-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, G5xxtkE423hob+9WXlyKGJiA1Zwun+Xm8zHOxmUbxfYw2IiMTif6b8esP+BbWg/2 Ky6+x2vzN3PtC5vEEci3Pw== 0000276283-99-000022.txt : 19991117 0000276283-99-000022.hdr.sgml : 19991117 ACCESSION NUMBER: 0000276283-99-000022 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19991001 FILED AS OF DATE: 19991115 FILER: COMPANY DATA: COMPANY CONFORMED NAME: EVANS & SUTHERLAND COMPUTER CORP CENTRAL INDEX KEY: 0000276283 STANDARD INDUSTRIAL CLASSIFICATION: MISCELLANEOUS ELECTRICAL MACHINERY, EQUIPMENT & SUPPLIES [3690] IRS NUMBER: 870278175 STATE OF INCORPORATION: UT FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-14677 FILM NUMBER: 99754566 BUSINESS ADDRESS: STREET 1: 600 KOMAS DR CITY: SALT LAKE CITY STATE: UT ZIP: 84108 BUSINESS PHONE: 8015881815 MAIL ADDRESS: STREET 1: 600 KOMAS DR CITY: SALT LAKE CITY STATE: UT ZIP: 84108 10-Q 1 QUARTERLY PERIOD ENDED OCTOBER 1, 1999 UNITED STATES 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 October 1, 1999 ( ) 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 0-8771 -------------------------------------------------- EVANS & SUTHERLAND COMPUTER CORPORATION (Exact name of registrant as specified in its charter) Utah 87-0278175 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 600 Komas Drive, Salt Lake City, Utah 84108 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (801) 588-1000 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 the number of shares outstanding of each of the issuer's classes of common stock, net of treasury stock, as of the latest practicable date. Class Outstanding Shares at November 5, 1999 - ---------------------- -------------------------------------- Common Stock, $0.20 par value 9,398,217 EVANS & SUTHERLAND COMPUTER CORPORATION INDEX FORM 10-Q FOR THE QUARTER ENDED OCTOBER 1, 1999 Page No. PART I - FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets as of October 1, 1999 and December 31, 1998 3 Condensed Consolidated Statements of Operations for the three months ended October 1, 1999 and September 25, 1998 4 Condensed Consolidated Statements of Operations for the nine months ended October 1, 1999 and September 25, 1998 5 Condensed Consolidated Statements of Comprehensive Income for the three and nine months ended October 1, 1999 and September 25, 1998 6 Condensed Consolidated Statements of Cash Flows for the nine months ended October 1, 1999 and September 25, 1998 7 Notes to Condensed Consolidated Financial Statements 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 Item 3. Quantitative and Qualitative Disclosures About Market Risk 25 PART II - OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 25 Signature 26 2 PART I - FINANCIAL INFORMATION Item 1. FINANCIAL STATEMENTS EVANS & SUTHERLAND COMPUTER CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands, except share amounts)
October 1, December 31, 1999 1998 --------------- ---------------- Assets: (Unaudited) Cash and cash equivalents $ 7,519 $ 1,834 Short-term investments 10,523 25,907 Accounts receivable, less allowance for doubtful accounts of $1,579 as of October 1, 1999 and $1,616 as of December 31, 1998 44,188 46,866 Inventories 39,626 53,319 Costs and estimated earnings in excess of billings on uncompleted contracts 72,912 58,682 Deferred income taxes 10,154 9,450 Other current assets 7,792 7,278 --------------- ---------------- Total current assets 192,714 203,336 Property, plant and equipment, net 52,603 53,693 Investment securities 4,357 3,380 Deferred income taxes 4,960 2,487 Goodwill and other intangible assets, net 597 11,351 Other assets 869 1,421 --------------- ---------------- Total assets $ 256,100 $ 275,668 =============== ================ Liabilities and stockholders' equity: Line of credit agreements $ 4,062 4,298 Accounts payable 18,075 24,667 Accrued expenses 31,128 27,147 Customer deposits 4,962 3,339 Income taxes payable - 2,436 Billings in excess of costs and estimated earnings on uncompleted contracts 16,008 7,092 --------------- ---------------- Total current liabilities 74,235 68,979 --------------- ---------------- Long-term debt 18,015 18,062 --------------- ---------------- Commitments and contingencies - - Redeemable convertible preferred stock, class B-1, no par value; authorized 1,500,000 shares; issued and outstanding 901,408 shares as of October 1, 1999 and December 31, 1998 23,714 23,544 --------------- ---------------- Stockholders' equity: Preferred stock, no par value; authorized 8,500,000 shares; no shares issued and outstanding - - Common stock, $.20 par value; authorized 30,000,000 shares; issued 9,654,370 shares as of October 1, 1999 and 9,597,660 shares as of December 31, 1998 1,931 1,920 Additional paid-in capital 23,727 23,420 Retained earnings 118,176 139,498 Accumulated other comprehensive income (86) 245 Treasury stock, at cost, 261,500 shares as of October 1, 1999 (3,612) - --------------- ---------------- Total stockholders' equity 140,136 165,083 --------------- ---------------- Total liabilities and stockholders' equity $ 256,100 $ 275,668 =============== ================
