997 6,000,391 45,816,774 (23,777,658) (208,544) 21,830,572
Issuance of common stock purchase
warrants 1,309,546 1,309,546
Issuance of common stock on exercise of
warrants in exchange for notes
receivable 1,827,966 7,458,101 (7,458,101) --
Issuance of common stock and common
stock purchase options and warrants
in connection with the acquisition of 1,461,866 32,329,000 32,329,000
MODE
Stock option exercise 35,809 83,486 83,486
Stock purchase warrant exercise 5,660 23,092 23,092
Issuance of common stock on exercise of
warrants in exchange for subordinated
notes 17,605 71,841 71,841
Compensatory stock issuances 26,655 351,397 351,397
Net loss (43,480,796) (43,480,796)
--------------- ------------- ---------------- ---------------- ---------------
BALANCE AT SEPTEMBER 30, 1998 9,375,952 $87,443,237 $(67,258,454) $(7,666,645) $12,518,138
=============== ============= ================ ================ ===============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
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EMCORE CORPORATION
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED SEPTEMBER 30, 1996, 1997 AND 1998
1996 1997 1998
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (3,176,314) $ (5,619,367) $(43,480,796)
Adjustments to reconcile net loss to
net cash used for operating activities:
Acquired in-process research and -- -- 29,294,000
development, non-cash
Depreciation and amortization 1,871,016 3,187,755 6,051,105
Provision for doubtful accounts 146,418 515,000 1,118,000
Provision for inventory valuation 105,000 120,000 120,000
Detachable warrant accretion and debt
issuance cost amortization 125,792 3,988,390 600,536
Extraordinary loss on early extinguishment
of debt -- 285,595
Equity in net loss of unconsolidated 198,495
affiliate
Compensatory stock issuances -- 35,431 351,397
Write-off note receivable due from
shareholder -- 57,300 --
Change in assets and liabilities:
Accounts receivable - trade (1,041,956) (5,929,533) 1,882
Accounts receivable - related party -- (2,500,000) 2,000,000
Inventories (4,410,566) 339,414 (5,243,187)
Costs in excess of billings on uncompleted (2,882) 19,322 (77,531)
contracts
Prepaid expenses and other current assets (26,784) (60,458) 12,632
Other assets (468,565) 27,568 (623,775)
Accounts payable 3,398,078 (2,029,154) 7,949,760
Accrued expenses 777,899 1,880,943 (970,148)
Advanced billings 1,122,667 (1,308,279) 1,182,187
Billings in excess of costs on uncompleted (306,359) -- --
contracts
Unearned service revenue 12,315 111,964 (71,501)
------------ ------------ ------------
Total adjustments 1,302,073 (1,258,742) 41,893,852
------------ ------------ ------------
Net cash and cash equivalents
used for operating activities (1,874,241) (6,878,109) (1,586,944)
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant, and equipment (7,090,869) (11,631,642) (22,132,071)
Acquisition, cash acquired -- -- 192,799
Investment in unconsolidated affiliates -- -- (490,000)
Funding of restricted cash -- (312,500) 250,000
------------ ------------ ------------
Net cash and cash equivalents used for
investing activities (7,090,869) (11,944,142) (22,179,272)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from initial public offering, net of
issuance cost of $3,110,345 -- 22,764,655 --
Proceeds under bank loans -- 8,000,000 17,950,000
Proceeds from notes payable, related party 7,000,000
Proceeds from subordinated note issuance 11,009,600 -- --
Payments on demand note facility and -- (10,000,000) --
subordinated debt
Proceeds from exercise of stock purchase -- 85,121 23,092
warrants
Proceeds from exercise of stock options -- 53,640 83,486
Payments on capital lease obligations (3,000,000) (5,723) (487,671)
Reduction in notes receivable from -- 210,317 --
shareholders
------------ ------------ ------------
Net cash and cash equivalents provided by
financing activities 8,009,600 21,108,010 24,568,907
------------ ------------ ------------
Net (decrease) increase in cash and cash (955,510) 2,285,759 802,691
equivalents
Cash and cash equivalents at beginning of year 2,322,896 1,367,386 3,653,145
------------ ------------ ------------
Cash and cash equivalents at end of year $ 1,367,386 $ 3,653,145 $ 4,455,836
============ ============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest $ 276,000 $ 600,000 $ 1,347,000
Cash paid for income taxes 55,000 -- --
NONCASH INVESTING AND FINANCING ACTIVITIES:
Common stock issued on the exercise of warrants
in exchange for subordinated notes $ 71,841
Issuance of common stock on the exercise of warrants
in exchange for notes receivable $ 7,458,101
Issuance of common stock, and common stock purchase
options and warrants in connection with the
acquisition of MicroOptical Devices Inc. $ 32,329,003
Reference is made to Note 8 - Debt Facilities - for disclosure relating to
certain non-cash warrant issuance.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
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EMCORE Corporation
Notes to Financial Statements
NOTE 1. DESCRIPTION OF BUSINESS
EMCORE is a designer and developer of compound semiconductor materials
and process technology and a manufacturer of production systems used to
fabricate compound semiconductor wafers. Compound semiconductors are used in a
broad range of applications in wireless communications, telecommunications,
computers, and consumer and automotive electronics. The Company has recently
capitalized on its technology base by expanding into the design and production
of compound semiconductor wafers and package-ready devices and under specific
arrangements has licensed certain process technologies. During fiscal 1998, the
Company completed the acquisition of a development stage company focused on the
research and development of optical laser technologies (see Note 3). The
Company offers its customers a complete, vertically-integrated solution for the
design, development and production of compound semiconductor wafers and
devices.
BASIS OF PRESENTATION AND LIQUIDITY. The accompanying financial
statements have been prepared on a going concern basis. The Company for the year
ended September 30, 1998, experienced a 10% decline in revenue of approximately
$4.0 million and a substantial operating loss amounting to approximately $41.7
million (approximately $12.5 million excluding the effect of acquired in-process
research and development) and had a working capital deficiency of $2.0 million.
The Company's operations are subject to a number of risks, including but
not limited to a history of net losses from operations, future capital needs,
dependence on key personnel, competition and risk of technological obsolescence,
governmental regulations and approvals, research and development results,
continued development of its compound semiconductor manufacturing and marketing
capabilities and a concentration of international sales in Asia. The Company's
operations for the year ended September 30, 1998, were primarily funded through
borrowings under existing credit facilities, as well as short-term advances from
the Company's Chairman - aggregating $7.0 million as of September 30, 1998. The
Company's Chairman has from time to time provided credit enhancements in the
form of debt guarantees and has loaned the Company funds to support its
expansion and capital equipment requirements. The Company's Chief Executive
Officer has also provided credit enhancements in the form of debt guarantees for
the Company. Subsequent to September 30, 1998, the Company completed a preferred
stock private placement (the "Private Placement," see Note 17), resulting in
proceeds of $21.2 million. The Company repaid its Chairman $8.5 million
(including $1.5 million advanced to the Company subsequent to September 30,
1998), invested approximately $5.6 million in two unconsolidated ventures and
the balance of approximately $7.0 million will be used for general working
capital purposes. In addition, the Company's $10.0 million credit facility was
extended to October 1, 1999. The Company's operating plans include, among other
things attempting to improve (i) operating cash flow through increased sales of
compound semiconductor systems, wafers and package-ready devices and (ii)
managing its cost structure in relation to its anticipated level of revenues.
