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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended September 30, 2003.
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to _______.
COMMISSION FILE NUMBER: 0-25356
---------------
P-COM, INC.
(Exact name of Registrant as specified in its charter)
---------------
DELAWARE 77-0289371
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
3175 S. WINCHESTER BOULEVARD, CAMPBELL, CALIFORNIA 95008
(Address of principal executive offices) (Zip code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (408) 866-3666
---------------
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 whether the registrant is an accelerated filer as defined
in the Exchange Act Rule 12b-2.
YES [ ] NO [X]
As of November 3, 2003 there were 43,517,644 shares of the Registrant's
Common Stock outstanding, par value $0.0001 per share. Effective March 10, 2003,
the Registrant's Common Stock was delisted from the NASDAQ Small Cap Market and
commenced trading electronically on the OTC Bulletin Board of the National
Association of Securities Dealers, Inc.
This quarterly report on Form 10-Q consists of 39 pages of which this is
page 1. The Exhibit Index appears on page 38.
1
P-COM, INC.
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION Number
--------------------- ------
Item 1 Condensed Consolidated Financial Statements (unaudited)
Condensed Consolidated Balance Sheets as of September 30, 2003
and December 31, 2002 ......................................... 3
Condensed Consolidated Statements of Operations for the three and
nine months ended September 30, 2003 and 2002 ................. 4
Condensed Consolidated Statements of Cash Flows for the nine
months ended September 30, 2003 and 2002 ...................... 5
Notes to Condensed Consolidated Financial Statements .......... 7
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations ........................... 19
Item 3 Quantitative and Qualitative Disclosure about Market Risk ...... 33
Item 4 Controls and Procedures......................................... 33
PART II. OTHER INFORMATION
-----------------
Item 1 Legal Proceedings ............................................. 34
Item 2 Changes in Securities ......................................... 34
Item 3 Defaults Upon Senior Securities ............................... 35
Item 6 Exhibits and Reports on Form 8-K .............................. 35
Signatures ................................................................ 37
2
PART I - FINANCIAL INFORMATION
- ------------------------------
ITEM 1.
P-COM, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, unaudited)
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- -------------
ASSETS (Restated)
Current assets:
Cash and cash equivalents $ 1,105 $ 861
Restricted cash 25 415
Accounts receivable, net 4,918 4,797
Inventory 4,929 12,433
Prepaid expenses and other assets 2,463 3,402
Assets of discontinued operation 48 2,923
------------- -------------
Total current assets 13,488 24,831
Property and equipment, net 4,135 10,511
Loan to Speedcom 1,100 --
Other assets 279 381
------------- -------------
Total assets $ 19,002 $ 35,723
============= =============
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
Current liabilities:
Accounts payable $ 4,441 $ 8,144
Other accrued liabilities 8,417 6,774
Deferred contract obligations 8,000 8,000
Loan payable to bank 2,220 2,604
Convertible promissory notes 2,237 --
Liabilities of discontinued operation 349 1,085
------------- -------------
Total current liabilities 25,664 26,607
Convertible subordinated notes -- 22,390
Other long-term liabilities 1,804 2,076
------------- -------------
Total liabilities 27,468 51,073
------------- -------------
Series B Preferred Stock 11,626 --
------------- -------------
Stockholders' equity (deficiency):
Common Stock 16 16
Additional paid-in capital 335,550 333,740
Accumulated deficit (355,765) (348,766)
Accumulated other comprehensive income (loss) 181 (340)
Common stock held in treasury at cost (74) --
------------- -------------
Total stockholders' equity (deficiency) (20,092) (15,350)
------------- -------------
Total liabilities and stockholders' equity $ 19,002 $ 35,723
============= =============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
P-COM, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data, unaudited)
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2003 2002 2003 2002
------------- ------------- ------------- -------------
(Restated) (Restated)
Sales $ 5,569 $ 6,350 $ 15,151 $ 22,292
Cost of sales 4,431 5,545 16,181 19,263
------------- ------------- ------------- -------------
Gross profit (loss) 1,138 805 (1,030) 3,029
------------- ------------- ------------- -------------
Operating expenses:
Research and development/engineering 1,180 2,439 4,805 10,266
Selling and marketing 883 1,691 2,645 5,190
General and administrative 1,154 2,475 4,303 8,665
Asset impairment and restructuring charges 350 -- 3,712 --
------------- ------------- ------------- -------------
Total operating expenses 3,567 6,605 15,465 24,121
------------- ------------- ------------- -------------
Operating loss (2,429) (5,800) (16,495) (21,092)
Interest expense (501) (963) (1,625) (1,966)
Gain on debt extinguishment 8,762 -- 10,262 1,393
Other income (expense), net 2,201 (1,331) 3,117 (1,197)
------------- ------------- ------------- -------------
Profit (Loss) from continuing operations before
profit (loss) from discontinued operations 8,033 (8,094) (4,741) (22,862)
Profit (Loss) from discontinued operations 1,367 (909) (2,258) (3,860)
------------- ------------- ------------- -------------
9,400 (9,003) (6,999) (26,722)
Cumulative effect of change in accounting principle -- -- -- (5,500)
Net profit (loss) $ 9,400 $ (9,003) $ (6,999) $ (32,222)
============= ============= ============= =============
Basic profit (loss) per share:
Profit (Loss) from continuing operations $ 0.19 $ (0.26) $ (0.12) $ (0.97)
Profit (Loss) from discontinued operations 0.03 (0.03) (0.06) (0.17)
Cumulative effect of change in accounting principle -- -- -- (0.24)
------------- ------------- ------------- -------------
Basic net loss per share applicable to
Common Stockholders $ 0.22 $ (0.29) $ (0.18) $ (1.38)
============= ============= ============= =============
Shares used in Basic per share computation 42,384 31,104 39,884 23,323
============= ============= ============= =============
Diluted loss per share:
Profit (Loss) from continuing operations $ 0.05 $ (0.26) $ (0.12) $ (0.97)
Profit (Loss) from discontinued operations 0.01 (0.03) (0.06) (0.17)
Cumulative effect of change in accounting principle -- -- -- (0.24)
------------- ------------- ------------- -------------
Diluted net loss per share applicable to
Common Stockholders $ 0.06 $ (0.29) $ (0.18) $ (1.38)
============= ============= ============= =============
Shares used in Diluted per share computation 149,746 31,104 39,884 23,323
============= ============= ============= =============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
P-COM, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands, unaudited)
NINE MONTHS ENDED SEPTEMBER 30,
2003 2002
------------- -------------
(Restated)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (6,999) $ (32,222)
Adjustments to reconcile net loss to net cash
used in operating activities:
Loss from discontinued operations 2,258 3,860
Depreciation 3,382 5,049
(Gain) Loss on disposal of property and equipment (627) 153
Cumulative effect of change in accounting principle -- 5,500
Inventory valuation and related charges 3,734 2,505
Asset impairment and other restructuring charges 3,108 --
Amortization of discount on promissory notes 270 --
Amortization of warrants -- 480
Stock compensation expense 771 --
Gain on redemption of convertible notes (10,262) (1,393)
Notes conversion expenses -- 771
Gain on vendor settlements (2,060) --
Write-off of notes receivable 100 159
Changes in operating assets and liabilities:
Accounts receivable 279 (745)
Inventory 4,113 8,246
Prepaid expenses and other assets 2,185 3,116
Accounts payable (2,104) 1,266
Other accrued liabilities 1,613 (11,330)
------------- -------------
Net cash used in operating activities (239) (14,585)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loan to Speedcom (1,100) --
Acquisition of property and equipment (142) (498)
(Increase) Decrease in restricted cash 390 2,911
Net asset of discontinued operation (907) 2,964
------------- -------------
Net cash provided by (used in) investing activities (1,759) 5,377
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of common stock, net 307 7,320
Proceeds (payments) on bank loan (688) 1,612
Proceeds from convertible promissory note 2,639 --
Payments under capital lease obligations (43) (368)
Redemption of convertible notes -- (384)
Proceeds from employee stock purchase plan -- 35
------------- -------------
Net cash provided by financing activities 2,215 8,215
------------- -------------
Effect of exchange rate changes on cash 27 2
------------- -------------
Net increase (decrease) in cash and cash equivalents 244 (991)
Cash and cash equivalents at beginning of the period 861 2,525
------------- -------------
Cash and cash equivalents at end of the period $ 1,105 $ 1,534
============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
5
P-COM, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
CONTINUED
(In thousands, unaudited)
NINE MONTHS ENDED JUNE 30,
2003 2002
------------- -------------
Supplemental cash flow disclosures : (Restated)
- ------------------------------------
Cash paid for interest $ 174 $ 919
------------- -------------
Non-cash transactions :
Redemption of 7% Convertible notes by
issuance of Series B Preferred Stock $ 20,090 $ --
------------- -------------
Redemption of convertible notes by issuance
of common stock $ -- $ 2,707
------------- -------------
Redemption of convertible notes in exchange for
property and equipment $ 2,300 $ --
------------- -------------
Issuance of common stock for vendor
payments $ 360 $ 1,273
------------- -------------
Issuance of common stock for consulting services $ 450 $ --
------------- -------------
Issuance of warrants for consulting services $ -- $ 480
------------- -------------
Equipment purchased under capital leases $ -- $ 233
------------- -------------
Treasury stock acquired in exchange for
property and equipment $ 74 $ --
------------- -------------
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
P-COM, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not contain all of the information and
footnotes required by generally accepted accounting principles for complete
consolidated financial statements.
In the opinion of management, the accompanying unaudited condensed consolidated
financial statements reflect all adjustments (consisting only of normal
recurring adjustments) considered necessary for a fair presentation of P-Com,
Inc.'s (referred to herein, together with its wholly-owned subsidiaries, as
"P-Com" or the "Company") financial condition as of September 30, 2003, and the
results of their operations and their cash flows for the three and nine months
ended September 30, 2003 and 2002. These unaudited condensed consolidated
financial statements should be read in conjunction with the Company's audited
2002 consolidated financial statements, including the notes thereto, and the
other information set forth therein, included in the Company's Annual Report on
Form 10-K for the year ended December 31, 2002. Operating results for the
three-month and nine-month periods ended September 30, 2003 are not necessarily
indicative of the operating results that may be expected for the year ending
December 31, 2003.
DISCONTINUED OPERATIONS
As more fully discussed in Note 11, the financial statements for December 31,
2002 and September 30, 2002 have been restated to reflect the Company's services
business unit as a discontinued operation.
CHANGE IN ACCOUNTING PRINCIPLE
Effective January 1, 2002, the Company adopted the Statement of Financial
Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Other Intangible
Assets." Pursuant to the impairment recognition provisions of SFAS 142, the
Company timely completed its evaluation of the effects of adopting SFAS 142.
Accordingly, under the transitional provisions of SFAS 142, a goodwill
impairment loss of $5.5 million was recorded related to the Company's Services
segment during the first quarter of 2002. The pro forma effects of this change
in accounting principle are not material to the accompanying financial
statements.
LIQUIDITY AND MANAGEMENT'S PLAN
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern, which contemplates the
realization of assets and the satisfaction of liabilities in the normal course
of business. As reflected in the financial statements, for the nine-month period
ended September 30, 2003, the Company incurred a net loss of $7.0 million and
used $0.2 million cash in its operating activities. As of September 30, 2003,
the Company has deficit stockholders' equity of $20.1 million, and accumulated
deficit of $355.8 million. At September 30, 2003, the Company had approximately
$1.1 million in cash and cash equivalents, drawn principally from a credit
facility ("Credit Facility") with Silicon Valley Bank (the "Bank"), and a
working capital deficiency of approximately $12.2 million. These conditions
raise substantial doubt about the Company's ability to continue as a going
concern.
The negative conditions are partially mitigated by the results of the Company's
restructuring efforts, and by certain financing activities, as discussed below.
In January 2003, the Company sold 2.1 million shares of Common Stock to an
existing stockholder for aggregate net proceeds of $307,000. Additionally, the
Company closed a $1.5 million, $0.3 million and $0.9 million convertible note
financing in March 2003, May 2003, and July 2003, respectively, resulting in
aggregate net proceeds of $2.6 million (the "Bridge Notes").
On August 4, 2003, as a result of the restructuring of its Convertible
Subordinated Notes due 2005 ("Convertible Notes"), the principal amount and
accrued interest of $21,138,000 was converted into approximately 1,000,000
7
shares of Series B Convertible Preferred Stock with a stated value of $21.138
per share. Each share of Series B Convertible Preferred Stock converts into a
number of shares of the Company's Common Stock equal to the stated value divided
by $0.20, or approximately 105,690,000 shares of Common Stock assuming all
shares of Series B Convertible Preferred Stock are converted.
On August 9, 2003, the Company received a cash advance of $0.9 million. The
Company used part of the proceeds from the cash advance to satisfy agreements
entered into with numerous trade and other creditors of the Company, who had
agreed to accept a reduced amount relative to the Company's total indebtedness
to such trade and other creditors, as part of the Company's restructuring plan.
The cash advance was applied to the purchase of Series C Convertible Preferred
Stock, in connection with the Series C Financing, as discussed below and in note
18 to the financial statements.
On September 25, 2003, the Company renewed its credit facility for an additional
year, until September 25, 2004. The renewed credit facility allows for maximum
borrowings of up to $4.0 million.
On October 3, 2003, the Company closed its Series C Convertible Preferred Stock
financing, resulting in gross proceeds to the Company of approximately $11.0
million (the "Series C Financing"). Each share of Series C Convertible Preferred
Stock has a stated value of $1,750 per share. The Series C Financing resulted in
net proceeds to the Company of approximately $7.9 million, after deducting
expenses related to the Series C Financing, the payment of certain claims, and
the elimination of certain vendor liabilities of the Company.
Although the receipt of net proceeds from the Series C Financing and the debt
and other restructuring efforts have significantly improved the Company's
working capital position, its working capital deficit remains. Management
intends to focus on increasing sales, settling outstanding claims, controlling
general and operating expenses, and reducing the cost of goods sold, in order to
return the Company to profitability. To further increase sales, and position the
Company for future growth, additional financing may be required. No assurances
can be given that additional financing will continue to be available to us on
acceptable terms, or at all. If the Company is unsuccessful in its plans to (i)
generate sufficient revenues from new and existing products sales; (ii) decrease
its costs of goods sold, and achieve higher margins; (iii) obtain additional
debt or equity financing; and (iv) negotiate agreements to settle outstanding
litigation and claims, the Company will have insufficient capital to continue
its operations. Without sufficient capital to fund the Company's operations, the
Company will no longer be able to continue as a going concern. The financial
statements do not include any adjustments relating to the recoverability and
classification of recorded asset amounts or to amounts and classification of
liabilities that may be necessary if the Company is unable to continue as a
going concern.