See accompanying notes to condensed consolidated financial statements. 3 EVANS & SUTHERLAND COMPUTER CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (In thousands, except per share amounts)
Three Months Ended ------------------------------------ October 1, September 25, 1999 1998 ---------------- --------------- Sales $ 48,704 $ 47,262 Cost of sales 27,997 26,625 Write-down of inventory 13,230 - ---------------- --------------- Gross profit 7,477 20,637 ---------------- --------------- Operating expenses: Selling, general and administrative 10,479 11,128 Research and development 13,600 8,804 Amortization of goodwill and other intangible 45 2,367 Impairment loss 9,693 - Restructuring charge 1,460 - ---------------- --------------- 35,277 22,299 ---------------- --------------- Operating loss (27,800) (1,662) Other income (expenses), net (220) 443 ---------------- --------------- Loss before income taxes (28,020) (1,219) Income tax benefit (10,044) (425) ---------------- --------------- Net loss (17,976) (794) Accretion of preferred stock 57 - ---------------- --------------- Net loss applicable to common stock $ (18,033) $ (794) ================ =============== Net loss per common share: Basic and Diluted $ (1.91) $ (0.08) Weighted average common and common equivalent shares outstanding: Basic and Diluted 9,436 10,011
See accompanying notes to condensed consolidated financial statements. 4 EVANS & SUTHERLAND COMPUTER CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) (In thousands, except per share amounts)
Nine Months Ended ------------------------------------ October 1, September 25, 1999 1998 ---------------- --------------- Sales $ 142,473 133,321 Cost of sales 81,785 76,280 Write-down of inventory 13,230 - ---------------- --------------- Gross profit 47,458 57,041 ---------------- --------------- Operating expenses: Selling, general and administrative 32,643 29,079 Research and development 35,629 22,289 Amortization of goodwill and other intangible 1,471 2,383 Impairment loss 9,693 - Restructuring charge 1,460 - Write-off of acquired in-process technology - 20,780 ---------------- --------------- 80,896 74,531 ---------------- --------------- Operating loss (33,438) (17,490) Other income, net 817 1,561 ---------------- --------------- Loss before income taxes (32,621) (15,929) Income tax expense (benefit) (11,470) 1,547 ---------------- --------------- Net loss (21,151) (17,476) Accretion of preferred stock 171 - ---------------- --------------- Net loss applicable to common stock $ (21,322) $ (17,476) ================ =============== Net loss per common share: Basic and Diluted $ (2.23) $ (1.87) Weighted average common and common equivalent shares outstanding: Basic and Diluted 9,547 9,343
See accompanying notes to condensed consolidated financial statements. 5 EVANS & SUTHERLAND COMPUTER CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited, in thousands)
Three Months Ended ------------------------------------- October 1, September 25, 1999 1998 ---------------- ---------------- Net loss $ (17,976) $ (794) Other comprehensive income (loss): Foreign currency translation adjustments (47) 101 Unrealized gains (losses) on securities (245) 57 ---------------- ---------------- Other comprehensive income (loss) before income taxes (292) 158 Income tax expense (benefit) related to items of other comprehensive income (loss) (91) 51 ---------------- ---------------- Other comprehensive income (loss), net of income taxes (201) 107 ---------------- ---------------- Comprehensive loss $ (18,177) $ (687) ================ ================
Nine Months Ended ------------------------------------ October 1, September 25, 1999 1998 ---------------- ---------------- Net loss $ (21,151) $ (17,476) Other comprehensive income (loss): Foreign currency translation adjustments (243) 237 Unrealized gains (losses) on securities (236) 4 ---------------- ---------------- Other comprehensive income (loss) before taxes (479) 241 Income tax expense (benefit) related to items of other comprehensive income (loss) (148) 78 ---------------- ---------------- Other comprehensive income (loss), net of income taxes (331) 163 ---------------- ---------------- Comprehensive loss $ (21,482) $ (17,313) ================ ================
See accompanying notes to condensed consolidated financial statements. 6 EVANS & SUTHERLAND COMPUTER CORPORATION AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS Unaudited, in thousands)