The Company believes that its current liquidity, together with available credit
facilities and the proceeds from the Private Placement, should be sufficient to
meet its cash needs for working capital through fiscal 1999. However, if the
proceeds from the Private Placement, cash generated from operations and cash on
hand are not sufficient to satisfy the Company's liquidity requirements, the
Company will seek to obtain additional equity or debt financing. Additional
funding may not be available when needed or on terms acceptable to the Company.
If the Company is required to raise additional financing and if adequate funds
are not available or are not available on acceptable terms, the ability to
continue to fund expansion, develop and enhance products and services, or
otherwise respond to competitive pressures would be severely limited. Such a
limitation could have a material adverse effect on the Company's business,
financial condition or operations and the financial statements do not include
any adjustment that could result therefrom.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION. The consolidated financial statements
include the accounts of the Company and its wholly-owned subsidiary. The equity
method of accounting is used for unconsolidated affiliates in which the
Company's equity is at least 20% and not more than 50%. All significant
intercompany transactions are eliminated upon consolidation.
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CASH AND CASH EQUIVALENTS. The Company considers all highly liquid
short-term investments purchased with an original maturity of three months or
less to be cash equivalents. The Company had approximately $2,254,000 and
$3,003,000 in cash equivalents at September 30, 1997 and 1998, respectively. As
of September 30, 1998, the Company had restricted cash in the amount of $62,500
due to a contractual obligation.
INVENTORIES. Inventories are stated at the lower of FIFO (first-in,
first-out) cost or market. Reserves are established for slow moving or obsolete
inventory based upon historical and anticipated usage.
PROPERTY AND EQUIPMENT. Property and equipment are stated at cost.
Significant renewals and betterments are capitalized. Maintenance and repairs
which do not extend the useful lives of the respective assets are expensed.
Depreciation is recorded using the straight-line method over the estimated
useful lives of the applicable assets, which range from three to five years.
Leasehold improvements are amortized using the straight-line method over the
term of the related leases or the estimated useful lives of the improvements,
whichever is less. Depreciation expense includes the amortization of capital
lease assets. When assets are retired or otherwise disposed of, the assets and
related accumulated depreciation accounts are adjusted accordingly, and any
resulting gain or loss is recorded in current operations.
LONG-LIVED ASSETS. The carrying amount of assets is reviewed on a
regular basis for the existence of facts or circumstances, both internally and
externally, that suggest impairment. To date no such impairment has been
indicated. The Company determines if the carrying amount of a long-lived asset
is impaired based on anticipated undiscounted cash flows before interest. In
the event of an impairment, a loss is recognized based on the amount by which
the carrying amount exceeds fair value of the asset. Fair value is determined
primarily using the anticipated cash flows before interest, discounted at a
rate commensurate with the risk involved.
DEFERRED COSTS. Included in other assets are deferred costs related to
obtaining product patents and debt issuance costs and an investment in an
unconsolidated affiliate. Amortization expense related to product patents
amounted to approximately $128,000, $40,000 and $79,000 for the years ended
September 30, 1996, 1997 and 1998, respectively. During the year ended September
30, 1998, the Company issued 284,684 common stock purchase warrants in exchange
for the guaranteeing of a credit facility by the Company's Chairman and Chief
Executive Officer. The warrants were assigned a value of $1,310,000 which is
being amortized over the eighteen month term of the facility. The warrants were
valued by the Company based upon its application of the Black Scholes Option
Pricing Model. Amortization expense related to such warrant issuance amounted to
approximately $219,000 for fiscal 1998.
GOODWILL. Goodwill is amortized using the straight-line method over
three years. The Company evaluates annually whether there has been a permanent
impairment in the value of goodwill. Any impairment would be recognized when
the sum of expected undiscounted cash flows derived from the acquired business
is less than its carrying value. If such an impairment occurred, the amount of
the impairment would be based on the fair value of the acquired business as
determined by the market value of comparable companies on the present value of
expected cash flows.
INCOME TAXES. The Company recognizes deferred taxes by the asset and
liability method of accounting for income taxes. Under the asset and liability
method, deferred income taxes are recognized for differences between the
financial-statement and tax bases of assets and liabilities at enacted
statutory tax rates in effect for the years in which the differences are
expected to reverse. The effect on deferred taxes of a change in tax rates is
recognized in income in the period that includes the enactment date. In
addition, valuation allowances are established when necessary to reduce
deferred tax assets to the amounts expected to be realized. The primary sources
of temporary differences are depreciation and amortization of intangible
assets.
REVENUE AND COST RECOGNITION--SYSTEMS, COMPONENTS AND SERVICE REVENUEs.
Revenue from systems sales is recognized upon shipment, when title passes to
the customer. Subsequent to product shipment, the Company incurs certain
installation costs at the customer's facility and warranty costs which are
estimated and accrued at the time the sale is recognized. Component sales and
service revenues are recognized when goods are shipped or services are rendered
to the customer. Service revenue under contracts with specified service terms
is recognized as earned over the service period in accordance with the terms of
the applicable contract. Costs in connection with the procurement of the
contracts are charged to expense as incurred.
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REVENUE AND COST RECOGNITION--CONTRACT REVENUe. The Company's research
contracts require the development or evaluation of new materials applications
and have a duration of six to thirty-six months. For research contracts with
the U.S. Government and commercial enterprises with duration's greater than six
months, the Company recognizes revenue to the extent of costs incurred plus the
estimated gross profit as stipulated in such contracts, based upon contract
performance. Contracts with a duration of six months or less are accounted for
on the completed contract method. A contract is considered complete when all
costs, except insignificant items, have been incurred, and the research
reporting requirements to the customer have been met. Contract costs include
all direct material and labor costs and those indirect costs related to
contract performance, such as indirect labor, supplies, tools, repairs and
depreciation costs, as well as coverage of certain general and administrative
costs. Provisions for estimated losses on uncompleted contracts are made in the
period in which such losses are determined. Revenues from contracts amounted to
approximately $3,295,000, $614,000 and $438,000 for the years ended September
30, 1996, 1997 and 1998, respectively.
RESEARCH AND DEVELOPMENT. Research and development costs related to the
development of both present and future products and Company sponsored materials
application research are charged to expense as incurred. In connection with the
acquisition of MicroOptical Devices, Inc. ("MODE"), the Company they recorded a
charge of $29,294,000 for acquired in-process research and development.
FAIR VALUE OF FINANCIAL INSTRUMENTS. The Company estimates the fair
value of its financial instruments based upon discounted cash flow analyses
using the Company's incremental borrowing rate on similar instruments as the
discount rate. As of September 30, 1998, the fair value of the Company's
subordinated notes exceeded the carrying value of such instruments by
approximately $830,000. As of September 30, 1998, the carrying values of the
Company's cash and cash equivalents, receivables, accounts payable and variable
rate based debt as reflected on the Company's accompanying balance sheet
approximates fair value.
USE OF ESTIMATES. The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements. Estimates also affect the reported amounts of
revenues and expenses during the reporting period. Actual results may differ
from those estimates. The Company's most significant estimates relate to
acquired in-process research and development, accounts receivable and inventory
valuation reserves, warranty and installation accruals, estimates of cost and
related gross profits on certain research contracts and the valuation of
long-lived assets.