2. NET PROFIT (LOSS) PER SHARE
For purposes of computing diluted net profit per share for the three months
ended September 30, 2003, weighted average common share equivalents include
stock options and warrants with an exercise price that exceeds the average fair
market value of the Company's Common Stock, and Common Stock that would be
issuable upon the conversion of the Series B Convertible Preferred Stock, as
disclosed below:
8
Three months ended September 30, 2003
--------------------------------------------------
Shares Per-Share
Profit (in thousands) Amount
-------------- --------------- ------------
Profit before discontinued operations $ 8,033
Profit from discontinued operations 1,367
BASIC EARNINGS PER SHARE
Net profit available to common --------------
stockholders 9,400 42,384 $ 0.22
============
EFFECT OF DILUTIVE SECURITIES
Series B Preferred Stock 105,690
Warants 6,912
DILUTED EARNINGS PER SHARE
Net profit available to common
stockholders, plus assumed -------------- ---------------
conversions 9,400 154,986 $ 0.06
============== =============== ============
As of September 30, 2003, options to purchase 2,383,955 shares of Common Stock
at an average exercise price of $11.29 were outstanding, and were not included
in the computation of diluted earnings per share because the options' exercise
price was greater than the average market price of the Common Stock.
The Company had also issued options to employees and consultants to purchase
33,440,000 shares of Common Stock at an average exercise price of $0.12 per
share. The options are contingent on shareholder approval of an amendment to the
Company's Articles of Incorporation to increase the number of shares of Common
Stock authorized, and an amendment to the Company's 1995 Stock Option/Stock
Issuance Plan ("Plan") to increase the number of shares of Common Stock
available for issuance under the Plan.
For purposes of computing diluted net loss per share, weighted average common
share equivalents do not include stock options with an exercise price that
exceeds the average fair market value of the Company's Common Stock for the
period because the effect would be anti-dilutive. Because losses were incurred
in the three months ended September 30, 2002, and the nine-month period ended
September 30, 2003 and 2002, all options, warrants, and convertible notes are
excluded from the computations of diluted net loss per share because they are
anti-dilutive.
3. RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the FASB issued FASB Interpretation No. 46, Consolidation of
Valuable Interest Entities. This interpretation clarifies rules relating to
consolidation where entities are controlled by means other than a majority
voting interest and instances in which equity investors do not bear the residual
economic risks. This interpretation was originally effective immediately for
variable interest entities created after January 31, 2003 and for interim
periods beginning after June 15, 2003 for interests acquired prior to February
1, 2003. However, the FASB is reviewing certain provisions of the standard and
has deferred the effective date for public companies to periods ending after
December 15, 2003. PCOM currently has no ownership in variable interest entities
and therefore adoption of this standard currently has no financial reporting
implications.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities. The statement amends and
clarifies accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts, and hedging activities. This
statement is designed to improve financial reporting such that contracts with
comparable characteristics are accounted for similarly. The statement, which is
generally effective for contracts entered into or modified after June 30, 2003,
is not anticipated to have a significant effect on the Company's financial
position or results of operations.
9
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. This statement
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. This
statement is effective for financial instruments entered into or modified after
May 31, 2003, and is otherwise effective at the beginning of the first interim
period beginning after June 15, 2003. At September 30, 2003, the Company had no
such financial instruments outstanding and therefore adoption of this standard
had no financial reporting implications. On August 4, 2003, the Company issued
shares of Series B Convertible Preferred Stock, which have certain terms that,
while improbable, may require their mandatory redemption for cash. The Company
believes that accounting for these securities as a mezzanine security, outside
of equity, under Staff Accounting Bulletin No. 64 ("SAB 64") is appropriate.
4. BORROWING ARRANGEMENTS
On September 25, 2003, the Company renewed its Credit Facility with the Bank for
an additional year, until September 25, 2004. The Credit Facility consists of a
Loan and Security Agreement for a $1.0 million borrowing line based on domestic
receivables, and a Loan and Security Agreement under the Export-Import ("EXIM")
program for a $3.0 million borrowing line based on export related inventories
and receivables. The Credit Facility provides for cash advances equal to 70% of
eligible accounts receivable balances for both the EXIM program and domestic
lines, and up to $750,000 for eligible inventories (limited to 25% of eligible
EXIM accounts receivable), under the EXIM program. Advances under the Credit
Facility bear interest at the Bank's prime rate plus 3.5% per annum. The Credit
Facility is secured by all receivables, deposit accounts, general intangibles,
investment properties, inventories, cash, property, plant and equipment of the
Company. The Company has also issued a $4.0 million secured promissory note
underlying the Credit Facility to the Bank. As of September 30, 2003, the loan
amount payable to the Bank under the Credit Facility aggregated $2.2 million.
The Company has an unsecured overdraft line with a bank in Italy, for borrowings
up to $83,000, based on domestic trade receivables. Borrowings under this line
bear interest at 4.5% per annum. The amount outstanding on this overdraft line
at September 30, 2003 was approximately $36,000.
5. CONVERTIBLE PROMISSORY NOTES AND WARRANTS
The Bridge Notes and Warrants consisted of the following components at the date
of issuance (in thousands, unaudited):
SEPTEMBER 30
2003
Convertible Bridge Notes $ 2,700
Amount allocated to warrrants, net
of amortization (463)
----------
$ 2,237
==========
On March 26, 2003, the Company closed the $1.5 million (face value) Bridge Notes
and Warrants financing. On May 28, 2003 the Company received an additional
$300,000 (face value) Bridge Notes and Warrants financing. On July 18, 2003, the
Company completed another bridge financing transaction in which it issued $0.9
million of 10% convertible promissory notes with a maturity date of one year
from the date of issuance. These convertible promissory notes were converted
into Series C Convertible Preferred Stock, in connection with the Series C
Financing, as discussed in note 18 to the financial statements.
The Bridge Notes are convertible into Common Stock of the Company contingent
upon the completion of an equity-based financing in an amount equal to at least
$3.0 million, and stockholder approval of an amendment to the Company's
certificate of incorporation to increase the number of shares of Common Stock.
The Bridge Notes bear interest at 10% per annum, and the rate will increase to
13% per annum if they remain outstanding six months after the issuance date. The
$1.5 million Bridge Notes mature on March 25, 2004, the $0.3 million Bridge
Notes mature on May 27, 2004, and the $0.9 million mature on July 18, 2004, and
they are subordinated to amounts due to the Bank under the Credit Facility. In
connection with the Series C Financing, as discussed in note 18 to the financial
statements, the Bridge Notes converted into Series C Convertible Preferred Stock
on October 3, 2003.
10
In connection with the issuance of the $1.5 million Bridge Notes, the Company
issued detachable Series A Warrants, with a three-year term, to purchase a total
of 2,500,000 shares of the Company's Common Stock, at $0.12 per share, and
Series B Warrants, with a three-year term, to purchase 3,500,000 shares of the
Company's Common Stock, at $0.20 per share. In connection with the issuance of
the $0.3 million Bridge Notes, the Company issued detachable Series A Warrants,
with a three-year term, to purchase a total of 500,000 shares of the Company's
Common Stock, at $0.12 per share, and Series B Warrants, with a three-year term,
to purchase 700,000 shares of the Company's Common Stock, at $0.20 per share. In
connection with the issuance of the $0.9 million Bridge Notes, the Company
issued detachable Series A Warrants, with a three-year term, to purchase a total
of 668,000 shares of the Company's Common Stock, at $0.12 per share, and Series
B Warrants, with a three-year term, to purchase 932,000 shares of the Company's
Common Stock, at $0.20 per share. The exercise price of the Series A and Series
B Warrants could be reduced to $0.001 per share of Common Stock should the
Company fail to obtain stockholder approval for a proposed amendment to the
Company's Bylaws to permit the issuance of convertible securities with certain
conversion, exercise or exchange price adjustment provisions. The Company and
the investor group have agreed to extend the period of time that the Company has
to obtain stockholder approval to December 31, 2003. The Company allocated the
proceeds of compound instrument to the Bridge Notes and the Warrants based upon
their relative fair values. The fair value of the warrants was estimated using
the Black-Scholes model, with the following assumptions: expected volatility of
197%, weighted-average risk free interest rate of 2.12%, weighted average
expected lives of 3 years, and a zero dividend yield. The value of the warrants
has been disclosed in note 5 to the financial statements, and is being amortized
over the maturity period of the Bridge Notes to interest expense. The face value
of the Bridge Notes was considered their fair value for purposes of this
allocation.
In addition, the conversion terms afforded the Bridge Notes resulted in a
beneficial conversion feature, represented by the amount that the market value
of the Common Stock on the commitment date exceeded the conversion rate. The
beneficial conversion feature amount, which exceeds the current carrying value
of the Bridge Notes, will be recorded when the contingencies referred to in this
Note are resolved, if ever.
The carrying value of the Bridge Notes is being accreted to their respective
face values through periodic charges to interest expense. Total amortization of
the discounts amounted to $270,000 for the nine-month period ended September 30,
2003.
6. BALANCE SHEET COMPONENTS
Inventory
---------
Inventory consists of the following (in thousands of dollars, unaudited):
SEPTEMBER 30, DECEMBER 31,
2003 2002
(Restated)
Raw materials $ 2,592 $ 9,748
Work-in-process 990 1,580
Finished goods 1272 815
Inventory at customer sites 75 290
--------------- -------------
$ 4,929 $ 12,433
=============== =============
Other Accrued Liabilities
-------------------------
Other accrued liabilities consist of the following (in thousands, unaudited):
11
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- -------------
(Restated)
Purchase commitment $ 1,238 $ 2,195
Advance from investors 1,300 --
Accrued warranty (a) 892 936
Accrued employee compensation 1,001 943
Value added tax payable 496 248
Customer advances 382 267
Lease obligations 665 435
Accrued rent 560 --
Deferred revenue 303 290
Senior subordinated secured promissory note (b) 202 202
Interest payable 129 276
Other 1,249 982
------------- -------------
$ 8,417 $ 6,774
============= =============
a) A summary of product warranty reserve activity is as follows:
Balance at January 1, 2003 $ 936
Additions relating to products sold 300
Payments (344)
--------
Balance at September 30, 2003 $ 892
--------
b) In lieu of the payment of interest due on certain of the Company's
4.25% Convertible Subordinated Notes due on November 1, 2002, the Company issued
a promissory note in the amount of approximately $0.2 million. The promissory
note bears interest at 7% per annum, and matured on May 1, 2003. After maturity,
interest shall accrue at the rate of 9% per annum. The promissory note is
secured by certain property and equipment of the Company. The note was
subsequently repaid in October 2003.
Deferred Contract Obligations
-----------------------------
In connection with a Joint Development and License Agreement ("JDL"), the
Company entered into an Original Equipment Manufacturer Agreement ("OEM") with a
vendor. Under the OEM, the Company agreed to pay the vendor $8.0 million for the
vendor's marketing efforts for Company products manufactured under the JDL. As
of September 30, 2003 and 2002, this $8.0 million payment obligation remains
outstanding because the vendor has not performed its marketing obligations. The
Company has written to contest the vendor's claim for $8.0 million and has
asserted additional claims against the vendor in the amount of $11,634,803,
exclusive of interest.
7. INDEMNIFICATIONS
Officer and Director Indemnifications
-------------------------------------
As permitted under Delaware law and to the maximum extent allowable under that
law, the Company has agreements whereby the Company indemnifies its current and
former officers and directors for certain events or occurrences while the
officer or director is, or was serving, at the Company's request in such
capacity. These indemnifications are valid as long as the director or officer
acted in good faith and in a manner that a reasonable person believed to be in
or not opposed to the best interests of the corporation, and, with respect to
any criminal action or proceeding, had no reasonable cause to believe his or her
conduct was unlawful. The maximum potential amount of future payments the
Company could be required to make under these indemnification agreements is
unlimited; however, the Company has a director and officer insurance policy that
limits the Company's exposure and enables the Company to recover a portion of
any future amounts paid. As a result of the Company's insurance policy coverage,
the Company believes the estimated fair value of these indemnification
obligations is minimal.
Other Indemnifications
----------------------
As is customary in the Company's industry, as provided for in local law in the
U.S. and other jurisdictions, many of the Company's standard contracts provide
remedies to its customers, such as defense, settlement, or payment of judgment
for intellectual property claims related to the use of our products. From time
to time, the Company indemnifies customers against combinations of loss,
12
expense, or liability arising from various trigger events related to the sale
and the use of our products and services. In addition, from time to time the
Company also provides protection to customers against claims related to
undiscovered liabilities or additional product liability. In the Company's
experience, claims made under such indemnifications are rare and the associated
estimated fair value of the liability is not material.
8. COMMON STOCK
In January 2003, the Company sold 2.1 million shares of Common Stock to an
existing stockholder at a per share price of $0.18, for aggregate net proceeds
of $307,000.
In April 2003, the Company issued 1,500,000 and 3,000,000 shares of Common Stock
to Liviakis Financial Communications Inc. ("Liviakis"), and Cagan McAfee Capital
Partners, LLC ("CMCP"). The Common Stock issued to CMCP was issued in
consideration for certain investment banking and other services provided to the
Company by CMCP, and the Common Stock issued to Liviakis was issued in
consideration for certain financial, public and investor relations services
provided to the Company by Liviakis. The Common Stock issued for these services
was valued at the market prices on the dates issued. Aggregate compensation
expense associated with these transactions during the nine months ended
September 30, 2003 amounted to $450,000.
In June 2003, the Company acquired 920,000 shares of Common Stock in exchange
for property and equipment valued at $74,000. These shares are held in treasury.
In August 2003, the Company issued 1,000,000 shares of Common Stock to a
landlord and 2,400,000 shares of Common Stock to a vendor, each in consideration
for the termination of certain obligations of the Company to the landlord and
the vendor.
9. SERIES B CONVERTIBLE PREFERRED STOCK
On August 4, 2003, as a result of the restructuring of its Convertible Notes,
the principal amount and accrued interest of $21,138,000 was converted into
approximately 1,000,000 shares of Series B Convertible Preferred Stock with a
stated value of $21.138 per share. Each share of Series B Convertible Preferred
Stock converts into a number of shares of the Company's Common Stock equal to
the stated value divided by $0.20. Certain holders of Series B Convertible
Preferred Stock have agreed to convert the Series B Convertible Preferred Stock
into Common Stock upon receipt of stockholder approval to increase the number of
authorized shares of the Company's Common Stock to allow for conversion.