Nine Months Ended ------------------------------------ October 1, September 25, 1999 1998 -------------- ---------------- Cash flows from operating activities: Net loss $ (21,151) $ (17,476) Adjustments to reconcile net loss to net cash used in operating activities: Write-down of inventories 13,230 - Impairment loss 9,693 - Write-off of acquired in-process technology - 20,780 Depreciation and amortization 11,913 10,230 Provision for losses on accounts receivable 398 111 Provision for obsolete and excess inventories 1,048 (306) Provision for warranty expense 650 79 Deferred income taxes (3,134) (3,198) Other (24) (448) Changes in assets and liabilities: Accounts receivable 4,292 (322) Inventories (5,275) (9,469) Costs and estimated earnings in excess of billings on uncompleted contracts, net (5,310) 1,598 Other current assets (519) (598) Accounts payable (6,561) (4,872) Accrued expenses 3,339 1,629 Customer deposits 1,623 (2,324) Income taxes (4,511) (3,476) -------------- ---------------- Net cash used in operating activities (299) (8,062) -------------- ---------------- Cash flows from investing activities: Purchases of short-term investments (14,700) (15,298) Proceeds from sale of short-term investments 30,084 39,604 Purchases of investment securities (636) (310) Proceeds from sale of investment securities - 3,341 Purchases of property, plant and equipment (11,131) (8,757) Proceeds from sale of certain manufacturing assets 6,010 - Acquisitions, net of cash acquired - (7,603) Increase in other assets (33) - -------------- ---------------- Net cash provided by investing activities 9,594 10,977 -------------- ---------------- Cash flows from financing activities: Borrowings under line of credit agreements 715 2,410 Payments under line of credit agreements (691) (24) Proceeds from issuance of common stock 1,149 1,809 Payments for repurchase of common stock (4,381) (10,231) Proceeds from issuance of redeemable convertible preferred stock - 23,149 -------------- ---------------- Net cash (used in) provided by financing activities (3,208) 17,113 -------------- ---------------- Effect of foreign exchange rate on cash and cash equivalents (402) (12) -------------- ---------------- Net change in cash and cash equivalents 5,685 20,016 Cash and cash equivalents at beginning of year 1,834 8,176 -------------- ---------------- Cash and cash equivalents at end of period $ 7,519 $ 28,192 ============== ================ Supplemental Disclosures of Cash Flow Information Cash paid during the period for: Interest $ 1,265 $ 1,177 Income taxes, net of refunds (3,749) 7,016 Accretion of preferred stock 171 -
See accompanying notes to condensed consolidated financial statements. 7 EVANS & SUTHERLAND COMPUTER CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not include all information and footnotes necessary for a complete presentation of the results of operations, the financial position, and cash flows, in conformity with generally accepted accounting principles. This report on Form 10-Q for the three months and nine months ended October 1, 1999 should be read in conjunction with the Company's annual report on Form 10-K for the year ended December 31, 1998. The accompanying unaudited condensed consolidated balance sheets and statements of operations, comprehensive income and cash flows reflect all normal recurring adjustments which are, in the opinion of management, necessary for a fair presentation of the Company's financial position, results of operations and cash flows. The results of operations for the interim three and nine month periods ended October 1, 1999 are not necessarily indicative of the results to be expected for the full year. Certain amounts in the 1998 condensed consolidated financial statements and notes have been reclassified to conform to the 1999 presentation. Recent Accounting Pronouncements In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 (SFAS 133), "Accounting for Derivative Instruments and Hedging Activities." SFAS 133, as amended by SFAS 137, is effective for fiscal years beginning after June 15, 2000. SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. It requires that all derivative instruments be recognized as either assets or liabilities in the consolidated balance sheet and measured at fair value. We are currently assessing the effects of adopting SFAS 133, and the impact of adopting this statement is not anticipated to be material to the financial statements. Impairment Loss The Company periodically reviews the value assigned to the separate components of goodwill, intangibles and other long-lived assets through comparison to anticipated, undiscounted cash flows from the underlying assets to assess recoverability. The assets are considered to be impaired when the expected future cash flows from these assets do not exceed the carrying balances of the related assets. The impairment loss of $9.7 million, as determined in accordance with Statement of Financial Accounting Standards No. 121 (SFAS 121) "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of," relates to the write-down to fair value of goodwill, intangibles