NET LOSS PER SHARE. The Company adopted the provisions of Statement of
Financial Accounting Standards No. 128 "Earnings per share" ("SFAS No. 128")
effective with its first quarter. Basic and diluted earnings per share
calculated pursuant to SAFS No. 128 have been restated for all periods
presented to give effect to the Securities and Exchange Commission's Staff
Accounting Bulletin No. 98 which eliminated certain computational requirements
of Staff Accounting Bulletin No. 64.
Basic earnings per common share was calculated by dividing net loss by
the weighted average number of common stock shares outstanding during the
period. Diluted earnings per share was calculated by dividing net income by the
sum of the weighted average number of common shares outstanding plus all
additional common shares that would have been outstanding if potentially
dilutive common shares had been issued. The following table reconciles the
number of shares utilized in the Company's earnings per share calculations.
Years Ended September 30,
------------------------------------------------
1996 1997 1998
------------ ------------ ------------
Net loss $ (3,176,314) $ (5,619,367) $(43,480,796)
Earnings per common share - basic $ (1.06) $ (1.20) $ (4.95)
Earnings per common share - diluted $ (1.06) $ (1.20) $ (4.95)
Common share - basic 2,994,466 4,668,822 8,775,270
EFFECT OF DILUTIVE SECURITIES:
Stock options and warrants -- -- --
Common shares - diluted 2,994,466 4,668,822 8,775,270
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RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 131. "Disclosures
about Segments of an Enterprise and Related Information" ("SFAS No. 131"),
which establishes standards for reporting information about operating segments
in annual financial statements. It also establishes standards for related
disclosures about products and services, geographic areas and major customers.
The Company will be required to adopt this standard in its fiscal year ended
September 30, 1999. The adoption of SFAS No. 131 is not expected to have an
impact on the Company's results of operations, financial position or cash
flows.
In February 1998, FASB issued SFAS No. 132, "Employers' Disclosures
about Pension and Other Postretirement Benefits" ("SFAS No. 132"), which
revises employers' disclosures about pension and other postretirement benefit
plans. SFAS No. 132 does not change the measurement or recognition of those
plans. SFAS No. 132 is effective for fiscal years beginning after December 15,
1997. The adoption of SFAS No. 132 is not expected to have an impact on the
Company's results of operations, financial position or cash flows.
In March 1998, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position ("SOP") 98-1, "Accounting for the Cost
of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1"). SOP
98-1 is effective for financial statements for years beginning after December
14, 1998. SOP 98-1 provides guidance over accounting for computer software
development or obtained for internal use including the requirement to
capitalize specified costs and amortization of such costs. The Company does not
expect the adoption of this standard to have a material effect results of
operations, financial position or cash flows.
In April 1998, AICPA issued SOP 98-5, "Reporting on the Costs of
Start-Up Activities" ("SOP 98-5"). SOP 98-5, which is effective for fiscal
years beginning after December 15, 1998, provides guidance on the financial
reporting of start-up costs and organization costs. It requires costs of start
up activities and organization costs to be expenses as incurred. As the Company
has expensed these costs historically, the adoption of this standard is not
expected to have a significant impact on its results of operations, financial
position or cash flows.
RECLASSIFICATIONS. Prior period balances have been reclassified to
conform with the current period financial statement presentation.
NOTE 3. ACQUISITION
On December 5, 1997, the Company acquired all of the outstanding
capital stock of MODE in exchange for 1,461,866 shares of EMCORE common stock,
200,966 common stock purchase options (exercise prices ranging from $0.43 to
$0.59), and 47,118 common stock purchase warrants (exercise prices ranging from
$4.32 to $5.92). The purchase price was approximately $32,829,000 including
direct acquisition costs of approximately $500,000. The acquisitions of MODE
was recorded using the purchase method of accounting. Accordingly, the results
of operations of the acquired business and the fair values of the acquired
tangible and intangible assets and assumed liabilities have been included in
the Company's financial statements as of December 5, 1997. The allocation of
the fair value of the net assets acquired is as follows:
Net tangible assets $ 156,000
Goodwill 3,379,000
Acquired in process research and development 29,294,000
-----------
Total purchase price $32,829,000
===========
MODE was a development stage company (incorporated in August 1995) and
had 18 employees at the date of acquisition. MODE's activities were
substantially dedicated towards the research and development of micro optical
laser devices at the date of acquisition.
The amount allocated to acquired in-process research and development
was determined through an independent valuation, which includes a number of
estimates and assumptions. The amount allocated to acquired
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in-process research and development was immediately written-off. Goodwill is
being amortized over a period of three years.
The following unaudited pro forma basis financial information reflects
the combined results of operations of the Company and MODE, as if MODE had been
acquired as of October 1, 1996. The summary includes the impact of certain
adjustments, such as goodwill amortization and the number of shares
outstanding.
(UNAUDITED)
YEAR ENDED SEPTEMBER 30,
-----------------------------
1997 1998
------------ ------------
Revenue $ 48,313,000 $ 43,860,000
Net loss before extraordinary item 8,769,000 15,085,000
Net loss 9,055,000 15,085,000
Net loss, per share $ 1.42 $ 1.72
The unaudited pro forma results of operations are not necessarily
indicative of what actually would have occurred if the acquisition had occurred
on October 1, 1996. In addition, the unaudited pro forma results of operations
are not intended to be a projection of future results that might be achieved
from the combined entity. The foregoing pro forma results of operations does
not reflect the non-recurring write-off of acquired in-process research and
development.
NOTE 4. CONCENTRATION OF CREDIT RISK
The Company sells its compound semiconductor products domestically and
internationally. The Company's international sales are generally made under
letter of credit arrangements.
For the years ended September 30, 1996, 1997 and 1998, the Company
sold 42.5%, 42.0% and 39.1% of its products to foreign customers, respectively.
The Company's world-wide sales to major customers were as follows:
As of September 30,
-----------------------------------------------------
1996 1997 1998
----------- ----------- -----------
Customer A $ 6,558,930 $ 4,872,540 $ 7,563,137
Customer B 1,773,864 7,158,619 5,602,120
Customer C -- 2,500,000 2,501,500
Customer D 1,530,000 3,085,000 178,856
Customer E 2,075,722 -- --
----------- ----------- -----------
Total $11,938,516 $17,616,159 $15,845,613
=========== =========== ===========
The Company performs material application research under contract with
the U.S. Government or as a subcontractor of U.S. Government funded projects.
The Company performs ongoing credit evaluations of its customers'
financial condition and collateral is not requested. The Company maintains
reserves for potential credit losses based upon the credit risk of specified
customers, historical trends and other information. To reduce credit risk and
to fund manufacturing costs, the Company requires periodic prepayments or
irrevocable letters of credit on most production system orders. During the
quarter ended June 30, 1998, the Company wrote off outstanding receivables of
approximately $1.0 million which was due from an Asian customer. Prior to this
event, the Company's credit losses generally had not exceeded its expectations.
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The Company has maintained cash balances with certain financial
institutions in excess of the $100,000 insured limit of the Federal Deposit
Insurance Corporation.