Assuming conversion of all shares of the Series B Convertible Preferred Stock,
the Company will issue approximately 105,690,000 additional shares of Common
Stock.
If declared, the holders of the Series B Convertible Preferred Stock shall be
entitled to receive dividends payable out of funds legally available therefor.
Holders of Series B Convertible Preferred Stock shall share pro rata in all
dividends and other declared distributions. The basis of distribution shall be
the number of shares of Common Stock that the holders would hold if all of the
outstanding shares of Series B Convertible Preferred Stock had converted into
Common Stock.
Any time after January 31, 2004 and subject to certain limitations, the Company
may require the holders of Series B Convertible Preferred Stock to convert all
outstanding shares of Series B Convertible Preferred Stock into shares of Common
Stock, in accordance with the optional conversion formula, and all of the
following conditions are met:
o Closing bid price of the Common Stock for 10 consecutive trading days
prior to delivery of the mandatory conversion Notice equals or exceeds
$0.40;
o Company shall have filed a registration statement covering all shares
of Common Stock issuable upon conversion of the Series B Convertible
Preferred Stock, declared effective by the SEC, and continuing
effectiveness through and including the date of the mandatory
conversion;
o All shares of Common Stock issuable upon conversion of Series B
Convertible Preferred Stock are authorized and reserved for issuance;
registered for resale under the Securities Act; and listed on the
Bulletin Board or other national exchange; and
o All amounts, if any, accrued or payable under the Certificate of
Designation, Rights and Preferences of the Series B Convertible
Preferred Stock ("Certificate of Designation") shall have been paid.
13
Upon the occurrence of the following events, the holders of Series B Convertible
Preferred Stock may request the Company to purchase their shares of Series B
Convertible Preferred Stock for cash:
o Company fails to remove any restrictive legend on any Common Stock
certificate issued to Series B Convertible Preferred Stock holders
upon conversion as required by the Certificate of Designation;
o Company makes an assignment for creditors or applies for appointment
of a receiver for a substantial part of its business/property or such
receiver is appointed;
o Bankruptcy, insolvency, reorganization or liquidation proceedings
shall be instituted by or against the Company;
o Company sells substantially all of its assets;
o Company merges, consolidates or engages in a business combination with
another entity that is required to be reported pursuant to Item 1 of
Form 8-K (unless the Company is the surviving entity and its capital
stock is unchanged);
o Company engages in transaction(s) resulting in the sale of securities
whereby such person or entity would own greater than 50% of the
outstanding shares of Common Stock of the Company (on a fully-diluted
basis);
o Company fails to pay any indebtedness of more than $250,000 to a third
party, or cause any other default which would have a material adverse
effect on the business or its operations.
The Series B Convertible Preferred Stock ranks senior to the Common Stock, the
Series A Preferred Stock and any class or series of capital stock of the Company
created thereafter. The consent of the majority holders of the Series B
Convertible Preferred Stock is required to create any securities that rank
senior or pari passu to the Series B Convertible Preferred Stock. Upon a
liquidation event, any securities senior to the Series B Convertible Preferred
Stock shall receive a distribution prior to the Series B Convertible Preferred
Stock and pursuant to the rights, preferences and privileges thereof, and the
Series B Convertible Preferred Stock shall receive the liquidation preference
with respect to each share. If the assets and funds for distribution are
insufficient to permit the holders of Series B Convertible Preferred Stock and
any pari passu securities to receive their preferential amounts, then the assets
shall be distributed ratably among such holders in proportion to the ratio that
the liquidation preference payable on each share bears to the aggregate
liquidation preference payable on all such shares. If the outstanding shares of
Common Stock are increased/decreased by any stock splits, stock dividends,
combination, reclassification, reverse stock split, etc., the conversion price
shall be adjusted accordingly. Upon certain reclassifications, the holders of
Series B Convertible Preferred Stock shall be entitled to receive such shares
that they would have received with respect to the number of shares of Common
Stock into which the Series B Convertible Preferred Stock would have converted.
If the Company issues any securities convertible for Common Stock or options,
warrants or other rights to purchase Common Stock or convertible securities pro
rata to the holders of any class of Common Stock, the holders of Series B
Convertible Preferred Stock shall have the right to acquire those shares to
which they would have been entitled upon the conversion of their shares of
Series B Convertible Preferred Stock into Common Stock. The Series B Convertible
Preferred Stock does not have voting rights.
10. ASSET IMPAIRMENT AND OTHER RESTRUCTURING CHARGES
The Company continually monitors its inventory carrying value in the light of
the slowdown in the global telecommunications market, especially with regard to
an assessment of future demand for its Point-to-Multipoint, and its other legacy
product line. This has resulted in a $2.0 million charge to cost of sales for
its Point-to-Multipoint, Tel-Link Point-to-Point and Air-link Spread Spectrum
inventories during the second quarter of 2003. In the first quarter of 2003, the
Company recorded a $3.4 million inventory related charge to cost of sales, of
which $2.0 million was related to its Point-to-Multipoint inventories. These
charges were offset by credits of $1.8 million in the second quarter associated
with a write-back of accounts payable and purchase commitment liabilities
arising from vendor settlements.
In the event that certain facts and circumstances indicate that the long-lived
assets may be impaired, an evaluation of recoverability would be performed. When
an evaluation occurs, management conducts a probability analysis based on the
weighted future undiscounted cash flows associated with the asset. The results
are then compared to the asset's carrying amount to determine if an impairment
is necessary. The cash flow analysis for the property and equipment is performed
14
over the shorter of the expected useful lives of the assets, or the expected
life cycles of our product line. An impairment charge is recorded if the net
cash flows derived from the analysis are less than the asset's carrying value.
We deem that the property and equipment is fairly stated if the future
undiscounted cash flows exceed its carrying amount. In the first and second
quarter of 2003, the Company continued to reevaluate the carrying value of
property and equipment relating to its Point-to-Multipoint product line, that
are held for sale. The evaluation resulted in a $2.5 million provision for asset
impairment in the second quarter of 2003, and $0.6 million provision in the
first quarter of 2003. As a result of these adjustments, there is no remaining
net book value of property and equipment related to the Point-to-Multipoint
product line.
A summary of inventory reserve and provision for impairment of plant and
property activities is as follows:
Inventory Provision for
Reserve impairment
--------- ------------
Balance at January 1, 2003 $ 39,567 $ --
Additions charged to Statement of Operations 5,517 3,108
Deductions from reserves (17,910) (300)
--------- ------------
Balance at September 30, 2003 $ 27,174 $ 2,808
--------- ------------
In connection with a workforce reduction in May 2003, the Company accrued a $0.2
million charge relating to severance packages given to certain of its executive
officers. All pertinent criteria for recognition of this liability were met
during the period of recognition.
In the third quarter of 2003, the Company accrued $350,000 for liability arising
from a terminated lease facility in the United Kingdom, as discussed in note 16
to the financial statements
11. GAIN (LOSS) ON DISCONTINUED OPERATIONS
In the first quarter of 2003, the Company committed to a plan to sell its
services business, P-Com Network Services, Inc. ("PCNS"). Accordingly, beginning
in the first quarter of 2003, this business is reported as a discontinued
operation and the financial statement information related to this business has
been presented on one line, titled "Discontinued Operations" in the Consolidated
Statements of Operations for the three-month and nine-month period ended
September 30, 2003 and 2002. On April 30, 2003, the Company entered into an
Asset Purchase Agreement with JKB Global, LLC ("JKB") to sell certain assets of
PCNS. The total cash consideration was approximately $105,000, plus the
assumption of certain liabilities. The Company guaranteed PCNS' obligations
under its premises lease, through July 2007. As part of the sale to JKB, JKB
agreed to sublet the premises from PCNS for one year beginning May 1, 2003. The
terms of the sublease required JKB to pay less than the total amount of rent due
under the terms of the master lease. As a result, the Company remained liable
under the terms of the guaranty for the deficiency, under the terms of the
master lease of approximately $1.5 million, and the amount is accrued as loss on
disposition of discontinued operations in the second quarter of 2003, which was
the period that such loss was incurred. In the third quarter of 2003, the
Company reached an agreement with the landlord to settle the lease guarantee for
$0.3 million, and therefore wrote-back the excess $1.2 million accrual as a gain
in discontinued operations in the third quarter of 2003.
Summarized results of PCNS are as follows (in thousands):
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2003 2002 2003 2002
--------------- --------------- --------------- ---------------
Sales $ -- $ 1,100 $ 1,065 $ 2,234
--------------- --------------- --------------- ---------------
Loss from operations $ -- $ (909) $ (702) $ (3,860)
Gain (Loss) on disposition
of discontinued operations 1,367 -- (1,556) --
--------------- --------------- --------------- ---------------
1,367 (909) (2,258) (3,860)
Provision for income taxes -- -- -- --
--------------- --------------- --------------- ---------------
Net profit (loss) $ 1,367 $ (909) $ (2,258) $ (3,860)
=============== =============== =============== ===============
15
The gain from sales of the services business unit in the third quarter ended
September 30, 2003 was $1.37 million, arising from the write-back of excess
accrual on the lease guarantee subsequent to the settlement with the landlord.
The loss from the sale of the discontinued services unit was $1.6 million for
the nine-months ended September 30, 2003, principally due to the write-off of
assets upon the discontinuation of the services business unit.
The assets and liabilities of the discontinued operations consisted of the
following (in thousands):
SEPTEMBER 30, DECEMBER 31,
2003 2002
------------- -------------
Total assets related to discontinued operations
Cash $ 7 $ 342
Accounts receivable -- 763
Inventory -- 1,206
Prepaid expenses and other assets -- 10
Property plant and equipment -- 529
Other assets 41 73
------------- -------------
$ 48 $ 2,923
============= =============
Total liabilities related to discontinued operations
Accounts payable $ 191 $ 466
Other accrued liabilities 158 293
Loan payable to bank -- 326
------------- -------------
$ 349 $ 1,085
============= =============
12. SALES BY GEOGRAPHIC REGION AND CONCENTRATIONS
The breakdown of product sales by geographic region is as follows (in
thousands):
FOR THREE MONTHS ENDED FOR NINE MONTHS ENDED
SEPTEMBER 30 SEPTEMBER 30
2003 2002 2003 2002
---- ---- ---- ----
(Restated) (Restated)
North America $ 474 $ 535 $ 1,233 $ 2,296
United Kingdom 1,902 1,552 5,098 4,471
Europe 984 1,467 2,704 3,586
Asia 1,455 2,522 4,271 11,156
Other Geographic Regions 754 274 1,845 783
--------------- --------------- --------------- ---------------
$ 5,569 $ 6,350 $ 15,151 $ 22,292
--------------- --------------- --------------- ---------------
During the nine-month period ended September 30, 2003 and 2002, four and two
customers accounted for a total of 56% and 29% of our total sales, respectively.
16
13. EMPLOYEE STOCK OPTION EXPENSE
The Company continues to apply the intrinsic method in accounting for stock
based employee compensation and, accordingly, has reflected the appropriate
disclosure provisions of SFAS No. 123. Had stock-based compensation costs for
our two stock-based compensation plans been determined and reported on the fair
value method at the grant dates for awards under those plans, consistent with
the method of SFAS 123, our net loss and net loss per share would have been
reported as follows:
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2003 2002 2003 2002
Net profit (loss) applicable to
common stockholders :
As reported $ 9,400 $ (9,003) $ (6,999) $ (32,222)
Pro forma $ 9,187 $ (9,963) $ (8,137) $ (35,524)
Net profit (loss) per share
As reported - Basic $ 0.22 $ (0.29) $ (0.18) $ (1.38)
Pro forma - Basic $ 0.22 $ (0.32) $ (0.20) $ (1.52)
Net profit (loss) per share
As reported - Diluted $ 0.06 $ (0.29) $ (0.18) $ (1.38)
Pro forma - Diluted $ 0.06 $ (0.32) $ (0.20) $ (1.52)
The fair value of each option grant is estimated on the date of the grant using
the Black-Scholes option-pricing model with the following assumptions used for
grants in 2003 and 2002, respectively: expected volatility of 197%, and 125%;
weighted-average risk-free interest rates of 2.1% and 4.1%; weighted-average
expected lives of 4.0 and 3.5; respectively, and a zero dividend yield.
14. COMPREHENSIVE LOSS
Comprehensive loss is comprised of the Company's reported net loss and the
currency translation adjustment associated with our foreign operations.
Comprehensive income (loss) was $9.6 million and $(9.0) million for the three
months ended September 30, 2003 and 2002, respectively. Comprehensive loss was
$(6.5) million and $(31.9) million for the nine months ended September 30, 2003
and 2002, respectively.
15. PROPOSED ACQUISITION OF ASSETS AND CERTAIN LIABILITIES OF SPEEDCOM
On June 16, 2003, the Company entered into a definitive agreement to acquire the
operating and certain other assets of SPEEDCOM Wireless Corporation ("SPEEDCOM")
in exchange for 67.5 million shares of the Company's Common Stock and the
assumption of certain liabilities, including approximately $3.0 million in
subordinated debt of SPEEDCOM. SPEEDCOM manufactures, configures and delivers a
variety of broadband fixed-wireless products, including its SPEEDLAN family of
wireless Ethernet bridges and routers. Internet service providers,
telecommunications carriers and other service providers, and private
organizations in the U.S. and more than 80 foreign countries worldwide, use
SPEEDCOM's products to provide broadband "last-mile" wireless connectivity in
various point-to-point and point-to-multipoint configurations for distances up
to 25 miles. SPEEDCOM's products provide high-performance broadband fixed
wireless solutions specifically designed for building-to-building local area
network connectivity and wireless Internet distribution.
The shares proposed to be issued to SPEEDCOM will equal approximately 11.5% of
the Company's outstanding Common Stock immediately upon closing, assuming the
conversion of the Series B Convertible Preferred Stock, as mentioned in Note 9
to the financial statements, the conversion of the Series C Convertible
Preferred Stock issued in connection with the Series C Financing, as discussed
in note 18 to the financial statements, and the exercise or conversion of all
outstanding convertible securities of the Company. The acquisition will enable
the Company to expand its Spread Spectrum product offerings and expand its
distribution network. The SPEEDCOM transaction is subject to stockholder
approval of SPEEDCOM, and requires approval by the Company's stockholders of an
increase in the number of authorized shares of Common Stock of the Company.