and other long-lived assets acquired in the acquisition of AccelGraphics, Inc. ("AGI") and Silicon Reality, Inc. ("SRI"). The impairment loss consisted of the write-off of $4.9 million of goodwill, $4.4 million of intangible assets and $0.4 million of property, plant and equipment. The impairment loss was the result of several circumstances: (i) delay in production introductions for the AccelGALAXY(TM), E&S Lightning 1200(TM) and the multiple-controller graphics subsystems product line; (ii) the developer of the chip used on the AccelGMX(TM) acquired a board company and entered the graphics accelerator market in direct competition with the AccelGMX; and (iii) introduction of lower-end products by competitors which can perform many of the functions of the higher-end 3D graphics cards. 8 EVANS & SUTHERLAND COMPUTER CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Restructuring Charge In the third quarter of 1999, the Company initiated a restructuring plan focused on reducing the operating cost structure of its Workstation Products Group. As part of the plan, the Company recorded a charge of $1.5 million relating to 28 employee terminations, including 17 employees in San Jose and 11 employees in Salt Lake City. As of October 1, 1999, the Company had paid $38,000 in termination benefits. The remaining benefits will be paid out over the next two years. The charge was recorded in accordance with Emerging Issues Task Force Issue 94-03 "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit (Including Certain Costs Incurred in a Restructuring)." 2. PURCHASE COMMITMENTS AND SALE OF MANUFACTURING ASSETS On June 3, 1999, the Company sold certain manufacturing capital assets and inventory for $6.0 million as part of the Company's efforts to outsource the production of certain electronic products and assemblies. In addition, the Company entered into an Electronic Manufacturing Services Agreement with a third-party manufacturer. The agreement commits the Company to purchase a minimum of $22.0 million of electronic products and assemblies from the third-party manufacturer each year for three years from the date of the agreement. If the Company fails to meet these minimum purchase levels, subject to adjustment, the Company may be required to pay 25 percent of the difference between the $22.0 million and the amount purchased. 3. INVENTORIES Inventories consist of the following (in thousands): October 1, December 31, 1999 1998 ----------------- ---------------- (Unaudited) Raw materials $ 25,025 $ 26,084 Work-in-process 11,474 23,511 Finished goods 3,127 3,724 ----------------- ---------------- $ 39,626 $ 53,319 ================= ================ The Company periodically reviews inventories for obsolescence and provides a reserve that it considers sufficient to cover any impaired inventories. During the third quarter of 1999, the Company finished its design and testing of software relating to its Harmony(TM) image generator product which had been delayed. As part of its testing, the Company determined that certain of the inventories previously purchased for the Harmony image generator had become technologically obsolete and did not properly function with the updated software. In connection with this assessment, the Company recorded a charge of $12.1 million to write-down obsolete, excess and overvalued inventories. In addition, during the third quarter of 1999, the Company wrote-down $1.1 million of Workstation Products Group inventories related to end-of-life or abandoned product lines. 9 EVANS & SUTHERLAND COMPUTER CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 4. SEGMENT AND RELATED INFORMATION During 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information" which changed the way the Company reports information about its operating segments. The Company's business units have been aggregated into three reportable segments: simulation, workstation products and applications. These reportable segments offer different products and services and are managed and evaluated separately because each segment uses different technologies and requires different marketing strategies. The simulation segment provides a broad line of visual systems for flight and ground simulators for training purposes to government, aerospace and commercial airline customers. The workstation products segment provides graphics accelerator products, including graphics chips and subsystems, to the personal PC workstation marketplace. The applications segment provides digital video applications for entertainment, educational, multimedia and real estate development industries. The Company evaluates segment performance based on income (loss) from operations before income taxes, interest income and expense, other income and expense and foreign exchange gains and losses. The Company's assets are not identifiable by segment (in thousands, unaudited).