NOTE 5. INVENTORIES
The components of inventories consisted of the following:
As of September 30,
-------------------------------------
1997 1998
----------------- ------------------
Raw materials $6,513,379 $11,346,487
Work-in-process 672,247 1,091,971
Finished goods -- 6,868
----------------- ------------------
Total $7,185,626 $12,445,326
================= ==================
NOTE 6. PROPERTY, PLANT AND EQUIPMENT
Major classes of property and equipment are summarized below:
As of September 30,
------------------------------------
1997 1998
----------------- -----------------
Land $ -- $ 1,028,902
Building -- 7,493,385
Equipment 19,190,770 28,367,324
Furniture and fixtures 2,300,146 3,255,680
Leasehold improvements 6,085,256 9,948,121
Fixed assets under capital leases 98,623 2,042,728
----------------- -----------------
27,674,795 52,136,140
Less: accumulated depreciation and
amortization (10,876,962) (15,926,309)
----------------- -----------------
Total $ 16,797,833 $ 36,209,831
================= =================
At September 30, 1998, minimum future lease payments due under the
capital leases are as follows:
Period ending September 30,
1999 $ 796,648
2000 741,345
2001 62,478
2002 25,336
2003 and thereafter --
-----------------
Total minimum lease payments 1,625,807
Less: amount representing interest (average rate of (198,254)
9.8%) -----------------
Net minimum lease payments 1,427,553
Less: current portion (673,036)
-----------------
Long-term portion $ 754,517
=================
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The provisions for depreciation and amortization expense on owned
property and equipment amounted to approximately $1,743,000, $3,148,000 and
$4,683,000 for the years ended September 30, 1996, 1997 and 1998, respectively.
Accumulated amortization on assets accounted for as capital lease amounted to
approximately $366,000 as of September 30, 1998.
Included in equipment above are ten systems and 18 systems with a
combined net book value of approximately $5,057,000 and $9,644,000 at September
30, 1997 and 1998, respectively. Such systems are utilized for the production
of compound semiconductor wafers and package-ready devices for sale to third
parties, systems demonstration purposes, system sales support, in-house
materials applications, internal research and contract research funded by third
parties.
NOTE 7. ACCRUED EXPENSES
Accrued expenses consisted of the following:
As of September 30,
---------------------------------
1997 1998
---------------------------------
Accrued payroll, vacation and other
employee expenses $1,659,428 $2,113,765
Installation and warranty costs 1,411,120 704,114
Interest 272,445 346,250
Other 1,033,276
524,596
---------------------------------
Total $3,867,589 $4,197,405
=================================
NOTE 8. DEBT FACILITIES
1998 Agreement:
On June 22, 1998, the Company entered into an $8.0 million loan
agreement with First Union National Bank (the "1998 Agreement"), which expires
December 31, 1999. The 1998 Agreement bears interest at a rate equal to
one-month LIBOR plus three-quarters of one percent per annum (or 6.4% at
September 30, 1998). As of September 30, 1998, $8.0 million was outstanding
under the 1998 Agreement and is due and payable on December 31, 1999. The 1998
Agreement is guaranteed by both the Company's Chairman and Chief Executive
Officer. In exchange for guaranteeing the facility, the Chairman and the Chief
Executive Officer were granted an aggregate of 284,684 common stock purchase
warrants exercisable at $11.375 per share until May 1, 2001. These warrants are
callable at the Company's option at $0.85 per warrant at such time as the
Company's Common Stock has traded at or above 150% of the exercise price for a
period of thirty days.
The Company assigned a value of $1,310,000 to the warrants issued to
the guarantors. This valuation was based upon the Company's application of the
Black Scholes Option Pricing Model. This value is accounted for as debt
issuance cost and will be amortized over the eighteen month life of the 1998
Agreement.
1997 Agreement:
On March 31, 1997, the Company entered into a $10.0 million loan
agreement (the "1997 Agreement"). The Agreement bears interest at the rate of
Prime plus 50 basis points (8.0% and 9.0% at September 30, 1998 and 1997,
respectively). As of September 30, 1998 the Company had $9,950,000 outstanding
under this facility. As of September 30, 1997, there were no amounts
outstanding under this facility.
As a result of the net loss for the quarter ended June 30, 1998, the
Company was not in compliance with the 1997 Agreement fixed charged coverage
ratio covenant. The Company received a waiver from the bank regarding this
non-compliance. The 1997 Agreement was extended to November 30, 1998 and
subsequently further
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extended through October 1, 1999. The 1997 Agreement's financial covenants were
modified under the second extension, and management believes that the Company
will be able to comply with such requirements throughout fiscal 1999. In
addition, the Company's Chairman will guarantee such debt in the event the
Company does not meet certain financial covenants.
Subordinated Notes:
On May 1, 1996, the Company issued subordinated notes (the
"Subordinated Notes") in the amount of $9,500,000 to its existing shareholders,
$1,000,000 of which were exchanged for notes receivable from officers and
certain employees with identical payment and interest provisions. The
Subordinated Notes are scheduled to mature on May 1, 2001, and have a stated
interest rate of 6.0% which is payable semi-annually on May 1 and November 1.
In addition, the noteholders were issued 2,328,432 common stock purchase
warrants with an exercise price of $4.08 per share which expire on May 1, 2001.
The warrants are exercisable after November 1, 1996, and are callable at the
Company's option, after May 1, 1997, at $0.85 per warrant. The Company has the
legal right of offset with respect to the notes receivable from officers and
certain key employees, and it is their full intention to offset the
corresponding notes receivable and payable upon maturity. As such, the Company
reflected $848,000 of the officers' and employees' notes receivable as a contra
liability, reducing the Company's Subordinated Notes balance. The remaining
$152,000 note receivable has been reflected as a contra equity note receivable
balance, representing the portion of the employee note receivable associated
with common stock purchase warrants issued to such employees. The Company
received cash proceeds of $8,500,000 in connection with this Subordinated Notes
issuance.
On September 1, 1996, the Company issued a subordinated note in the
amount of $2,500,000 to the Company's then majority shareholder with terms
identical to the Subordinated Notes issued on May 1, 1996. In addition, under
the terms of this issuance, 245,098 common stock purchase warrants were issued
to purchase common stock at $10.20 per share and which expire September 1,
2001. These warrants are exercisable after March 1, 1997, and are callable at
the Company's option after September 1, 1997, at $0.85 per warrant.
The Company assigned a value of $1,440,000 to the May 1, 1996
detachable warrants and $900,000 to the September 1, 1996 detachable warrants.
These valuations were based upon the Company's application of Black Scholes and
the Company's assessment of the underlying valuation factors, as well as an
assessment of the terms of the Subordinated Notes. The carrying value of the
Subordinated Notes will be subject to periodic accretions, using the interest
method, in order for the carrying amount to equal the Company's obligation upon
maturity. As a result, the May 1, 1996 and September 1, 1996 Subordinated Notes
have an effective interest rate of approximately 9.3% and 15.0%, respectively.
For the years ended September 30, 1998, 1997 and 1996, imputed warrant interest
related to the subordinated notes amounted to $593,000, $3,988,000 and
$126,000, respectively.