17
In anticipation of the acquisition, the Company advanced an aggregate of
$1,100,000 to SPEEDCOM under a series of 10% convertible promissory notes. The
Company carries the amounts due as non-current assets and currently plans to
apply the amounts to the ultimate purchase price of SPEEDCOM.
16. CONTINGENCIES
On April 4, 2003, Christine Schubert, Chapter 7 Trustee for Winstar
Communications, Inc. et al, filed a Motion to Avoid and Recover Transfers
Pursuant to 11 U.S.C. ss.ss.547 and 550, in the United States Bankruptcy Court
for the District of Delaware and served the Summons and Notice on July 22, 2003.
The amount of the alleged preferential transfers to the Company is approximately
$13.7 million. We have reviewed the Motion and believe that the payments made by
Winstar Communications, Inc. are not voidable preference payments under the
United States Bankruptcy Code. In the opinion of management, the circumstances
surrounding this matter do not rise to the level that the Company is required to
record a liability.
The Company's landlord at its former research and development facility in
Watford, England, Legal & General Property Ltd., has asserted a claim against
the Company for amounts due under the terms of the facilities lease for
approximately $350,000 which amount has been accrued as a liability of the
Company. The lease expires in April 2008. While no assurances can be given, the
Company is currently negotiating a settlement to terminate all obligations under
the terms of the lease.
The Brevard County of Florida has filed a tax lien encumbering all property,
plant and equipment owned by the Company located in the County for payment of
delinquent personal property taxes. The balance on September 30, 2003 claimed by
Brevard County is approximately $120,000. The Company is currently preparing an
amended property tax return to address the unpaid taxes. Although the Company is
negotiating this matter with the taxing authority, management has determined
that the criteria for liability recognition has been met and has recorded the
liability.
17. RELATED PARTY TRANSACTIONS
Myntahl Corporation, a stockholder of the Company, is also an appointed
distributor in China and acts as our agent in Mexico. The Company had sales of
approximately $0.8 million to Myntahl, and accrued approximately $73,000 in
commissions to Myntahl during the three months ended September 30, 2003. The
Company has sales of approximately $1.8 million to Myntahl, and incurred
approximately $142,000 in commissions to Myntahl during the nine-month period
ended September 30, 2003.
18. SUBSEQUENT EVENTS
On October 3, 2003, the Company closed its Series C Convertible Preferred Stock
financing, resulting in gross proceeds to the Company of $11.0 million (the
"Series C Financing"). Each share of Series C Convertible Preferred Stock has a
stated value of $1,750 per share. The Series C Financing resulted in net
proceeds to the Company of approximately $7.9 million, after deducting expenses
related to the Series C Financing, the payment of certain claims, and the
elimination of certain vendor liabilities of the Company. Dividends accrue on
the Series C Convertible Preferred Stock beginning 12 months after the closing,
at 6% per annum paid semi-annually in cash or Common Stock, at the option of the
Company, and increasing to 8% per annum beginning 24 months after the closing.
At the Company's option, the Series C Convertible Preferred Stock is convertible
one hundred eighty days after the effective date of the registration statement
registering the shares of Common Stock issuable upon the conversion of the
Series C Convertible Preferred Stock, and upon the satisfaction of the following
conditions: (i) for ten consecutive days, the Common Stock closes at a bid price
equal to or greater than $0.20; (ii) the continued effectiveness of the
registration statement covering the Common Stock issuable upon conversion of the
Series C Convertible Preferred Stock; (iii) all shares of Common Stock issuable
upon conversion of the Series C Convertible Preferred Stock and Series C-1 and
Series C-2 Warrants are authorized and reserved for issuance, are registered
under the Securities Act of 1933 ("Securities Act") for resale by the holders,
and are listed or traded on the Bulletin Board or other national exchange; (iv)
there are no uncured redemption events; and (v) all amounts accrued or payable
under the Series C Convertible Preferred Stock Certificate of Designation or
registration rights agreement have been paid. Assuming conversion of all shares
of the Company's Series C Convertible Preferred Stock, the Company will issue
approximately 150 million additional shares of Common Stock.
The holders of the Series C Convertible Preferred Stock also received 7,000
Series C-1 Warrants and 7,000 Series C-2 Warrants for each share purchased. The
18
Series C-1 Warrants have a term of five years and an initial exercise price of
$0.15 per warrant, increasing to $0.18 per warrant on the first anniversary of
the closing date. The Series C-2 Warrants have a term of five years and an
initial exercise price of $0.18 per warrant, increasing to $0.22 per warrant
eighteen months after the closing date. Assuming exercise of all Series C-1 and
Series C-2 Warrants, and conversion of all shares of the Company's Series C
Convertible Preferred Stock, the Company will issue approximately 235 million
additional shares of Common Stock.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS, WHICH
INVOLVE NUMEROUS RISKS AND UNCERTAINTIES. THE STATEMENTS CONTAINED IN THIS
QUARTERLY REPORT ON FORM 10-Q THAT ARE NOT PURELY HISTORICAL MAY BE CONSIDERED
FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES
ACT OF 1933, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, INCLUDING
WITHOUT LIMITATION, STATEMENTS REGARDING THE COMPANY'S EXPECTATIONS, BELIEFS,
INTENTIONS OR STRATEGIES REGARDING THE FUTURE. OUR ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING STATEMENTS AS A
RESULT OF CERTAIN FACTORS, INCLUDING THOSE SET FORTH UNDER "CERTAIN FACTORS
AFFECTING THE COMPANY" CONTAINED IN THIS ITEM 2 AND ELSEWHERE IN THIS QUARTERLY
REPORT ON FORM 10-Q. ADDITIONAL FACTORS THAT COULD CAUSE OR CONTRIBUTE TO SUCH
DIFFERENCES INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED IN OUR ANNUAL
REPORT ON FORM 10-K, AND OTHER DOCUMENTS FILED BY US WITH THE SECURITIES AND
EXCHANGE COMMISSION.
OVERVIEW
We supply broadband wireless equipment and services for use in
telecommunications networks. Currently, we sell 2.4 GHz and 5.7 GHz spread
spectrum radio systems, as well as 7 GHz, 13 GHz, 14 GHz, 15 GHz, 18 GHz, 23
GHz, 26 GHz, 38 GHz and 50 GHz radio systems. We also provide software and
related services for these products. Additionally, prior to May 2003, we offered
services, including engineering, furnishing and installation, program
management, test and turn-up, and integration of telephone central offices'
transmission and DC power systems, microwave, spread spectrum and cellular
systems. We decided to exit the services business as part of our strategy to
reduce expenses and focus on our product business.
The telecommunications equipment industry continues to experience a significant
worldwide slowdown. Our product sales decreased $0.8 million or 12% in the third
quarter of 2003 compared to the same period in the previous year. We continue to
focus on reducing our operating and other expenses by, among other things,
consolidating our facilities, and negotiating lower costs for materials. These
cost reduction efforts, which include reductions resulting from the Company's
exit from its services business, and reductions in personnel, have allowed us to
reduce our operating loss by $3.4 million during the third quarter of 2003, or
6% compared to the same period in the previous year. We recorded a net profit of
$9.4 million in the third quarter of 2003, mainly due to a $8.8 million gain
arising from the redemption of the Convertible Notes at a valuation below its
recorded amount, and a $1.2 million gain on discontinued operations arising from
a settlement of the lease guarantee agreement with the landlord. Excluding these
non-recurring gains, the Company recorded a net loss of $0.6 million, which is
$8.4 million lower than the corresponding period in the previous year.
CRITICAL ACCOUNTING POLICIES
MANAGEMENT'S USE OF ESTIMATES AND ASSUMPTIONS
The preparation of financial statements in accordance with accounting principles
generally accepted in the U.S. requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates, and such
differences could be material and affect the results of operations reported in
future periods.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company measures its financial assets and liabilities in accordance with
accounting principles generally accepted in the U.S. The estimated fair value of
cash, accounts receivable and payable, bank loans and accrued liabilities at
September 30, 2003 and December 31, 2002 approximated cost due to the short
maturity of these assets and liabilities.
19
REVENUE RECOGNITION
Revenue from product sales is recognized upon transfer of title and risk of
loss, which is upon shipment of the product provided no significant obligations
remain and collection is probable. Provisions for estimated warranty repairs,
returns and other allowances are recorded at the time revenue is recognized.
ALLOWANCE FOR DOUBTFUL ACCOUNTS
We maintain an allowance for doubtful accounts for estimated losses from the
inability of our customers to make required payments. We evaluate our allowance
for doubtful accounts based on the aging of our accounts receivable, the
financial condition of our customers and their payment history, our historical
write-off experience and other assumptions. In order to limit our credit
exposure, we require irrevocable letters of credit and even prepayment from
certain of our customers before commencing production.
INVENTORY
Inventory is stated at the lower of cost or market, cost being determined on a
first-in, first-out basis. We assess our inventory carrying value and reduce it
if necessary, to its net realizable value based on customer orders on hand, and
internal demand forecasts using management's best estimate given the information
currently available. Our customers' demand is highly unpredictable, and can
fluctuate significantly caused by factors beyond the control of the Company. Our
inventories include parts and components that are specialized in nature or
subject to rapid technological obsolescence. We maintain an allowance for
inventories for potentially excess and obsolete inventories and gross inventory
levels that are carried at costs that are higher than their market values. If we
determine that market conditions are less favorable that those projected by
management, such as an unanticipated decline in demand not meeting our
expectations, additional inventory write-downs may be required.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost and include tooling and test
equipment, computer equipment, furniture, land and buildings, and
construction-in-progress. Depreciation is computed using the straight-line
method based upon the useful lives of the assets ranging from three to seven
years, and in the case of buildings, 33 years. Leasehold improvements are
amortized using the straight-line method based upon the shorter of the estimated
useful lives or the lease term of the respective assets.
IMPAIRMENT OF LONG- LIVED ASSETS
In the event that facts and circumstances indicate that the long-lived assets
may be impaired, an evaluation of recoverability would be performed. If an
evaluation were required, the estimated future undiscounted cash flows
associated with the asset would be compared to the asset's carrying amount to
determine if a write-down is required. A $599,000 impairment valuation charge in
connection with property and equipment for our Point-to-Multipoint product line
was charged to restructuring charges in the first quarter of 2003, and a further
$2.5 million impairment charge for the Point-to-Multipoint property and
equipment was recorded in the second quarter of 2003.
CONCENTRATION OF CREDIT RISK
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash equivalents and trade
accounts receivable. The Company places its cash equivalents in a variety of
financial instruments such as market rate accounts and U.S. Government agency
debt securities. The Company, by policy, limits the amount of credit exposure to
any one financial institution or commercial issuer.
The Company performs on-going credit evaluations of its customers' financial
condition to determine the customer's credit worthiness. Sales are then
generally made either on 30 to 60 day payment terms, COD or letters of credit.
The Company extends credit terms to international customers for up to 90 days,
which is consistent with prevailing business practices.
At September 30, 2003 and 2002, approximately 67% and 77%, respectively, of
trade accounts receivable represent amounts due from four and three customers,
respectively.
ACCOUNTING FOR INCOME TAXES
We record a valuation allowance to reduce our deferred tax assets to the amount
that is more likely than not to be realized. While we consider historical levels
of income, expectations and risks associated with estimates of future taxable
income and ongoing prudent and feasible tax planning strategies in assessing the
need for the valuation allowance, in the event that we determine that we would
20
be able to realize deferred tax assets in the future in excess of the net
recorded amount, an adjustment to the deferred tax asset would increase income
in the period such determination was made.
RESULTS OF OPERATIONS
SALES. For the three months ended September 30, 2003, total sales were
approximately $5.6 million as compared to $6.4 million for the same period in
the prior year. The 12% decrease in total sales was primarily due to a $1.0
million decrease in shipments of our Point-to-Multipoint products to the
Asia-Pacific region during the three months ended September 30, 2003. For the
nine months ended September 30, 2003, total sales were approximately $15.1
million, compared to $22.3 million for the same period in the prior year. The
decrease in total sales for the nine-month period ended September 30, 2003 as
compared to 2002 was principally attributable to a $6.1 million decrease in
Point-to-Point and Spread Spectrum product shipments to the Asia-Pacific Rim
countries, and 0.9 million decrease in the Point-to-Multipoint sales to the same
market. The continuing capital expenditure control measures implemented by North
American and European telecommunication companies have continued to adversely
impact our sales. Approximately $3.0 million of our sales in the third quarter
of 2003 are from out-of-warranty repair activities, an increase of $0.1 million
over the previous quarter.
During the nine-month period ended September 30, 2003 and 2002, four and two
customers accounted for a total of 56% and 29% of our total sales, respectively.
During the nine months ended September 30, 2003, we generated approximately 28%
of our sales in the Asia-Pacific Rim areas and the Middle East combined. During
the same period in 2002, we generated 50% of our sales in the Asia-Pacific Rim
and the Middle East combined. The United Kingdom market contributed 34% of the
Company's revenue in the nine months ended September 30, 2003, compared to 20%
in the same period in 2002. Our next largest market is the European continent,
which generated approximately 18% of the Company's revenue in the nine months
ended September 30, 2003, compared to 16% in the same period in 2002.
Many of our largest customers use our product to build telecommunication network
infrastructures. These purchases represent significant investments in capital
equipment and are required for network rollout in a geographic area or market.
Consequently, the customer may have different requirements from year to year and
may vary its purchase levels from us accordingly. As noted, the worldwide
slowdown in the telecommunications industry is significantly affecting our
customers and our revenue levels.
GROSS PROFIT. Gross profit for the three months ended September 30, 2003
and 2002, was $1.1 and $0.8 million, respectively, or 20% and 13% of sales in
each of the respective quarters. The higher gross margin during the quarter
ended September 30, 2003 was attributable principally to a higher percentage of
total revenue in the quarter coming from the sale of unlicensed Spread Spectrum
equipment and Tel-Link out-of-warranty repairs, which provide higher gross
margins compared to licensed equipment, which contributed a greater percentage
to total revenue during the comparable quarter in 2002. For the nine months
ended September 30, 2003 and 2002, gross profit was $2.7 million (excluding
inventory and related charges of $3.7 million) and $3.0 million, or 18% and 14%
of sales, respectively. The inventory and related charge for the nine months
ended September 30, 2003 relate to our legacy Point-to-Point Tel-Link and
Airlink products, and the Point-to-Multipoint products. The charges were taken
in view of the less favorable market conditions for these products. The higher
gross margin was attributable principally to a higher percentage of total
revenue during the nine-month period ended September 30, 2003 coming from the
sale of unlicensed Spread Spectrum equipment and Tel-Link out-of-warranty
repairs, which provide higher gross margins compared to licensed equipment,
which contributed a greater percentage of total revenue during the comparable
nine-month period in 2002. Including the inventory and related charges of $3.7
million, gross loss for the nine months ended September 30, 2003 is (7%).