Simulation Workstation Applications Total Products ---------------- ------------------ ---------------- --------------- Three months ended October 1, 1999: Sales $ 43,001 $ 4,231 $ 1,472 $ 48,704 Operating loss (9,293) (16,911) (1,596) (27,800) Three months ended September 25, 1998: Sales 39,896 6,791 575 47,262 Operating income (loss) 5,219 (4,375) (2,506) (1,662) Nine months ended October 1, 1999: Sales 118,756 19,101 4,616 142,473 Operating loss (5,661) (23,150) (4,627) (33,438) Nine months ended September 25, 1998: Sales 119,746 10,018 3,557 133,321 Operating income (loss) 14,905 (26,103) (6,292) (17,490)
10 EVANS & SUTHERLAND COMPUTER CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 5. GEOGRAPHIC INFORMATION The following table presents sales by geographic location based on the location of the use of the product or services. Sales to individual countries greater than 10% of consolidated sales are shown separately (in thousands, unaudited):
Three Months Ended Nine Months Ended ----------------------------------- ---------------------------------- October 1, September 25, October 1, September 25, 1999 1998 1999 1998 ------------- ----------------- ------------- ----------------- United States $ 27,260 $ 23,275 $ 74,212 $ 70,656 United Kingdom 14,754 14,094 40,552 33,146 Europe (excluding United Kingdom) 4,089 5,217 17,958 13,283 Pacific Rim 2,547 4,673 9,273 14,694 Other 54 3 478 1,542 ------------- ----------------- ------------- ----------------- $ 48,704 $ 47,262 $ 142,473 $ 133,321 ============= ================= ============= =================
The following table presents property, plant and equipment by geographic location based on the location of the assets (in thousands, unaudited): October 1, December 31, 1999 1998 --------------- ---------------- United States $ 52,038 $ 52,876 Europe 565 817 --------------- ---------------- Total property, plant and equipment, net $ 52,603 $ 53,693 =============== ================ 6. EARNINGS PER COMMON SHARE Earnings per common share is computed based on the weighted-average number of common shares and, if appropriate, dilutive common stock equivalents outstanding during the period. Stock options, warrants, Class B-1 Preferred Stock and Convertible Subordinated Debentures are considered to be common stock equivalents. Basic earnings per common share is the amount of earnings for the period available to each share of common stock outstanding during the reporting period. Diluted earnings per share is the amount of earnings for the period available to each share of common stock outstanding during the reporting period and to each share that would have been outstanding assuming the issuance of common shares for all dilutive potential common shares outstanding during the period. In calculating earnings per common share, earnings were the same for both the basic and diluted calculation. For the three months ended October 1, 1999, outstanding options to purchase 29,000 shares of common stock, 428,000 shares of common stock issuable upon conversion of the 6% Convertible Subordinated Debentures, 901,000 shares of common stock issuable upon conversion of the Company's Class B-1 Preferred Stock and 378,000 shares of common stock issuable upon the exercise and conversion of warrants to purchase additional Class B-1 Preferred Stock were excluded from the computation of the diluted earnings per share because to include such shares would have had an anti-dilutive effect on earnings per common share. 11 EVANS & SUTHERLAND COMPUTER CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) For the nine months ended October 1, 1999, outstanding options to purchase 196,000 shares of common stock, 428,000 shares of common stock issuable upon conversion of the 6% Convertible Subordinated Debentures, 901,000 shares of common stock issuable upon conversion of the Company's Class B-1 Preferred Stock and 378,000 shares of common stock issuable upon the exercise and conversion of warrants to purchase additional Class B-1 Preferred Stock were excluded from the computation of the diluted earnings per share because to include such shares would have had an anti-dilutive effect on earnings per common share. For the three months ended September 25, 1998, outstanding options to purchase 235,000 shares of common stock, 428,000 shares of common stock issuable upon conversion of the 6% Convertible Subordinated Debentures, 901,000 shares of common stock issuable upon conversion of the Company's Class B-1 Preferred Stock and 378,000 shares of common stock issuable upon the exercise and conversion of warrants to purchase additional Class B-1 Preferred Stock were excluded from the computation of the diluted