Demand Note Facilities:
On September 17, 1998, the Company borrowed $7.0 million from its
Chairman. The loan bears interest at 9.75% per annum. In addition, on October
23, 1998 the Company borrowed an additional $1.5 million from its Chairman on
identical terms. The entire sum of $8.5 million borrowed plus interest was
repaid from the proceeds of the Private Placement.
On October 25, 1996, the Company entered into a $10.0 million demand
note facility (the "Facility"). The Facility bore interest at the rate of LIBOR
plus 75 basis points, had a term of one year and was due and payable on demand.
The Facility was guaranteed by the Chairman of the Company's Board of Directors
who provided collateral for the Facility. In December 1996, in return for
guaranteeing the facility, the Company granted the Chairman 980,392 common
stock purchase warrants at $10.20 per share which expire September 1, 2001.
These warrants are exercisable after July 1, 1997, and are callable at the
Company's option after December 1, 1997 at $0.85 per warrant. The Facility was
terminated in conjunction with the Company's initial public offering.
The Company assigned a value of $3,600,000 to the warrants issued to
the guarantor. This valuation was based upon the Company's application of the
Black-Scholes Option Pricing Model ("Black Scholes"). This value was accounted
for as debt issuance cost and was amortized over the expected period that the
facility was to be in place (four months).
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The Company utilized a portion of the proceeds from its initial public
offering to pay down or discharge certain of its debts. The Company repaid the
entire $8.0 million outstanding under its October 1996 Facility and $2.0
million was used to repay a portion of the Company's outstanding subordinated
notes, due May 1, 2001. In connection with the discharge of the Company's
subordinated notes, an extraordinary loss of $286,000 was recognized.
NOTE 9. COMMITMENTS AND CONTINGENCIES
On November 16, 1992, the Company entered into a three-year lease
agreement with a bank for 34,000 square feet of space in the building the
Company presently occupies. On March 31, 1995, the agreement was renewed for 5
years for 49,000 square feet. In November 1996, the Company signed an agreement
to occupy the remaining 26,000 square feet that it previously had not occupied.
The Company leases certain equipment under non-cancelable operating
leases.
Facility and equipment rent expense under such leases amounted to
approximately $350,000, $548,000 and $554,000 for the years ended September 30,
1996, 1997 and 1998, respectively.
Future minimum rental payments under the Company's non-cancelable
operating leases with an initial or remaining term of one year or more as of
September 30, 1998 are as follows:
Period Ending September 30, Operating
- --------------------------- --------------
1999 $712,000
2000 359,000
2001 74,000
2002 (and thereafter) 21,000
-------------
Total minimum lease payments $1,166,000
=============
The Company is from time to time involved in litigation incidental to
the conduct of its business. Management and its counsel believe that such
pending litigation will not have a material adverse effect on the Company's
results of operations, cash flows or financial condition.
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NOTE 10. INCOME TAXES
Income tax expense consists of the following:
Years ended September 30,
-------------------------------------------------------------
1996 1997 1998
------------------- ------------------- -------------------
Current:
Federal $ -- $ 113,000 $ --
State -- 24,000 --
-------------------------------------------------------------
-- 137,000 --
Deferred: --
Federal -- -- --
State -- -- --
---------------------------------------- -------------------
Total $ -- $ 137,000 $ --
=================== =================== ===================
The principal differences between the U.S. statutory and effective
income tax rates were as follows:
Years ended September 30,
--------------------------------------------------------
1996 1997 1998
----------------- ------------------ -----------------
US statutory income tax (benefit)
expense rate (34.0)% (34.0)% (34.0)%
Net operating loss carryforward -- -- --
Net operating loss not utilized 27.7 1.7 44.5
Expenses not yet deductible for
tax purposes 6.3 32.0 (10.5)
AMT and state taxes -- 2.9 --
----------------- ------------------ -----------------
Effective tax rate 0.0% 2.6% 0.0%
================= ================== =================
The components of the Company's net deferred taxes were as follows:
Years ended September 30,
-------------------------------------------
1997 1998
------------------------ ------------------
Deferred tax assets:
Federal net operating loss carryforwards $ 3,502,348 $ 7,943,877
Research credit carryforwards (state and federal) 718,644 1,479,221
Inventory reserves 207,732 247,521
Accounts receivable reserves 243,996 239,701
Interest 1,461,389 1,657,337
Accrued installation reserve 362,379 163,778
Accrued warranty reserve 158,202 75,621
State net operating loss carryforwards 461,821 1,494,064
Other 144,586 238,318
Valuation reserve - federal (5,583,217) (9,438,122)
Valuation reserve - state (1,334,975) (3,751,314)
------------------------ ------------------
Total deferred tax assets 342,905 350,002
Deferred tax liabilities:
Fixed assets and intangibles (342,905) (350,002)
------------------------ ------------------
Total deferred tax liabilities (342,905) (350,002)
Net deferred taxes $ -- $ --
======================== ==================
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The Company has established a valuation reserve as it has not
determined that it is more likely than not that the net deferred tax asset is
realizable, based upon the Company's past earnings history.
As of September 30, 1998, the Company has net operating loss
carryforwards for regular tax purposes of approximately $22.0 million which
expire in the years 2003 through 2013. The Company believes that the
consummation of certain equity transactions and a significant change in the
ownership during fiscal years 1995 and 1998 have constituted a change in
control under Section 382 of the Internal Revenue Code ("IRC"). Due to the
change in control, the Company's ability to use its federal net operating loss
carryovers and federal research credit carryovers to offset future income and
income taxes, respectively, are subject to annual limitations under IRC Section
382 and 383.
The Company believes that the acquisition of MODE and the consummation
of certain other equity transactions has constituted a change in control in
fiscal 1998 under Section 382 of the IRC. As such, Federal net operating loss
carryovers and research credit carryovers incurred subsequent to the Company's
fiscal 1995 change in control (as described above) will also be subject to
annual limitations under IRC Section 382 and 383.
NOTE 11. STOCKHOLDERS' EQUITY
Reverse Stock Split
On February 3, 1997, the Board of Directors approved a 3.4:1 reverse
stock split of its common stock and approved a decrease in the number of shares
of common stock authorized. All references in the accompanying financial
statements to the number of common stock and per-share amounts have been
restated to reflect the reverse split.
Common Stock Offering
In March 1997, the Company completed an initial public offering of
2,500,000 shares of common stock at a price of $9.00 per share (the
"Offering"), and upon the exercise of the Underwriter's overallotment option,
375,000 additional shares of common stock were also sold at $9.00 per share.
The proceeds, net of commissions and certain expenses, to the Company from the
offering were approximately $22.8 million. Prior to the Offering, there was no
public market for the Company's common stock.
Warrant Exercise
On December 3, 1997, the holders of 1.8 million common stock purchase
warrants (with an exercise price of $4.08) exercised such warrants with the
Company taking full recourse notes amounting to approximately $7.5 million in
exchange for the issued common stock. In addition, the holders are required to
provide collateral at a 2:1 coverage ratio. This collateral is presently held
by the Company.
Preferred Stock
The Company's certificate of incorporation authorizes the Board of
Directors to issue up to 5,882,353 shares of preferred stock of the Company
upon such terms and conditions having such rights, privileges and preferences
as the Board of Directors may determine.