RESEARCH AND DEVELOPMENT. For the three months ended September 30, 2003 and
2002, research and development ("R&D") expenses were approximately $1.2 million
and $2.4 million, respectively. For the nine months ended September 30, 2003 and
2002, R&D expenses were approximately $4.8 million and $10.3 million,
respectively. The decrease in R&D expense was due to the restructuring of the
Point-to-Multipoint operations, reduced depreciation charges, reduced staffing
levels and substantial completion of product development efforts related to our
Point-to-Point Encore and AirPro Gold Spread Spectrum radios. As a percentage of
sales, research and development expenses were at 21% for the three months ended
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September 30, 2003, compared to 38% for the three months ended September 30,
2002. The percentage decrease is due to significant expense reduction efforts as
mentioned above.
SELLING AND MARKETING. For the three months ended September 30, 2003 and
2002, sales and marketing expenses were approximately $0.9 million and $1.7
million, respectively. For the nine months ended September 30, 2003 and 2002,
sales and marketing expenses were approximately $2.7 million and $5.2 million,
respectively. The decrease in sales and marketing spending is due to lower
commission payments in light of decreased sales in the Asia-Pacific Rim areas,
headcount reductions and reduced traveling expenses. As a percentage of sales,
selling and marketing expenses was 16% for the three months ended September 30,
2003, compared to 27% for the three months ended September 30, 2002. The
percentage decrease was caused by significant savings in sales and marketing
expenses, as described above.
GENERAL AND ADMINISTRATIVE. For the three months ended September 30, 2003
and 2002, general and administrative expenses were approximately $1.2 million
and $2.5 million, respectively. For the nine months ended September 30, 2003 and
2002, general and administrative expenses were approximately $4.3 million and
$8.7 million, respectively. The decrease in general and administrative expense
in the third quarter of 2003 is principally attributable to a realization of
savings from cost reduction programs that continued from 2002 to 2003, including
headcount and salary reductions, reduced consulting and legal expenses, and
facilities consolidation. As a percentage of sales, general and administrative
expenses were 21% for the three months ended September 30, 2003, compared to 39%
for the three months ended September 30, 2002. The percentage decrease is due to
our success in significantly reducing our expenses throughout the year, as
discussed above.
ASSET IMPAIRMENT AND OTHER RESTRUCTURING CHARGES.
In the event that certain facts and circumstances indicate that the long-lived
assets may be impaired, an evaluation of recoverability would be performed. When
an evaluation occurs, management conducts a probability analysis based on the
weighted future undiscounted cash flows associated with the asset. The results
are then compared to the asset's carrying amount to determine if an impairment
is necessary. The cash flow analysis for the property and equipment is performed
over the shorter of the expected useful lives of the assets, or the expected
life cycles of our product line. An impairment charge is recorded if the net
cash flows derived from the analysis are less than the asset's carrying value.
We deem that the property and equipment is fairly stated if the future
undiscounted cash flows exceed its carrying amount.
In the first and second quarter of 2003, the Company determined that there was a
need to reevaluate the carrying value of its property and equipment, which are
held for sale, relating to its Point-to-Multipoint product line. The evaluation
was performed in light of the continuing slowdown in the global
telecommunications market for this product line. The evaluation resulted in a
$2.5 million provision for asset impairment in the second quarter of 2003, and
$0.6 million provision in the first quarter of 2003.
In connection with the workforce reduction in May 2003, the Company recorded a
$0.2 million charge in the second quarter of 2003 relating to a severance
package given to certain of its executive officers.
The Company recorded a $0.4 million charge in the third quarter of 2003 for
liability relating to a terminated lease facility in the United Kingdom.
LOSS ON DISCONTINUED BUSINESS. In the first quarter of 2003, we decided to
exit our services business, PCNS. Accordingly, beginning in the first quarter of
2003, this business is reported as a discontinued operation and we recorded
losses from its operations and from the disposal of the services business unit
relating to writing down of assets to net realizable value. On April 30, 2003,
the Company entered into an Asset Purchase Agreement with JKB to sell certain
assets of PCNS. The Company is a guarantor of PCNS' obligations under its
premises lease, through July 2007. As part of the sale to JKB, JKB agreed to
sublet the premises from PCNS for one year beginning May 1, 2003. The terms of
the sublease required JKB to pay less than the total amount of rent due under
the terms of the master lease. As a result, the Company remained liable under
the terms of the guaranty for the deficiency, and the total obligation under the
terms of the master lease was approximately $1.5 million, and these were accrued
in the second quarter of 2003 as loss on disposal of discontinued operations. In
the third quarter of 2003, the Company reached a settlement agreement with the
landlord for $0.3 million, and wrote-back the excess accrual of $1.2 million as
a gain on discontinued operations.
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CHANGE IN ACCOUNTING PRINCIPLE. Goodwill represents the excess of the
purchase price over the fair value of the net assets of acquired companies
accounted for as purchase business combinations. We adopted FAS 142 on January
1, 2002, and, as a result, recorded a transitional impairment charge of $5.5
million in the first quarter of 2002, representing the difference between the
fair value of expected cash flows from the services business unit, and its book
value.
INTEREST EXPENSE. For the three months ended September 30, 2003 and 2002,
interest expense was $0.5 million and $1.0 million, respectively. Interest
expense for the third quarter of 2003 comprised primarily of interest on our
bank line of credit, interest on capital leases and amortization of discount on
the promissory notes. The lower interest expense in the third quarter of 2003
was due to the redemption of the Convertible Notes on August 4, 2003. For the
nine months ended September 30, 2003 and 2002, interest expense was $1.6 million
and $2.0 million, respectively. The lower expense in 2003 was due to interest
savings from the redemption of the Convertible Notes.
GAIN ON DEBT RESTRUCTURING AND OTHER INCOME, NET. For the three-month
period ended September 30, 2003, gain on debt restructuring and other income,
net, totaled $11.0 million compared to a loss of $(1.3) million for the
comparable three-month period in 2002. For the nine-month period ended September
30, 2003, other income, net, totaled $13.4 million compared to $0.2 million for
the corresponding period in 2002. The higher amount in 2003 was due to $10.3
million of gain on redemption of the Convertible Notes, and $2.1 million of gain
from vendor settlements.
PROVISION (BENEFIT) FOR INCOME TAXES. We have not recorded the tax benefit
of our net operating losses since the criteria for recognition has not been
achieved. The net operating losses will be available to offset future taxable
income, subject to certain limitations and expirations.
LIQUIDITY AND CAPITAL RESOURCES
During the nine-month period ended September 30, 2003, we used approximately
$0.2 million of cash in operating activities, primarily due to our net loss of
$7.0 million, a $10.3 million non-cash gain arising from the redemption of the
Convertible Notes, and $2.1 million non-cash gain from vendor settlements. These
amounts were offset by a $3.7 million non-cash loss related to inventory and
related charges, $3.1 million of property and equipment impairment charges, and
depreciation expenses of $3.4 million. Significant contributions to cash flow
resulted from a net reduction in inventories of $4.1 million, a net reduction in
prepaid and other current assets of $2.2 million, and a net increase of other
accruals of $1.6 million. These were partially offset by a reduction of accounts
payable of $2.1 million.
During the nine-month period ended September 30, 2002, we used approximately
$14.6 million of cash in operating activities, primarily related to the net loss
of $32.2 million, which was offset by $5.5 million of non-cash goodwill
impairment charges and depreciation expenses of $5.1 million. Other significant
contributions to cash flow from operations for the quarter ended September 30,
2003 were cash generated through a decrease in inventory of $8.3 million, and a
net reduction of prepaid expenses and other current assets of $3.1 million,
partially offset by the $1.4 million non-cash extraordinary gain on the
retirement of certain Convertible Notes, and a net reduction in payables and
other accrued liabilities of approximately $10.0 million, which resulted from
vendor settlements and a slowdown of overall payable balances occurring in the
period as a result of reduced orders from domestic CLEC customers, and
consolidation of operating facilities and related administrative expenses.
During the nine-month period ended September 30, 2003, we used approximately
$1.8 million of cash from investing activities, due principally to the loans to
SPEEDCOM of $1.1 million, and $0.9 million arising from changes in the net
assets of discontinued operations, offset by a $0.4 decrease in restricted cash.
During the nine-month period ended September 2002, we generated $5.4 million
from investing activities, mainly from a $2.9 million decrease in restricted
cash, and $3.0 million from changes in the net assets of the Company's
discontinued operations.
During the nine-month period ended September 30, 2003, we generated $2.2 million
of cash flows from financing activities, primarily through the receipt of $2.6
million from bridge financings, and $0.3 million from the receipt of proceeds
from the sale of Common Stock. These were offset by payments of $0.7 million to
the Bank under the Credit Facility and to lessors under capital leases of the
Company. During the nine-month period ended September 30, 2002, we generated
$8.2 million of cash flows from financing activities, primarily through the
receipt of $7.3 million from the sale of Common Stock, and $1.6 million cash
advances from the Bank under the Credit Facility, offset by payments in
23
connection with capital leases, and the repurchase of certain Convertible Notes.
As of September 30, 2003 our principal sources of liquidity consisted of
approximately $1.1 million of cash and cash equivalents, and additional
borrowing availability under the Credit Facility.
At September 30, 2003, we had negative working capital of approximately $12.2
million. The negative working capital resulted from our continuing operating
losses, a $5.5 million inventory write-down to net realizable value, higher
accrued liabilities, and a $2.2 million increase in convertible promissory note
balances. These convertible promissory notes were converted into Series C
Convertible Preferred Stock, in connection with the Series C Financing, which
the Company closed on October 3, 2003. The Series C Financing resulted in gross
proceeds to the Company of $11.0 million. Each share of Series C Convertible
Preferred Stock has a stated value of $1,750 per share. The Series C Financing
resulted in net proceeds of approximately $7.9 million, after deducting expenses
related to the Series C Financing, payment of certain claims, and the
elimination of certain vendor liabilities of the Company.
Although the receipt of net proceeds from the Series C Financing and the debt
and other restructuring efforts have significantly improved the Company's
working capital position, its working capital deficit remains. Management
intends to focus on increasing sales, settling outstanding claims, controlling
general and operating expenses, and reducing the cost of goods sold, in order to
return the Company to profitability. To further increase sales, and position the
Company for future growth, additional financing may be required. No assurances
can be given that additional financing will continue to be available to us on
acceptable terms, or at all. If the Company fails to (i) generate sufficient
revenues from new and existing products sales; (ii) decrease its costs of goods
sold, and achieve higher operating margins; (iii) obtain additional debt or
equity financing; or (iv) negotiate agreements to settle outstanding litigation
and claims, the Company will have insufficient capital to continue its
operations. Without sufficient capital to fund our operations, we will no longer
be able to continue as a going concern. Our independent accountants' opinion on
our consolidated financial statements for the year ended December 31, 2002
included an explanatory paragraph which raises substantial doubt about our
ability to continue as a going concern.
The following summarizes our contractual obligations at September 30, 2003, and
the effect such obligations are expected to have on our liquidity and cash flow
in future periods:
Less than one One to three Three to five After five
year years years years Total
---- --------- ----- ----- -----
Obligations (in $000):
- ----------------------
Convertible promissory note 2,237 -- -- -- 2,237
Non-cancelable operating lease 1,366 2,000 111 -- 3,477
obligations
Capital lease obligations 665 1,804 -- -- 2,469
Loan payable to banks 2,220 -- -- -- 2,220
Purchase order commitments 1,979 -- -- -- 1,979
------------- ------------- ------------- ------------- -------------
Total $ 8,467 $ 3,804 $ 111 $ -- $ 12,382
------------- ------------- ------------- ------------- -------------
We do not have any material commitments for capital equipment. Additional future
capital requirements will depend on many factors, including our plans to
increase manufacturing capacity, working capital requirements for our
operations, and our internal free cash flow from operations.
RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the FASB issued FASB Interpretation No. 46, Consolidation of
Valuable Interest Entities. This interpretation clarifies rules relating to
consolidation where entities are controlled by means other than a majority
24
voting interest and instances in which equity investors do not bear the residual
economic risks. This interpretation was originally effective immediately for
variable interest entities created after January 31, 2003 and for interim
periods beginning after June 15, 2003 for interests acquired prior to February
1, 2003. However, the FASB is reviewing certain provisions of the standard and
has deferred the effective date for public companies to periods ending after
December 15, 2003. The Company currently has no ownership in variable interest
entities and therefore adoption of this standard currently has no financial
reporting implications.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities. The statement amends and
clarifies accounting and reporting for derivative instruments, including certain
derivative instruments embedded in other contracts, and hedging activities. This
statement is designed to improve financial reporting such that contracts with
comparable characteristics are accounted for similarly. The statement, which is
generally effective for contracts entered into or modified after June 30, 2003,
is not anticipated to have a significant effect on the Company's financial
position or results of operations.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. This statement
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. This
statement is effective for financial instruments entered into or modified after
May 31, 2003, and is otherwise effective at the beginning of the first interim
period beginning after June 15, 2003. At September 30, 2003, the Company had no
such financial instruments outstanding and therefore adoption of this standard
had no financial reporting implications. On August 5, 2003, the Company issued
shares of Series B Convertible Preferred Stock, which have certain terms that,
while improbable, may require their mandatory redemption for cash. The Company
believes that accounting for these securities as a mezzanine security, outside
of equity, under Staff Accounting Bulletin No. 64 ("SAB 64") is appropriate.
CERTAIN FACTORS AFFECTING THE COMPANY
CONTINUING WEAKNESS IN THE TELECOMMUNICATIONS EQUIPMENT AND SERVICES SECTOR HAS
ADVERSELY AFFECTED THE OPERATING RESULTS, FUTURE GROWTH AND STABILITY OF OUR
BUSINESS.