earnings per share because to include such shares would have had an anti-dilutive effect on earnings per common share. For the nine months ended September 25, 1998, outstanding options to purchase 354,000 shares of common stock, 428,000 shares of common stock issuable upon conversion of the 6% Convertible Subordinated Debentures, 901,000 shares of common stock issuable upon conversion of the Company's Class B-1 Preferred Stock and 378,000 shares of common stock issuable upon the exercise and conversion of warrants to purchase additional Class B-1 Preferred Stock were excluded from the computation of the diluted earnings per share because to include such shares would have had an anti-dilutive effect on earnings per common share. 12 Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the condensed consolidated financial statements and notes included in Item 1 of Part I of this form. Except for the historical information contained herein, this report on Form 10-Q contains forward-looking statements that involve risks and uncertainties. The Company's actual results may differ materially from those indicated by such forward-looking statements. OVERVIEW Evans & Sutherland Computer Corporation ("Evans & Sutherland," "E&S(R)," or the "Company"), is an established high-technology company with outstanding computer graphics technology and a worldwide presence in high-performance 3D visual simulation. In addition, E&S is now applying this core technology into higher-growth personal computer ("PC") products for both simulation and workstations. The Company's core computer graphics technology is shared among the Company's simulation business, workstation products business, and applications business. Simulation Group The Simulation Group provides a broad line of visual systems for flight and ground training and related services to the United States and international armed forces, NASA and aerospace companies. E&S remains an industry leader for visual systems sales to various United States government agencies and more than 20 foreign governments for the primary purpose of training military vehicle operators. The Simulation Group is also a leading independent supplier of visual systems for flight simulators for commercial airlines. This group provides over 50 percent of the visual systems installed worldwide in full-flight training simulators for civil airlines, training centers, simulator manufacturers and aircraft manufacturers. The group's visual systems create dynamic, high quality, out-the-window scenes that simulate the view vehicle operators see when performing tasks under actual operating conditions. The visual systems are an integral part of full mission simulators, which incorporate a number of other components, including cockpits or vehicle cabs and large hydraulic motion systems. Workstation Products Group The Workstation Products Group develops and sells graphics chips and graphics subsystems for the personal workstation marketplace. The group anticipates growth in the Windows NT workstation marketplace with the market's eventual transition from proprietary UNIX architecture systems to Microsoft and Intel-based open architecture systems. The Workstation Products Group provides a family of REALimage(TM) chip-based, 3D graphics subsystems and their associated software to personal workstation OEMs. These workstation products support a wide range of professional OpenGL(R) graphics applications, including mechanical computer automated design, engineering analysis, digital content creation, visualization, simulation, animation, entertainment and architectural, engineering and construction. To optimize its position in these markets, E&S maintains working relationships with more than 40 independent software vendors that provide products into these markets. Consequently, E&S is certified and/or tested on most of the popular PC workstation applications. 13 Applications Group The Applications Group is composed of new and synergistic businesses that use E&S core technology in growth markets. The group's products are applications that leverage the technology of the Company's Simulation or Workstation Products Groups and apply them to other growth markets. The Applications Group's digital theater products include hardware, software and content for both the entertainment and educational marketplaces. Digital theater focuses on immersive all-dome theater applications combining colorful digitally-produced imagery, full-spectrum audio and audience-participation hardware. The group provides turnkey solutions incorporating visual systems and sub-systems from the Simulation and Workstation Products Groups. E&S integrates these systems with