NOTE 12. STOCK OPTIONS AND WARRANTS
STOCK OPTION PLAN. In November 1994, the Company's Incentive Stock
Option Plan, initiated in 1987, was eliminated. On June 5, 1995, the Company
adopted the 1995 Incentive and Non-Statutory Stock Option Plan (the "Option
Plan"). Under the terms of the Option Plan, options to acquire 323,529 shares
of common stock may be granted to eligible employees, as defined, at no less
than 100 percent of the fair market value on the date of grant. In March 1996,
options to acquire an additional 323,530 shares of common stock were approved.
Certain options under the Option Plan are intended to qualify as
incentive stock options pursuant to Section 422A of the Internal Revenue Code.
-37-
39
During fiscal 1998, options with respect to 816,284 shares were granted
pursuant to the Company's Option Plan or issued in connection with the MODE
acquisition at exercise prices ranging from $0.44 to $20.00 per share.
Stock options granted generally vest over three to five years and are
exercisable over a ten year period. As of September 30, 1996, 1997 and 1998,
options with respect to 162,764, 199,368 and 481,863 shares were exercisable,
respectively.
The following table summarized the activity under the plan:
Weighted
Average
Shares Exercise Price
--------------- ------------
Outstanding as of September 30, 1995 281,470 $3.03
Granted 57,942 6.04
Exercised -- --
Canceled -- --
--------------- ------------
Outstanding as of September 30, 1996 339,412 $3.54
Granted 182,700 11.06
Exercised (42,165) 3.17
Canceled (4,475) 3.08
--------------- ------------
Outstanding as of September 30, 1997 475,472 $6.47
Granted 816,284 10.18
Exercised (35,809) 2.33
Canceled (43,221) 10.22
--------------- ---------------
Outstanding as of September 30, 1998 1,212,726 $8.95
=============== ===============
As of September 30, 1998, stock options outstanding were as follows:
Exercise Options Weighted Average Remaining Exercisable
Prices Outstanding Contractual Life (Years) Options
- ------------ ----------- -------------------------- -----------
$ 0 less than x Less than or equal to $ 5 419,531 7.96 295,423
$ 5 less than x Less than or equal to $10 22,500 9.88 --
$10 less than x Less than or equal to $15 661,975 9.17 178,873
$15 less than x Less than or equal to $20 74,720 9.19 767
$20 less than x Less than or equal to $25 34,000 8.94 6,800
In October 1995, the Financial Accounting Standards Board issued SFAS
No. 123, "ACCOUNTING FOR STOCK BASED COMPENSATION" ("SFAS 123"). SFAS 123
establishes financial and reporting standards for stock based compensation
plans. The Company has adopted the disclosure only provisions of this standard
and has elected to continue to apply the provision of Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees". Had the
Company elected to recognize compensation expense for stock options based on
the fair value at the grant dates of awards, net loss and net loss per share
would have been as follows:
Years ended September 30,
--------------------------
1997 1998
---------- -----------
Net loss before extraordinary item
As reported $5,333,772 $43,480,796
Pro forma $5,441,274 $44,099,847
Net loss per basic and diluted share
before extraordinary item
As reported $(1.14) $(4.95)
Pro forma $(1.17) $(5.03)
Net loss
As reported $5,619,367 $43,480,796
Pro forma $5,726,869 $44,099,847
Net loss per basic and diluted share
As reported $(1.20) $(4.95)
Pro forma $(1.23) $(5.03)
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40
The weighted average fair value of the Company's stock options was
calculated using Black-Scholes with the following weighted-average assumptions
used for grants: No dividend yield; expected volatility of 0% prior to the
Company's initial public offering and 60% thereafter; a risk-free interest rate
of 6.04% and 5.57% for fiscal years 1997 and 1998, respectively, expected lives
of 5 years. The weighted average fair value of options granted during the years
ended September 30, 1997 and 1998 is $3.82 and $7.50 per share, respectively.
Stock options granted by the Company prior to its initial public offering were
valued using the minimum value method under FASB No. 123.
WARRANTS
Set forth below is a summary of the Company's outstanding warrants at
September 30, 1998:
Exercise Expiration
Security Price Warrants Date
- ---------------------- ----------------- ------------------ ---------------------
Common Stock(1) $4.08 385,428 May 1, 2001
Common Stock(2) $4.33 36,990 August 21, 2006
Common Stock(2) $5.92 10,128 May 16, 2007
Common Stock(3) $10.20 1,225,490 September 1, 2001
Common Stock(4) $11.38 284,684 May 1, 2001
- ----------------------
(1) Issued in connection with the Company's May 1996 subordinated note issuance.
(2) Issued in connection with the MODE acquisition.
(3) Issued in connection with the Company's September 1996 subordinated debt
issuance and October 1996 debt guarantee.
(4) Issued in connection with 1998 Agreement guarantee.
NOTE 13. RELATED PARTIES
In May 1995, 52% of the Company's outstanding shares of Common Stock
were purchased by Jesup & Lamont Merchant Partners, L.L.C. ("JLMP"). Prior to
May 12, 1997, a majority of the Company's then six directors were members of
JLMP. On May 12, 1997, JLMP distributed all of its shares of the Company to the
individual members of JLMP. In May 1995, the Company entered into a consulting
agreement (the "Agreement") with Jesup & Lamont Capital Markets, Inc. ("Jesup &
Lamont") pursuant to which Jesup & Lamont agreed to provide financial advisory
and employee services for the Company for one year. Total fees paid to Jesup &
Lamont amounted to approximately $241,697 for the fiscal year ended September
30, 1996. No fees were paid to Jesup & Lamont during the fiscal years ended
September 30, 1998 and 1997.
In December 1996, the Company's chairman and chief executive officer
retired. The Company entered into a consulting agreement with him for a term of
two years and will provide compensation of $250,000 per annum. In addition, the
Company has also forgiven $115,300 of his indebtedness to the Company and had
agreed to extend the period for the exercise of his vested stock options
through March 1997 and accordingly he exercised all 26,471 vested shares.
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41
In fiscal 1997, the Company entered into a non-exclusive and
non-refundable technology licensing and royalty agreement with Uniroyal
Technology Corporation ("UTC") for the process technology to develop and
manufacture high brightness light emitting diodes ("LEDs"). During fiscal 1998
and 1997, revenue associated with the UTC licensing agreement amounted to $2.5
million and $2.5 million, respectively. At the time the transaction was
originally entered into, UTC's Chairman and CEO was a member of EMCORE's Board
of Directors and EMCORE's Chairman was on the Board of Directors of UTC. All
related party accounts receivable for fiscal 1997 have been paid in full. As of
September 30, 1998, the Company had an outstanding related party receivable of
$500,000.
In July 1998, the Company and a wholly-owned subsidiary of UTC entered
into a venture to produce and market compound semi-conductor products. The
Company has a 49% non-controlling minority interest. The Company's rights under
the venture agreement are protective and as such, the Company accounts for its
interest in the venture under the equity method of accounting. The investment
in this venture amounted to $490,000 as of September 30, 1998, and has been
classified as a component of other long-term assets. For the year ended
September 30, 1998, the Company recognized a loss of $198,000 related to this
venture, which has been recorded as a component of other income and expense.