A severe worldwide slowdown in the telecommunications equipment and services
sector is affecting us. Our customers, particularly systems operators and
integrated system providers, are deferring capital spending and orders to
suppliers such as our Company, and in general are not building out any
significant additional infrastructure at this time. In the U.S., most
Competitive Local Exchange Carriers ("CLECs") have declared bankruptcy and,
internationally, 3G network rollout and commercialization continue to experience
delays. In addition, our accounts receivable, inventory turnover, and operating
stability can be jeopardized if our customers experience financial distress. We
do not believe that our products sales levels can recover while an industry-wide
slowdown in demand persists.
Global economic conditions have had a depressing effect on sales levels in past
years, including a significant slowdown for us in 1998 and 2001, and continuing
through 2003. The soft economy and slowdown in capital spending encountered in
the United States, the United Kingdom, continental Europe, parts of the Asia
continent, and other geographical markets have had a significant depressing
effect on the sales levels of telecommunication products such as ours. These
factors may continue to adversely affect our business, financial condition and
results of operations. We cannot sustain ourselves at the currently depressed
sales levels, unless we are able to obtain additional debt or equity financing.
OUR BUSINESS AND FINANCIAL POSITIONS HAVE DETERIORATED SIGNIFICANTLY.
Our business and financial positions have deteriorated significantly. Our core
business product sales were reduced sharply beginning with the second half of
2001. From inception to September 30, 2003, our aggregate net loss is
approximately $355.8 million. Our cash, working capital, accounts receivable,
inventory, total assets, employee headcount, backlog and total stockholders'
equity were all substantially below levels of one year ago. We have negative
working capital of $12.2 million as of September 30, 2003. Our short-term
liquidity deficiency could disrupt our supply chain, and result in our inability
to manufacture and deliver our products, which would adversely affect our
25
results of operations.
Our independent accountants' opinion on our 2002 consolidated financial
statements includes an explanatory paragraph indicating substantial doubt about
our ability to continue as a going concern. To continue long term as a going
concern, we will have to increase our sales, and possibly induce other creditors
to forebear or to convert to equity, raise additional equity financing, and/or
raise new debt financing. We may not accomplish these tasks.
WE MAY ENTER INTO SUBSEQUENT AGREEMENTS TO MERGE OR CONSOLIDATE WITH OTHER
COMPANIES, AND WE MAY INCUR SIGNIFICANT COSTS IN THE PROCESS, WHETHER OR NOT THE
TRANSACTIONS ARE COMPLETED.
We signed an Agreement and Plan of Merger with Telaxis Communications
Corporation, dated September 9, 2002. The Agreement was terminated by mutual
agreement on January 7, 2003. On January 27, 2003, we signed a letter of intent
to acquire privately held Procera Networks Inc., of Sunnyvale, California, in a
stock-for-stock transaction. The acquisition effort was terminated in April
2003. We also entered into a definitive agreement to acquire the operating
assets and certain liabilities of SPEEDCOM Wireless Corporation ("SPEEDCOM") on
June 16, 2003. We may enter into other acquisition agreements in furtherance of
our strategy to consolidate with other companies in the fixed wireless market.
We may not be able to close any acquisitions on the timetable we anticipate, if
at all, including the SPEEDCOM transaction. We have and may further incur
significant non-recoverable expenses in these efforts.
THE NASDAQ SMALLCAP MARKET HAS DELISTED OUR STOCK AND THIS MIGHT SEVERELY LIMIT
THE ABILITY TO SELL ANY OF OUR COMMON STOCK.
NASDAQ moved our stock listing from the NASDAQ National Market to the NASDAQ
Small Cap Market effective August 27, 2002 due to our failure to meet certain
listing requirements, including a minimum bid price of $1.00 per share. We
subsequently failed to meet certain NASDAQ Small Cap Market quantitative listing
standards, including a minimum $1.00 per share bid price requirement, and the
NASDAQ Listing Qualifications Panel determined that our stock would no longer be
listed on the NASDAQ Small Cap Market. Effective March 10, 2003, our Common
Stock commenced trading electronically on the OTC Bulletin Board of the National
Association of Securities Dealers, Inc. This move could result in a less liquid
market available for existing and potential stockholders to trade shares of our
Common Stock and could ultimately further depress the trading price of our
Common Stock.
Our Common Stock is subject to the Securities Exchange Commission's ("SEC")
"penny stock" regulation. For transactions covered by this regulation,
broker-dealers must make a special suitability determination for the purchase of
the securities and must have received the purchaser's written consent to the
transaction prior to the purchase. Additionally, for any transaction involving a
penny stock, the rules generally require the delivery, prior to the transaction,
of a risk disclosure document mandated by the SEC relating to the penny stock
market. The broker-dealer is also subject to additional sales practice
requirements. Consequently, the penny stock rules may restrict the ability of
broker-dealers to sell the company's Common Stock and may affect the ability of
holders to sell the Common Stock in the secondary market, and the price at which
a holder can sell the Common Stock.
THE CONVERSION OR EXERCISE OF OUR OUTSTANDING CONVERTIBLE SECURITIES WILL HAVE A
SIGNIFICANT DILUTIVE EFFECT ON OUR EXISTING STOCKHOLDERS.
In August 2003, the Company's remaining Convertible Notes converted into
approximately 1,000,000 shares of Series B Convertible Preferred Stock. The
Series B Convertible Preferred Stock is convertible into approximately
105,690,000 shares of the Company's Common Stock. The conversion or exercise of
the Company's outstanding convertible securities, including the Series B
Convertible Preferred Stock and warrants, into shares of the Company's Common
Stock (which requires stockholder approval of an increase in the number of
authorized Common Stock) will result in substantial dilution to the Company's
existing stockholders. In order to consummate the asset purchase of SPEEDCOM,
the Company intends to issue 67,500,000 additional shares of Common Stock.
Additionally, on October 3, 2003, the Company issued approximately 8,370 shares
of Series C Convertible Preferred Stock. The Series C Convertible Preferred
Stock and the warrants issued in connection with the Series C Convertible
Preferred Stock are convertible into approximately 235,000,000 shares of the
Company's Common Stock. These issuances will result in additional substantial
dilution to the Company's existing stockholders.
OUR PROSPECTS FOR OBTAINING ADDITIONAL FINANCING ARE UNCERTAIN AND FAILURE TO
26
OBTAIN NEEDED FINANCING WILL AFFECT OUR ABILITY TO PURSUE FUTURE GROWTH AND HARM
OUR BUSINESS OPERATIONS, AND WILL AFFECT OUR ABILITY TO CONTINUE AS A GOING
CONCERN.
In the event the Company is unable to raise additional debt or equity financing,
we will not be able to continue as a going concern. The Company's future capital
requirements will depend upon many factors, including a re-energized
telecommunications market, development costs of new products and related
software tools, potential acquisition opportunities, maintenance of adequate
manufacturing facilities and contract manufacturing agreements, progress of
research and development efforts, expansion of marketing and sales efforts, and
status of competitive products. Additional financing may not be available in the
future on acceptable terms or at all. The Company's history of substantial
operating losses could also severely limit the Company's ability to raise
additional financing. In addition, given the recent price for our Common Stock,
if we raise additional funds by issuing equity securities, additional
significant dilution to our stockholders could result.
If the Company is unable to increase sales, decrease costs, or obtain additional
equity or debt financing, the Company may be required to close business or
product lines, further restructure or refinance our debt or delay, further scale
back or eliminate our research and development program, or manufacturing
operations. We may also need to obtain funds through arrangements with partners
or others that may require us to relinquish our rights to certain technologies
or potential products or other assets. Our inability to obtain capital, or our
ability to obtain additional capital only upon onerous terms, could very
seriously damage our business, operating results and financial condition.
WE DO NOT HAVE THE CUSTOMER BASE OR OTHER RESOURCES OF MORE ESTABLISHED
COMPANIES, WHICH MAKES IT MORE DIFFICULT FOR US TO ADDRESS THE LIQUIDITY AND
OTHER CHALLENGES WE FACE.
Although we have installed and have in operation over 150,000 radio units
globally, we have not developed a large installed base of our equipment or the
kind of close relationships with a broad base of customers of a type enjoyed by
larger, more developed companies, which would provide a base of financial
performance from which to launch strategic initiatives and withstand business
reversals. In addition, we have not built up the level of capital often enjoyed
by more established companies, so from time to time we face serious challenges
in financing our continued operations. We may not be able to successfully
address these risks.
WE RELY ON A LIMITED NUMBER OF CUSTOMERS FOR A MATERIAL PORTION OF OUR SALES AND
THE LOSS OF OR REDUCTION IN SALES TO ANY OF THOSE CUSTOMERS COULD HARM OUR
BUSINESS, FINANCIAL CONDITIONS, AND RESULTS OF OPERATION.
For the nine-month period ended September 30, 2003, sales to four customers
accounted for 56% of total sales. Our ability to maintain or increase our sales
in the future will depend, in part upon our ability to obtain orders from new
customers as well as the financial condition and success of our customers, the
telecommunications industry and the global economy. Our customer concentration
also results in concentration of credit risk. As of September 30, 2003, four
customers accounted for 67% of our total accounts receivable balances. Many of
our significant recurring customers are located outside the U.S., primarily in
the Asia-Pacific Rim areas, United Kingdom and continental Europe. Some of these
customers are implementing new networks and are themselves in the various stages
of development. They may require additional capital to fully implement their
planned networks, which may be unavailable to them on an as-needed basis, and
which we cannot supply in terms of long-term financing.
If our customers cannot finance their purchases of our products or services,
this may materially adversely affect our business, operations and financial
condition. Financial difficulties of existing or potential customers may also
limit the overall demand for our products and services. Current customers in the
telecommunications industry have, from time to time, undergone financial
difficulties and may therefore limit their future orders or find it difficult to
pay for products sold to them. Any cancellation, reduction or delay in orders or
shipments, for example, as a result of manufacturing or supply difficulties or a
customer's inability to finance its purchases of our products or services, would
adversely affect our business. Difficulties of this nature have occurred in the
past and we believe they can occur in the future. For instance, in July 2002, we
announced a multiple year $100 million supply agreement with an original
equipment manufacturer in China. Even with an agreement in place, the customer
has changed the timing and the product mix requested, and has cancelled or
delayed many of its orders. Enforcement of the specific terms of the agreement
could be difficult and expensive within China, and we may not ultimately realize
the total benefits currently expected in the contract period.
27
Finally, acquisitions in the telecommunications industry are common, which tends
to further concentrate the potential customer base in larger companies.
WE FACE SUBSTANTIAL COMPETITION AND MAY NOT BE ABLE TO COMPETE EFFECTIVELY.
We are experiencing intense competition worldwide from a number of leading
telecommunications equipment and technology suppliers. These companies offer a
variety of competitive products and services and some offer broader
telecommunications product lines. These companies include Alcatel Network
Systems, Alvarion, Stratex Networks, Ceragon, Ericsson Limited, Harris
Corporation-Farinon Division, NEC, NERA, Nokia Telecommunications, SIAE,
Siemens, and Proxim. Many of these companies have greater installed bases,
financial resources and production, marketing, manufacturing, engineering and
other capabilities than we do. We face actual and potential competition not only
from these established companies, but also from start-up companies that are
developing and marketing new commercial products and services. Some of our
current and prospective customers and partners have developed, are currently
developing or could manufacture products competitive with our products. Nokia
and Ericsson have developed competitive radio systems, and there is new
technology featuring free space optical systems now in the marketplace.
The principal elements of competition in our market and the basis upon which
customers may select our systems include price, performance, software
functionality, perceived ability to continue to be able to meet delivery
requirements, and customer service and support. Recently, certain competitors
have announced the introduction of new competitive products, including related
software tools and services, and the acquisition of other competitors and
competitive technologies. We expect competitors to continue to improve the
performance and lower the price of their current products and services and to
introduce new products and services or new technologies that provide added
functionality and other features. New product and service offerings and
enhancements by our competitors could cause a decline in sales or loss of market
acceptance of our systems. New offerings could also make our systems, services
or technologies obsolete or non-competitive. In addition, we are experiencing
significant price competition and expect that competition to intensify.
OUR OPERATING RESULTS HAVE BEEN ADVERSELY AFFECTED BY DETERIORIATING GROSS
MARGINS.
The intense competition for many of our products has resulted in a reduction in
our average selling prices. These reductions have not been offset by a
corresponding decrease in the cost of goods sold, resulting in deteriorating
gross margins in some of our product lines. These deteriorating gross margins
may continue in the short term. Reasons for the decline include the maturation
of the systems, the effect of volume price discounts in existing and future
contracts and the intensification of competition.
If we cannot develop new products in a timely manner or fail to achieve
increased sales of new products at a higher average selling price, then we may
be unable to offset declining average selling prices in many of our product
lines. If we are unable to offset declining average selling prices, or achieve
corresponding decreases in manufacturing operating expenses, our gross margins
in many of our product lines will continue to decline.
OUR OPERATING RESULTS COULD BE ADVERSELY AFFECTED BY A CONTINUED DECLINE IN
CAPITAL SPENDING IN THE TELECOMMUNICATIONS MARKET.
Although much of the anticipated growth in the telecommunications infrastructure
is expected to result from the entrance of new service providers, many new
providers do not have the financial resources of existing service providers. For
example in the U.S., most CLECs are experiencing financial distress. If these
new service providers are unable to adequately finance their operations, they
may cancel or delay orders. Moreover, purchase orders are often received and
accepted far in advance of shipment and, as a result, we typically permit orders
to be modified or canceled with limited or no penalties. In periods of weak
capital spending on the part of traditional customers, we are at risk for
curtailment or cancellation of purchase orders, which can lead to adverse
operating results. Ordering materials and building inventory based on customer
forecasts or non-binding orders can also result in large inventory write-offs,
such as occurred in 2000 and 2001, and continued to incur in the first half of
2003.
Global economic conditions have had a depressing effect on sales levels in the
past two and one-half years. The soft economy and reported slowdown in capital
spending in 2001 and 2002 in the U.S. and European telecommunications markets
have had a significant depressing effect on the sales levels in both years. In
28
fiscal 2002, our sales in the U.S. and Europe markets totaled $12.2 million,
compared to $79.4 million in 2001. This trend has continued in 2003.
FAILURE TO MAINTAIN ADEQUATE LEVELS OF INVENTORY COULD RESULT IN A REDUCTION OR
DELAY IN SALES AND HARM OUR RESULTS OF OPERATIONS.