projection equipment, audio components and audience-participation systems from other suppliers. Products include Digistar(R), a calligraphic projection system designed to compete with analog star projectors in planetariums, and StarRider(R), a full-color, interactive, domed theater experience. The group is a leading supplier of digital display systems in the planetarium marketplace. The Applications Group's digital video products provide Windows NT, open system, standard platform based virtual studio systems for digital content production in the television broadcast, film, video, corporate training and multimedia industries. The E&S solution offers significant improvement in cost, ease of use and flexibility compared with the traditional, proprietary UNIX-based systems common in this developing market. The group's products are all-inclusive system solutions that incorporate visual system components and subsystems from the Simulation and Workstation Products Groups. E&S MindSet(TM), Virtual Studio System(TM) and the FuseBox(TM) control software with real-time, frame-accurate camera tracking and enable live talent to perform in real time on a virtual set generated using E&S 3D computer technology. The video output of the set meets today's digital broadcast video standards. Systems are installed worldwide in production, postproduction, broadcast and educational applications. The Applications Group's products are sold directly to end-users by E&S as a prime contractor or selectively through dealers. On July 20, 1999, the Applications Group introduced its RAPIDsite(TM) product. RAPIDsite is a photo-realistic visualization tool designed for use by real-estate developers, consulting engineers, architects and municipal planners involved with urban, suburban and environmentally sensitive development projects. RAPIDsite features fast 3D-model construction, accelerated graphics rendering performance and interactive exploration of a proposed development on a Windows NT computer with an Open GL graphics accelerator. 14 RESULTS OF OPERATIONS The following table presents the percentage of total sales represented by certain items for the Company for the periods presented (unaudited):
Three Months Ended Nine Months Ended ----------------------------- ------------------------------- October 1, September 25, October 1, September 25, 1999 1998 1999 1998 ----------- -------------- ------------ --------------- Sales 100.0% 100.0% 100.0% 100.0% Cost of sales 57.5 56.3 57.4 57.2 Write-down of inventories 27.2 - 9.3 - ----------- -------------- ------------ --------------- Gross profit 15.3 43.7 33.3 42.8 Operating expenses: Selling, general and administrative 21.5 23.6 22.9 21.8 Research and development 27.9 18.6 25.0 16.7 Amortization of goodwill and other 0.1 5.0 1.1 1.8 intangible assets Impairment loss 19.9 - 6.8 - Restructuring charge 3.0 - 1.0 - Write-off of acquired in-process technology - - - 15.6 ----------- -------------- ------------ --------------- Operating expenses 72.4 47.2 56.8 55.9 ----------- -------------- ------------ --------------- Operating loss (57.1) (3.5) (23.5) (13.1) Other income (expenses), net (0.4) 0.9 0.6 1.2 ----------- -------------- ------------ --------------- Loss before income taxes (57.5) (2.6) (22.9) (11.9) Income tax expense (benefit) (20.6) (0.9) (8.0) 1.2 ----------- -------------- ------------ --------------- Net loss (36.9) (1.7) (14.9) (13.1) Accretion of preferred stock 0.1 - 0.1 - ----------- -------------- ------------ --------------- Net loss applicable to common stock (37.0)% (1.7)% (15.0)% (13.1)% =========== ============== ============ ===============
Third Quarter 1999 Compared to Third Quarter 1998 Sales Sales increased $1.4 million, or 3% ($48.7 million in the third quarter of 1999 compared to $47.3 million in the third quarter of 1998). Sales for simulation products increased $3.1 million, or 8% ($43.0 million in the third quarter of 1999 compared to $39.9 million in the third quarter of 1998). The increase in sales of simulation products is due to stronger sales and shipments to government customers which offset lower sales to commercial customers. Sales of workstation products decreased $2.6 million, or 38% ($4.2 million in the third quarter of 1999 compared to $6.8 million in the third quarter of 1998). The decrease in sales of workstation products is due to lower royalty income as well as lower volumes and prices on sales of boards and chips. The lower royalty income was due to the trailing off of royalty payments from 1998 designs not being replaced by newer designs in 1999. The lower volumes and prices was due to a decrease in the number of units sold and decreased selling prices of existing products and the delay in introduction of new products. Sales of application products increased $0.9 million, or 156% ($1.5 million in the third quarter of 1999 compared to $0.6 million in the third quarter of 1998). The increase in sales of application products is due to the greater number of shipments of Digistars, increased sales related to the StarRider product and sales of content-related projects in the third quarter of 1999 compared to 1998. 