The President of Hakuto Co. Ltd. ("Hakuto"), the Company's Asian
distributor, is a member of the Company's Board of Directors and Hakuto is a
minority shareholder of the Company. During the year ended September 30, 1998,
sales made through Hakuto approximated $9.2 million.
On June 22, 1998, the Company entered into the 1998 Agreement. The 1998
Agreement was guaranteed by the Chairman and the Chief Executive Officer of the
Company (see Note 8). In return for guaranteeing the facility, the Company
granted the Chairman and the Chief Executive Officer an aggregate of 284,684
common stock purchase warrants at $11.375 per share which expire May 1, 2001.
These warrants are callable at the Company's option at $0.85 per warrant at such
time as the Company's common stock has traded at or above 150% of the exercise
price for a period of 30 days.
On September 17, 1998, the Company borrowed $7.0 million from its
Chairman, Thomas J. Russell. The loan bears interest at 9.75% per annum. In
addition, on October 23, 1998 the Company borrowed an additional $1.5 million
from its Chairman on identical terms. The entire $8.5 million, borrowed from
Mr. Russell was repaid from the proceeds of a private placement (See Note 8).
NOTE 14. EXPORT SALES
The information below summarizes the Company's export sales by
geographic area. The Company's export sales to the Far East and Europe are as
follows:
Far East Europe Total
----------- ----------- -----------
Year ended September 30, 1996 $ 8,209,309 $ 3,588,066 $11,797,375
Year ended September 30, 1997 $14,583,981 $ 5,478,186 $20,062,167
Year ended September 30, 1998 $15,527,169 $ 1,584,851 $17,112,020
NOTE 15. QUARTERLY FINANCIAL DATA (UNAUDITED)
Operating Net (Loss)
(Loss) Net (Loss) Income Per
Revenues Income Income Share
-------- -------- -------- --------
(in thousands except per share data)
FISCAL YEAR 1997:
December 31, 1996 $ 8,591 $ (2,585) $ (3,798) $ (0.86)
March 31, 1997 12,929 147 (3,150) (0.82)
June 30, 1997 14,106 907 830 0.10
September 30, 1997 12,126 841 498 0.06
FISCAL YEAR 1998:
December 31, 1997 12,357 $(29,223)* $(29,389)* $ (4.15)*
March 31, 1998 13,808 200 37 0.00
June 30, 1998 $ 9,074 (7,141) (7,446) (0.80)
September 30, 1998 $ 8,521 (5,544) (6,683) (0.71)
- ----------------------
*includes $29.3 million one-time acquired in-process, non-cash research and
development.
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NOTE 16. EMPLOYEE SAVINGS PLAN
The Company has a savings plan (the "Savings Plan") that qualifies as a
deferred salary arrangement under Section 401(k) of the Internal Revenue Code.
Under the Savings Plan, participating employees may defer a portion of their
pretax earnings, up to the Internal Revenue Service annual contribution limit.
Effective August 1, 1997, the Company began contributing to the Savings Plan.
All employer contributions are made in the Company's common stock. For the year
ended September 30, 1998, the Company contributed approximately $252,000 to the
Savings Plan.
NOTE 17. SUBSEQUENT EVENTS (UNAUDITED)
Preferred Stock Private Placement
On November 30, 1998, the Company sold an aggregate of 1,550,000 shares
of Series I Redeemable Convertible Preferred Stock for aggregate consideration
of $21.7 million before deducting costs and expenses of the offering of
approximately $500,000. The shares of Series I Preferred Stock are convertible,
at any time, at the option of the holders thereof, unless previously redeemed,
into shares of Common Stock at an initial conversion price of $14.00 per share
of Common Stock, subject to adjustment in certain cases. The Series I Preferred
Stock is redeemable, in whole or in part, at the option of the Company at any
time the Company's stock has traded at or above $28.00 per share for 30
consecutive trading days, at a price of $14.00 per share, plus accrued and
unpaid dividends, if any, to the redemption date. In addition, the Series I
Preferred Stock is subject to mandatory redemption by the Company at $14.00 per
share plus accrued and unpaid dividends, if any, on November 17, 2003.
Joint Ventures
In November 1998, the Company formed a joint venture with Union Miniere
Inc. to explore and develop alternate uses of germanium substrates. The Company
also formed a joint venture in November 1998, with Optek Technology, Inc. to
market an expanded line of magneto resistive sensors.
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REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Shareholders of EMCORE Corporation
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, shareholders' equity and cash
flows present fairly, in all material respects, the financial position of EMCORE
Corporation and its subsidiaries at September 30, 1998 and 1997, and the results
of their operations and their cash flows for each of the three years in the
period ended September 30, 1998, in conformity with generally accepted
accounting principles. In addition, in our opinion, the financial statement
schedule listed in the index appearing under Item 14(a)(2) presents fairly, in
all material respects, the information set forth therein when read in
conjunction with the related consolidated financial statements. These financial
statements and financial statement schedule are the responsibility of the
Company's management; our responsibility is to express an opinion on these
financial statements and financial statement schedule based on our audits. We
conducted our audits of these statements in accordance with generally accepted
auditing standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
As discussed in Note 2 (Net loss per share), the Company has changed
its method of calculating earnings per basic and diluted common share.
PricewaterhouseCoopers LLP
Florham Park, New Jersey
November 30, 1998,
-42-
44
STATEMENT OF MANAGEMENT RESPONSIBILITY FOR FINANCIAL STATEMENTS
To the Shareholders of
EMCORE Corporation:
Management has prepared and is responsible for the consolidated
financial statements and related information in the Annual Report. The financial
statements, which include amounts based on judgment, have been prepared in
conformity with generally accepted accounting principles consistently applied.
Management has developed, and in 1998 continued to strengthen, a system
of internal accounting and other controls for the Company. Management believes
these controls provide reasonable assurance that assets are safeguarded from
loss or unauthorized use and that the Company's financial records are a reliable
basis for preparing the financial statements. Underlying the concept of
reasonable assurance is the premise that the cost of control should not exceed
the benefit derived.
The Board of Directors, through its audit committee, is responsible for
reviewing and monitoring the Company's financial reporting and accounting
practices. The audit committee meets regularly with management and independent
accountants - both separately and together. The independent accountants have
free access to the audit committee to review the results of their audits, the
adequacy of internal accounting controls and the quality of financial reporting.
-43-
45
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item is incorporated herein by
reference to the Company's 1999 Proxy Statement which will be filed on or before
January 28, 1999.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated herein by
reference to the Company's 1999 Proxy Statement which will be filed on or before
January 28, 1999.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated herein by
reference to the Company's 1999 Proxy Statement which will be filed on or before
January 28, 1999.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this term is incorporated herein by
reference to the Company's 1999 Proxy Statement which will be filed on or before
January 28, 1999.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
14(A)(1) FINANCIAL STATEMENTS:
Page
Reference
---------
Included in Part II, Item 8 of this report:
Balance sheets as of September 30, 1997 and 1998 23
Statements of operations for the years ended September 30, 1996, 1997 and 1998 24
Statements of shareholders' equity for the years ended September 30, 1996, 1997 and 1998 25
Statements of cash flows for the years ended September 30, 1996, 1997 and 1998 26
Notes to financial statements 27-41
Report of independent accountants 42
14(A)(2) Financial Statement Schedule:
Included in Part IV of this report:
Schedule II - Valuation and qualifying accounts and reserves 48
Other schedules have been omitted since they are either not required or not applicable.