Our customers have increasingly been demanding short turnaround on orders rather
than submitting purchase orders far in advance of expected shipment dates. This
practice requires that we keep inventory on hand to meet market demands. Given
the variability of customer need and purchasing power, it is difficult to
predict the amount of inventory needed to satisfy customer demand. If we
over-estimate or under-estimate inventory requirements to fulfill customer
needs, or if purchase orders are terminated by customers, our results of
operations could continue to be adversely affected. In particular, increases in
inventory or cancellation of purchase orders could adversely affect operations
if the inventory is ultimately not used or becomes obsolete. This risk was
realized in the large inventory write-downs from 1999 to 2002, and a $5.5
million write-down in the first two quarters of 2003.
OUR LIMITED MANUFACTURING CAPACITY AND SOURCES OF SUPPLY MAY AFFECT OUR ABILITY
TO MEET CUSTOMER DEMAND, WHICH WOULD HARM OUR SALES AND DAMAGE OUR REPUTATION.
Our internal manufacturing capacity, by design, is very limited. Under certain
market conditions, as for example when there is high capital spending and rapid
system deployment, our internal manufacturing capacity will not be sufficient to
fulfill customers' orders. We would therefore rely on contract manufacturers to
produce our systems, components and subassemblies. Our failure to manufacture,
assemble and ship systems and meet customer demands on a timely and
cost-effective basis could damage relationships with customers and have a
material adverse effect on our business, financial condition and results of
operations.
In addition, certain components, subassemblies and services necessary for the
manufacture of our systems are obtained from a sole supplier or a limited group
of suppliers. Many of these suppliers are in difficult financial positions as a
result of the significant slowdown that we, too, have experienced. Our reliance
on contract manufacturers and on sole suppliers or a limited group of suppliers
involves risks. We have from time to time experienced an inability to obtain, or
to receive in a timely manner, an adequate supply of finished products and
required components and subassemblies. As a result, we have less control over
the price, timely delivery, reliability and quality of finished products,
components and subassemblies.
A significant ramp-up of production of products and services could require us to
make substantial capital investments in equipment and inventory, in recruitment
and training of additional personnel and possibly in investment in additional
manufacturing facilities. If undertaken, we anticipate these expenditures would
be made in advance of increased sales. In this event, operating results would be
adversely affected from time-to-time due to short-term inefficiencies associated
with the addition of equipment and inventory, personnel or facilities, and these
cost categories may periodically increase as a percentage of revenues.
FAILURE TO MAINTAIN A VALID CERTIFICATE FOR ISO 9001:1994 AND UPGRADE THE
CERTIFICATE TO ISO 9001:2000 MAY ADVERSELY AFFECT OUR SALES.
Many of our customers require their vendors to maintain a valid ISO Quality
certificate before placing purchase orders. The Company has had a certificate
since December 7, 1993. On December 15, 2003, ISO requires all holders of ISO
9001:1994 to upgrade to ISO 9001:2000. If we are unsuccessful in our efforts to
upgrade to ISO 9001:2000, our ability to secure purchase orders for our products
may be adversely affected.
OUR BUSINESS DEPENDS ON THE ACCEPTANCE OF OUR PRODUCTS AND SERVICES, AND IT IS
UNCERTAIN WHETHER THE MARKET WILL ACCEPT AND DEMAND OUR PRODUCTS AND SERVICES AT
LEVELS NECESSARY FOR SUCCESS.
Our future operating results depend upon the continued growth and increased
availability and acceptance of micro cellular, personal communications
networks/personal communications services, and wireless local loop access
telecommunications services in the United States and internationally. The volume
and variety of wireless telecommunications services or the markets for and
acceptance of the services may not continue to grow as expected. The growth of
these services may also fail to create anticipated demand for our systems.
Predicting which segments of these markets will develop and at what rate these
markets will grow is difficult.
29
Some sectors of the telecommunications market will require the development and
deployment of an extensive and expensive telecommunications infrastructure. In
particular, the establishment of PCN/PCS networks requires significant capital
expenditures. Communications providers may determine not to make the necessary
investment in this infrastructure, or the creation of this infrastructure may
not occur in a timely manner, as has been the case in 2001 through the second
quarter of 2003. Moreover, one potential application of our technology, the use
of our systems in conjunction with the provision of alternative wireless access
in competition with the existing wireline local exchange providers, depends on
the pricing of wireless telecommunications services at rates competitive with
those charged by wireline operators. Rates for wireless access must become
competitive with rates charged by wireline companies for this approach to be
successful. Absent that, consumer demand for wireless access will be negatively
affected. If we allocate resources to any market segment that does not grow, we
may be unable to reallocate capital and other resources to other market segments
in a timely manner, ultimately curtailing or eliminating our ability to enter
the other segments.
Certain current and prospective customers are delivering services and features
that use competing transmission media, such as fiber optic and copper cable,
particularly in the local loop access market. To successfully compete with
existing products and technologies, we must offer systems with superior
price/performance characteristics and extensive customer service and support.
Additionally, we must supply these systems on a timely and cost-effective basis,
in sufficient volume to satisfy such prospective customers' requirements, in
order to induce the customers to transition to our technologies. Any delay in
the adoption of our systems and technologies may result in prospective customers
using alternative technologies in their next generation of systems and networks.
Our financial condition may prevent us from meeting this customer demand or may
dissuade potential customers from purchasing from us.
Prospective customers may design their systems or networks in a manner that
excludes or omits our products and technology. Existing customers may not
continue to include our systems in their products, systems or networks in the
future. Our technology may not replace existing technologies and achieve
widespread acceptance in the wireless telecommunications market. Failure to
achieve or sustain commercial acceptance of our currently available radio
systems or to develop other commercially acceptable radio systems would
materially adversely affect us.
DUE TO OUR INTERNATIONAL SALES AND OPERATIONS, WE ARE EXPOSED TO ECONOMIC AND
POLITICAL RISKS, AND SIGNIFICANT FLUCTUATIONS IN THE VALUE OF FOREIGN CURRENCIES
RELATIVE TO THE UNITED STATES DOLLAR.
As a result of our current heavy dependence on international markets, especially
in the United Kingdom, the European continent, the Middle East, and China, we
face economic, political and foreign currency fluctuations that are often more
volatile than those commonly experienced in the U.S. Approximately 90% of our
sales in the nine-month period ended September 30, 2003 were made to customers
located outside of the U.S. Historically, our international sales have been
denominated in British pounds sterling, Euros or U.S. dollars. A decrease in the
value of British pounds or Euros relative to U.S. dollars, if not hedged, will
result in exchange loss for us if we have Euro or British pound sterling
denominated sales. Conversely, an increase in the value of Euro and British
pounds will result in increased margins for us on Euro or British pound sterling
denominated sales as our functional currency is in U.S. dollars. For
international sales that we would require to be U.S. dollar-denominated, such a
decrease in the value of foreign currencies could make our systems less
price-competitive if competitors choose to price in other currencies and could
have a material adverse effect upon our financial condition.
We fund our Italian subsidiary's operating expenses, which are denominated in
Euros. An increase in the value of Euro currency, if not hedged relative to the
U.S. dollar, could result in more costly funding for our Italian operations, and
as a result, higher cost of production to us as a whole. Conversely, a decrease
in the value of Euro currency will result in cost savings for us.
Additional risks are inherent in our international business activities. These
risks include:
o changes in regulatory requirements;
o costs and risks of localizing systems (homologation) in foreign
countries;
o availability of suitable export financing, particularly in the case of
large projects, which we must ship in short periods; our bank line of
credit allows this financing up to $4 million, subject to numerous
conditions;
30
o timing and availability of export licenses, tariffs and other trade
barriers;
o difficulties in staffing and managing foreign operations, branches and
subsidiaries;
o difficulties in managing distributors;
o terrorist activities;
o recurrence of worldwide health epidemic similar to SARs, which
significantly affected our ability to travel and do business in the
Far East;
o potentially adverse tax consequences; and
o difficulty in accounts receivable collections, if applicable.
Due to political and economic instability in new markets, economic, political
and foreign currency fluctuations may be even more volatile than conditions in
developed countries. Countries in the Asia/Pacific, African, and Latin American
regions have in recent years experienced weaknesses in their currency, banking
and equity markets. These weaknesses have adversely affected and could continue
to adversely affect demand for our products.
OUR INTERNATIONAL OPERATIONS SUBJECT US TO THE LAWS, REGULATIONS AND LOCAL
CUSTOMS OF THE COUNTRIES IN WHICH WE CONDUCT OUR BUSINESS, WHICH MAY BE
SIGNIFICANTLY DIFFERENT FROM THOSE OF THE UNITED STATES.
In many cases, local regulatory authorities own or strictly regulate
international telephone companies. Established relationships between
government-owned or government-controlled telephone companies and their
traditional indigenous suppliers of telecommunications often limit access to
these markets. The successful expansion of our international operations in some
markets will depend on our ability to locate, form and maintain strong
relationships with established companies providing communication services and
equipment in designated regions. The failure to establish these regional or
local relationships or to successfully market or sell our products in specific
international markets could limit our ability to compete in today's highly
competitive local markets for broadband wireless equipment.
In addition, many of our customer purchases and other agreements are governed by
a wide variety of complex foreign laws, which may differ significantly from U.S.
laws. Therefore, we may be limited in our ability to enforce our rights under
those agreements and to collect damages, if awarded in any litigation.
GOVERNMENTAL REGULATIONS AFFECTING MARKETS IN WHICH WE COMPETE COULD ADVERSELY
AFFECT OUR BUSINESS AND RESULTS OF OPERATIONS.
Radio communications are extensively regulated by the U.S. and foreign
governments as well as by international treaties. Our systems must conform to a
variety of domestic and international requirements established to, among other
things, avoid interference among users of radio frequencies and to permit
interconnection of equipment.
Historically, in many developed countries, the limited availability of radio
frequency spectrum has inhibited the growth of wireless telecommunications
networks. Each country's regulatory process differs. To operate in a
jurisdiction, we must obtain regulatory approval for our systems and comply with
differing regulations.
Regulatory bodies worldwide continue to adopt new standards for wireless
communications products. The delays inherent in this governmental approval
process may cause the cancellation, postponement or rescheduling of the
installation of communications systems by our customers and us. The failure to
comply with current or future regulations or changes in the interpretation of
existing regulations could result in the suspension or cessation of operations.
Those regulations or changes in interpretation could require us to modify our
products and services and incur substantial costs in order to comply with the
regulations and changes.
In addition, we are also affected by domestic and international authorities'
regulation of the allocation and auction of the radio frequency spectrum.
Equipment to support new systems and services can be marketed only if permitted
by governmental regulations and if suitable frequency allocations are auctioned
to service providers. Establishing new regulations and obtaining frequency
allocation at auction is a complex and lengthy process. If PCS operators and
31
others are delayed in deploying new systems and services, we could experience
delays in orders. Similarly, failure by regulatory authorities to allocate
suitable frequency spectrum could have a material adverse effect on our results.
In addition, delays in the radio frequency spectrum auction process in the U.S.
could delay our ability to develop and market equipment to support new services.
We operate in a regulatory environment subject to significant change. Regulatory
changes, which are affected by political, economic and technical factors, could
significantly impact our operations by restricting our development efforts and
those of our customers, making current systems obsolete or increasing
competition. Any such regulatory changes, including changes in the allocation of
available spectrum, could have a material adverse effect on our business,
financial condition and results of operations. We may also find it necessary or
advisable to modify our systems and services to operate in compliance with these
regulations. These modifications could be expensive and time-consuming.
OUR STOCK PRICE HAS BEEN VOLATILE AND HAS EXPERIENCED SIGNIFICANT DECLINE, AND
MAY CONTINUE TO BE VOLATILE AND DECLINE.
In recent years, the stock market in general, and the market for shares of small
capitalization technology stocks in particular, have experienced extreme price
fluctuations. These fluctuations have often negatively affected small cap
companies such as us, and may impact our ability to raise equity capital in
periods of liquidity crunch. Companies with liquidity problems also often
experience downward stock price volatility. We believe that factors such as
announcements of developments relating to our business (including any financings
or any resolution of liabilities), announcements of technological innovations or
new products or enhancements by us or our competitors, developments in the
emerging countries' economies, sales by competitors, sales of significant
volumes of our Common Stock into the public market, developments in our
relationships with customers, partners, lenders, distributors and suppliers,
shortfalls or changes in revenues, gross margins, earnings or losses or other
financial results that differ from analysts' expectations, regulatory
developments, fluctuations in results of operations could and have caused the
price of our Common Stock to fluctuate widely and decline over the past two
years during the telecommunication recession. The market price of our Common
Stock may continue to decline, or otherwise continue to experience significant
fluctuations in the future, including fluctuations that are unrelated to our
performance.
WE HAVE ADOPTED ANTI-TAKEOVER DEFENSES THAT COULD DELAY OR PREVENT AN
ACQUISITION OF P-COM.
Our stockholder rights plan, certificate of incorporation, equity incentive
plans, bylaws and Delaware law may have a significant effect in delaying,
deferring or preventing a change in control and may adversely affect the voting
and other rights of other holders of Common Stock.
The rights of the holders of Common Stock will be subject to, and may be
adversely affected by, the rights of any other Preferred Stock that may be
issued in the future, including the Series A junior participating Preferred
Stock that may be issued pursuant to the stockholder rights plan, upon the
occurrence of certain triggering events. In general, the stockholder rights plan
provides a mechanism by which the share position of anyone that acquires 15% or
more, (or 20% or more in the case of the State of Wisconsin Investment Board and
Firsthand Capital Management) of our Common Stock will be substantially diluted.
Future issuance of stock or additional preferred stock could have the effect of
making it more difficult for a third party to acquire a majority of our
outstanding voting stock.
ISSUING ADDITIONAL SHARES BY SALES OF OUR SECURITIES IN THE PUBLIC MARKET AS A
PRIMARY MEANS OF RAISING WORKING CAPITAL COULD LOWER OUR STOCK PRICE AND IMPAIR
OUR ABILITY IN NEW STOCK OFFERINGS TO RAISE FUNDS TO CONTINUE OPERATIONS.
Future sales of our Common Stock, particularly including shares issued upon the
exercise or conversion of outstanding or newly issued securities upon exercise
of our outstanding options, could have a significant negative effect on the
market price of our Common Stock. These sales might also make it more difficult
for us to sell equity securities or equity-related securities in the future at a
time and price that we would deem appropriate.
As of September 30, 2003, we had approximately 43,518,000 shares of Common Stock
outstanding. The closing market price of our shares was $0.22 per share on that
date. As of September 30, 2003, there were approximately 1,942,300 options
32
outstanding that are vested. Based upon option exercise prices related to vested
options on September 30, 2003, there would be insignificant dilution or capital
raised for unexercised in-the-money options.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have international sales and facilities and are, therefore, subject to
foreign currency rate exposure. Historically, our international sales have been
denominated in British pounds sterling, Euro and U.S. dollars. The functional
currencies of our wholly-owned foreign subsidiaries are the local currencies.
Assets and liabilities of these subsidiaries are translated into U.S. dollars at
exchange rates in effect at the balance sheet date. Income and expense items are
translated at average exchange rates for the period. Accumulated net translation
adjustments are recorded in stockholders' equity. Foreign exchange transaction
gains and losses are included in the results of operations, and were not
material for all periods presented. Based on our overall currency rate exposure
at September 30, 2003, a near-term 10% appreciation or depreciation of the U.S.
dollar would have an insignificant effect on our financial position, results of
operations and cash flows over the next fiscal year. We do not use derivative
financial instruments for speculative or trading purposes.
ITEM 4. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. As of the end of the
quarter ended September 30, 2003, the Company's management, including its chief
executive officer and chief financial officer, has evaluated the effectiveness
of the Company's disclosure controls and procedures, as such term is defined in
Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as
amended (the "Exchange Act"). Based on that evaluation, the Company's chief
executive officer and chief financial officer concluded that the Company's
disclosure controls and procedures were effective as of September 30, 2003 to
ensure that information required to be disclosed by the Company in reports that
it files or submits under the Exchange Act is recorded, processed, summarized
and reported within the time periods specified in Securities and Exchange
Commission rules and forms.
(b) CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING. There were no changes
in the Company's internal control over financial reporting identified in
connection with the evaluation required by Exchange Act Rule 13a-15(d) that
occurred during the most recent fiscal quarter that has materially affected or
is reasonably likely to materially affect the Company's internal control over
financial reporting.
33
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On June 20, 2003, Agilent Financial Services, Inc. filed a complaint against the
Company for Breach of Lease, Claim and Delivery and Account Stated, in Superior
Court of the State of California, County of Santa Clara. The amount claimed in
the complaint is approximately $2.5 million, and represents accelerated amounts
due under the terms of capitalized equipment leases of the Company. On June 27,
2003, the parties filed a Stipulation for Entry of Judgment and Proposed Order
of Dismissal of Action With Prejudice. Under the terms of the Stipulation, the
Company paid Agilent $50,000 on July 15, 2003 and $100,000 on September 1, 2003,
and is obligated to pay $50,000 per month for fourteen months, from October 1,
2003, up to and including November 1, 2004, and $1,725,000 on December 1, 2004.
As a result of the Stipulation, judgment under the Complaint will not be entered
unless and until the Company defaults under the terms of the Stipulation. In the
event the Company satisfies each of its payment obligations under the terms of
the Stipulation, the Complaint will be dismissed, with prejudice.
On April 4, 2003, Christine Schubert, Chapter 7 Trustee for Winstar
Communications, Inc. et al, filed a Motion to Avoid and Recover Transfers
Pursuant to 11 U.S.C. ss.ss.547 and 550, in the United States Bankruptcy Court
for the District of Delaware and served the Summons and Notice on July 22, 2003.
The amount of the alleged preferential transfers to the Company is approximately
$13.7 million. We have reviewed the Motion and believe that the payments made by
Winstar Communications, Inc. are not voidable preference payments under the
United States Bankruptcy Code.
Other than the amounts claimed by Christine Schubert, Chapter 7 Trustee for
Winstar Communications, Inc., the amount of ultimate liability with respect to
each of the currently pending actions are less than 10% of our current assets.
In the event we are unable to satisfactorily resolve these and other proceedings
that arise from time to time, our financial position and results of operations
may be materially affected.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
On July 18, 2003, the Company completed a bridge financing transaction in which
it issued $0.9 million of 10% convertible promissory notes with a maturity date
of one year from the date of issuance. In connection with the bridge financing
transaction, the Company issued to the investor group, Series A Warrants, with a
three-year term, to purchase 668,000 shares of Common Stock, at $0.12 per share,
and Series B Warrants, with a three-year term, to purchase 932,000 shares of the
Company's Common Stock, at $0.20 per share. The exercise price of the Series A
and Series B Warrants could be reduced to $0.001 per share of Common Stock
should the Company fail to obtain stockholder approval for a proposed amendment
to the Company's Bylaws to permit the issuance of convertible securities with
certain conversion, exercise or exchange price adjustment provisions by December
31, 2003. These convertible promissory notes were converted into Series C
Convertible Preferred Stock, in connection with the Series C Financing, as
discussed below.
On August 1, 2003, the Company issued 1,000,000 and 2,400,000 shares of Common
Stock to Bryan Investment (landlord) and Helioss (creditor). The Common Stock
issued to Bryan Investment was issued in consideration for the execution of an
amendment to the Company's facilities lease, and the Common Stock issued to
Helios was issued in consideration for amount owing to Helioss.
On August 4, 2003, as a result of the restructuring of its Convertible Notes,
the principal amount and accrued interest of $21,138,000 was converted into
approximately 1,000,000 shares of Series B Convertible Preferred Stock with a
stated value of $21.138 per share. Each share of Series B Convertible Preferred
Stock converts into a number of shares of the Company's Common Stock equal to
the stated value divided by $0.20. Certain holders of Series B Convertible
Preferred Stock have agreed to convert the Series B Convertible Preferred Stock
into Common Stock upon receipt of stockholder approval to increase the number of
authorized shares of the Company's Common Stock to allow for conversion.
Assuming conversion of all shares of the Company's Series B Convertible
Preferred Stock, the Company will issue approximately 105,690,000 additional
shares of Common Stock.
On October 3, 2003, the Company closed $11.0 million in Series C Convertible
Preferred Stock (the "Series C Financing") with a stated value of $1,750 per
share, resulting in net proceeds of approximately $7.9 million after deducting
expenses related to the Series C Financing, and payment of certain claims
related to the Company's restructuring. Dividends accrue on the Series C
Convertible Preferred Stock beginning 12 months after the closing, at 6% per
34
annum paid semi-annually in cash or Common Stock, at the option of the Company,
and increasing to 8% per annum beginning 24 months after the closing. At the
Company's option, the Series C Convertible Preferred Stock is mandatorily
convertible one hundred eighty days after the effective date of the registration
statement covering the shares of Common Stock issuable upon the conversion of
the Series C Convertible Preferred Stock, and upon the satisfaction of the
following conditions: (i) for ten consecutive days, the Common Stock closes at a
bid price equal to or greater than $0.20; (ii) the continued effectiveness of
the registration statement; (iii) all shares of Common Stock issuable upon
conversion of the Series C Convertible Preferred Stock and Series C-1 and Series
C-2 Warrants are authorized and reserved for issuance, are registered under the
Securities Act for resale by the holders, and are listed or traded on the
Bulletin Board or other national exchange; (iv) there are no uncured redemption
events; and (v) all amounts accrued or payable under the Series C Convertible
Preferred Stock Certificate of Designation or registration rights agreement have
been paid. Assuming conversion of all shares of Series C Convertible Preferred
Stock, the Company will issue approximately 150 million additional shares of
Common Stock.
The holders of the Series C Convertible Preferred Stock also received 7,000
Series C-1 Warrants and 7,000 Series C-2 Warrants for each share purchased. The
Series C-1 Warrants have a term of five years and an initial exercise price of
$0.15 per warrant, increasing to $0.18 per warrant on the first anniversary of
the closing date. The Series C-2 Warrants have a term of five years and an
initial exercise price of $0.18 per warrant, increasing to $0.22 per warrant
eighteen months after the closing date.
The securities issued in connection with each of above financings were issued
private transactions, in reliance on an exemption from registration under
Section 4(2) of the Securities Act of 1933, and Rule 506 of Regulation D
promulgated thereunder, because each offering was a non-public offering to
accredited investors.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
At September 30, 2003, the Company was in default with respect to the payment of
$0.2 million on a promissory note, due on May 1, 2003. The principal and all
accrued and unpaid interest on the $0.2 million note was paid in October 2003,
as part of the Company's restructuring.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
2.1 Asset Purchase Agreement dated as of June 16, 2003, by and
between P-Com, Inc. and SPEEDCOM Wireless Corporation
3.1 Certificate of Designation, Preferences and Rights of Series B
Convertible Preferred Stock of P-Com, Inc., as filed with the
Delaware Secretary of State July 29, 2003
3.2 Certificate of Designation, Preferences and Rights of Series C
Convertible Preferred Stock of P-Com, Inc., as filed with the
Delaware Secretary of State September 24, 2003
10.1 Securities Purchase Agreement, dated May 28, 2003, by and among
P-Com, Inc., North Sound Legacy Fund LLC, North Sound Legacy
Institutional Fund LLC and North Sound Legacy International Ltd.
10.2 Registration Rights Agreement, dated May 28, 2003, by and among
P-Com, Inc., North Sound Legacy Fund LLC, North Sound Legacy
Institutional Fund LLC and North Sound Legacy International Ltd.
35
10.3 Security Agreement, dated May 28, 2003, by P-Com, Inc. and North
Sound Legacy Institutional Fund LLC, as collateral agent for
North Sound Legacy Fund LLC, North Sound Legacy Institutional
Fund LLC and North Sound Legacy International Ltd.
10.4 Form of Convertible Secured Promissory Note
10.5 Form of Series A Warrant
10.6 Form of Series A-1 Warrant
10.7 Form of Series B Warrant
10.8 Form of Series B-1 Warrant
10.9 Form of Security Purchase Agreement, dated October 3, 2003, by
and among P-Com, Inc. and Investors
10.10 Form of Registration Rights Agreement, dated October 3, 2003, by
and among P-Com, Inc. and Investors
10.11 Form of Series C-1 Warrant
10.12 Form of Series C-2 Warrant
31.1 Certification of Principal Executive Officer Pursuant to Exchange
Act Rule 13a-14(a)
31.2 Certification of Principal Financial Officer Pursuant to Exchange
Act Rule 13a-14(a)
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
On September 29, 2003, we filed a Form 8-K current report announcing
the renewal of the Company's credit facility with Silicon Valley Bank
for an additional year.
On September 5, 2003, we filed a Form 8-K current report announcing
the appointment of Sam Smookler as President and Chief Executive
Officer of the Company.
On August 21, 2003, we filed a Form 8-K current report to announce the
receipt of $1.1 million in orders from customers in China.
On August 14, 2003, we filed a Form 8-K announcing the dismissal of
PricewaterhouseCoopers, LLC, as the Company's independent accountants,
and the appointment of Aidman Piser & Company as the Company's new
independent auditors.
On August 6, 2003, we filed a Form 8-K current report to announce our
financial results for the Company's second quarter ended June 30,
2003.
On August 5, 2003, we filed a Form 8-K current report announcing (i)
the receipt of $1.4 million in orders from customers in China; (ii)
the receipt of a $2.8 million order for its point-to-point radios from
Mexican cellular operator Telcel Radiomovil DIPSA, S.A. de C.V.; and
(iii) the repurchase of the Company's 7% Convertible Subordinated
Notes.
36
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
P-COM, INC.
By: /s/ Sam Smookler
------------------------
Sam Smookler
President
and Chief Executive Officer
(Duly Authorized Officer)
Date: November 14, 2003
By: /s/ Daniel W. Rumsey
------------------------
Daniel W. Rumsey
Interim Chief Financial Officer
(Principal Financial Officer)
Date: November 14, 2003
37
EXHIBIT INDEX
2.1 Asset Purchase Agreement dated as of June 16, 2003, by and between
P-Com, Inc. and SPEEDCOM Wireless Corporation (1)
3.1 Certificate of Designation, Preferences and Rights of Series B
Convertible Preferred Stock of P-Com, Inc., as filed with the
Delaware Secretary of State July 29, 2003 (2)
3.2 Certificate of Designation, Preferences and Rights of Series C
Convertible Preferred Stock of P-Com, Inc., as filed with the
Delaware Secretary of State September 24, 2003 (3)
10.1 Securities Purchase Agreement, dated May 28, 2003, by and among
P-Com, Inc., North Sound Legacy Fund LLC, North Sound Legacy
Institutional Fund LLC and North Sound Legacy International Ltd.
(2)
10.2 Registration Rights Agreement, dated May 28, 2003, by and among
P-Com, Inc., North Sound Legacy Fund LLC, North Sound Legacy
Institutional Fund LLC and North Sound Legacy International Ltd.
(2)
10.3 Security Agreement, dated May 28, 2003, by P-Com, Inc. and North
Sound Legacy Institutional Fund LLC, as collateral agent for North
Sound Legacy Fund LLC, North Sound Legacy Institutional Fund LLC
and North Sound Legacy International Ltd. (2)
10.4 Form of Convertible Secured Promissory Note (4)
10.5 Form of Series A Warrant (4)
10.6 Form of Series A-1 Warrant (4)
10.7 Form of Series B Warrant (4)
10.8 Form of Series B-1 Warrant (4)
10.9 Form of Security Purchase Agreement, dated October 3, 2003, by and
among P-Com, Inc. and Investors (5)
10.10 Form of Registration Rights Agreement, dated October 3, 2003, by
and among P-Com, Inc. and Investors (5)
10.11 Form of Series C-1 Warrant (5)
10.12 Form of Series C-2 Warrant (5)
31.1 Certification of Principal Executive Officer Pursuant to Exchange
Act Rule 13a-14(a)
31.2 Certification of Principal Financial Officer Pursuant to Exchange
Act Rule 13a-14(a)
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of Interim Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(1) Incorporated by reference to the identically numbered
exhibit to the Company's Preliminary Schedule 14A as filed
with the Securities and Exchange Commission on September
12, 2003.
(2) Incorporated by reference to the identically numbered
exhibit to the Company's Report on Form 10-Q as filed with
the Securities and Exchange Commission on August 14, 2003.
38
(3) Incorporated by reference to exhibit 4.1 to the Company's
Report on Form 8-K as filed with the Securities and
Exchange Commission on October 7, 2003.
(4) Incorporated by reference to the identically numbered
exhibits to the Company's Report on Form 8-K as filed with
the Securities and Exchange Commission on March 31, 2003.
(5) Incorporated by reference to the identically numbered
exhibit to the Company's Report on Form 8-K as filed with
the Securities and Exchange Commission on October 7, 2003.
40