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46
14(A)(3) EXHIBITS
EXHIBIT NO. DESCRIPTION
- ---------- ------------
3.1 Restated Certificate of Incorporation, amended February 3, 1997
(incorporated by reference to Exhibit 3.1 to Amendment No. 1 to
the Registration Statement on Form S-1 (File No. 333-18565) filed
with the Commission on February 6, 1997 (the "1997 S-1")).*
3.2 Amended By-Laws, as amended January 11, 1989 (incorporated by
reference to Exhibit 3.2 to Amendment No. 1 to the 1997 S-1).*
3.3 Certificate of Amendment to the Certificate of Incorporation,
dated November 19, 1998.
4.1 Specimen certificate for shares of Common Stock (incorporated by
reference to Exhibit 4.1 to Amendment No. 3 to the 1997 S-1).*
4.2 Form of $11.375 Warrant.
10.1 1995 Incentive and Non-Statutory Stock Option Plan (incorporated
by reference to Exhibit 10.1 to Amendment No. 1 to the 1997
S-1).*
10.2 1996 Amendment to Option Plan (incorporated by reference to
Exhibit 10.2 to Amendment No. 1 to the 1997 S-1).*
10.3 Specimen Incentive Stock Option Agreement (incorporated by
reference to Exhibit 10.3 to Amendment No. 1 to the 1997 S-1).*
10.4 Second Amended and Restated Distributorship Agreement dated as of
March 31, 1998 between the Company and Hakuto. Confidential
treatment has been requested by the Company for portions of this
document. Such portions are indicated by "[*]".
10.5 Amendment to Lease for premises at 394 Elizabeth Avenue,
Somerset, New Jersey 08873 (incorporated by reference to Exhibit
10.5 to Amendment No. 1 to the 1997 S-1).*
10.6 Registration Rights Agreement relating to September 1996 warrant
issuance (incorporated by reference to Exhibit 10.6 to Amendment
No. 1 to the 1997 S-1).*
10.7 Registration Rights Agreement relating to December 1996 warrant
issuance (incorporated by reference to Exhibit 10.7 to Amendment
No. 1 to the 1997 S-1).*
10.8 Form of 6% Subordinated Note Due May 1, 2001 (incorporated by
reference to Exhibit 10.8 to Amendment No. 1 to the 1997 S-1).*
10.9 Form of 6% Subordinated Note Due September 1, 2001 (incorporated
by reference to Exhibit 10.9 to Amendment No. 1 to the 1997
S-1).*
10.10 Form of $4.08 Warrant (incorporated by reference to Exhibit 10.10
to Amendment No. 1 to the 1997 S-1).*
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EXHIBIT INDEX - (CONTINUED)
EXHIBIT NO. DESCRIPTION
- ----------- -----------
10.11 Form of $10.20 Warrant (incorporated by reference to Exhibit
10.12 to Amendment No. 1 to the 1997 S-1).*
10.12 Consulting Agreement dated December 6, 1996 between the Company
and Norman E. Schumaker (incorporated by reference to Exhibit
10.14 to Amendment No. 1 to the 1997 S-1).*
10.13 Purchase Order issued to the Company by General Motors
Corporation on November 17, 1996. (incorporated by reference to
Exhibit 10.15 to Amendment No. 1 to the 1997 S-1).* Confidential
treatment has been requested by the Company with respect to
portions of this document. Such portions are indicated by "[*]".
10.14 Acquisition Agreement, dated as of December 5, 1997, between the
Company and MicroOptical Devices, Inc. (incorporated by
reference to Exhibit 2 to the Company's filing on Form 8-K,
dated December 22, 1997).*
10.15 Purchase Agreement, dated November 30, 1998, by and between the
Company, Hakuto UMI and UTC.
10.16 Registration Rights Agreement, dated November 30, 1998 by and
between the Company, Hakuto, UMI and UTC.
10.17 Long Term Purchase Agreement dated November 24, 1998 by and
between the Company and Space Systems/Loral, Inc. Confidential
treatment has been requested by the Company with respect to
portions of this document. Such portions are indicated by "[*]."
10.18 Promissory Note, dated June 22, 1998 by the Company in favor of
First Union National Bank.
10.19 Second Amendment to Revolving Loan and Security Agreement, dated
as of November 30, 1998 between the Company and First Union
National Bank.
21 Subsidiaries of the registrant.
23.1 Consent of Pricewaterhouse Coopers LLP
27 Financial Data Schedule.
- ----------
* Incorporated by reference.
14(B) Reports on Form 8-K:
The Company filed a current report on Form 8-K dated August 6,
1998 which set forth information under Item 5.
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48
SIGNATURES
Pursuant to the requirements of the Securities Act, the Registrant has
duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the Township of Somerset, State of
New Jersey, on December 28, 1998.
EMCORE CORPORATION
By /s/ REUBEN F. RICHARDS, JR.
--------------------------------------------
Name: Reuben F. Richards, Jr.
TITLE: PRESIDENT AND CHIEF EXECUTIVE OFFICER
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report on Form 10-K has been signed below by the following persons on
behalf of EMCORE Corporation in the capacities indicated, on December 28, 1998.
SIGNATURE TITLE
--------- -----
/s/ THOMAS J. RUSSELL Chairman of the Board and Director
- --------------------------------------
Thomas J. Russell
/s/ REUBEN F. RICHARDS, JR. President, Chief Executive Officer and
- -------------------------------------- Director (Principal Executive Officer)
Reuben F. Richards, Jr.
/s/ THOMAS G. WERTHAN Vice President, Chief Financial Officer,
- -------------------------------------- Secretary and Director (Principal
Thomas G. Werthan Accounting and Financial Officer)
/s/ RICHARD A. STALL Director
- --------------------------------------
Richard A. Stall
/s/ ROBERT LOUIS-DREYFUS Director
- --------------------------------------
Robert Louis-Dreyfus
/s/ HUGH H. FENWICK Director
- --------------------------------------
Hugh H. Fenwick
/s/ SHIGEO TAKAYAMA Director
- --------------------------------------
Shigeo Takayama
/s/ CHARLES T. SCOTT Director
- ---------------------------------------
Charles T. Scott
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SCHEDULE II
EMCORE CORPORATION
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
FOR THE YEARS ENDED SEPTEMBER 30, 1996, 1997 AND 1998
Additions
Balance at Charged to Balance at
Beginning of Costs and Write-offs End of
Period Expenses (Deductions) Period
-------------- ------------- --------------- ------------
ALLOWANCE FOR DOUBTFUL ACCOUNTS
- ----------------------------------------------------
Year Ended September 30, 1996 $164,000 $ 183,000 $ (37,000) $310,000
Year Ended September 30, 1997 310,000 515,000 (128,000) 697,000
Year Ended September 30, 1998 697,000 1,118,000 (1,203,000) 612,000
RESERVES FOR INVENTORY OBSOLESCENCE
- ----------------------------------------------------
Year Ended September 30, 1996 $115,000 $ 105,000 -- $220,000
Year Ended September 30, 1997 220,000 120,000 -- 340,000
Year Ended September 30, 1998 340,000 120,000 -- 460,000
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