15 Write-down of Inventories The Company periodically reviews inventories for obsolescence and provides a reserve that it considers sufficient to cover any impaired inventories. During the third quarter of 1999, the Company finished its design and testing of software relating to the Harmony image generator product which had been delayed. As part of its testing, the Company determined that certain of the inventories previously purchased for the Harmony image generator had become technologically obsolete and did not properly function with the updated software. In connection with this assessment, the Company recorded a charge of $12.1 million to write-down obsolete, excess and overvalued inventories. In addition, during the third quarter of 1999, the Company wrote-down $1.1 million of Workstation Products Group inventories related to end-of-life or abandoned product lines. Gross Profit Gross profit decreased $13.2 million, or 64% ($7.5 million in the third quarter of 1999 compared to $20.6 million in the third quarter of 1998). As a percent of sales, gross profit decreased to 15.3% in the third quarter of 1999 from 43.7% in the third quarter of 1998. The decrease in gross margin resulted primarily from the write-down of $13.2 million of obsolete, excess and overvalued inventories. The decrease in gross margin is also due to slightly lower margins in the Simulation Group during the third quarter of 1999 primarily due to lower margins on several contracts to government customers which include the Harmony image generator. In addition, gross margin in the Workstation Products Group decreased in the third quarter of 1999 as it has changed its business model in 1999 from one based on royalty income to one based on sales of graphics subsystems which has product costs consistent with a manufacturing operation. The decrease in gross margin is also due to lower margins in the Workstation Products Group as a result of a decrease in the number of units sold and decreased selling prices of existing products and the delay in introduction of new products. Selling, General and Administrative Selling, general and administrative expenses decreased $0.6 million, or 6% ($10.5 million in the third quarter of 1999 compared to $11.1 million in the third quarter of 1998) and decreased as a percent of sales (21.5% in the third quarter of 1999 compared to 23.6% in the third quarter of 1998). The decrease in these expenses is due to lower labor-related expenses as well as a reduction in corporate advertising costs. Research and Development Research and development expenses increased $4.8 million, or 54% ($13.6 million in the third quarter of 1999 compared to $8.8 million in the third quarter of 1998) and increased as a percent of sales (27.9% in the third quarter of 1999 compared to 18.6% in the third quarter of 1998). The increase in these expenses is due to higher costs in the Simulation Group relating to its Harmony image generator and in the Workstation Products Group to support increased research and development activity on new products. Amortization of Goodwill and Other Intangible Assets Amortization of goodwill and other intangible assets decreased $2.3 million ($45,000 in the third quarter of 1999 compared to $2.4 million in the third quarter of 1998). The decrease in these expenses is due to the write-off of $9.3 million of goodwill and other intangible assets during the third quarter of 1999. 16 Impairment Loss The Company periodically reviews the value assigned to the separate components of goodwill, intangibles and other long-lived assets through comparison to anticipated, undiscounted cash flows from the underlying assets to assess recoverability. The assets are considered to be impaired when the expected future cash flows from these assets do not exceed the carrying balances of the related assets. The impairment loss of $9.7 million, as determined in accordance with Statement of Financial Accounting Standards No. 121 (SFAS 121) "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of", relates to the write-down to fair value of goodwill, intangibles and other long-lived assets acquired in the acquisition of AGI and SRI. The impairment loss consisted of the write-off of $4.9 million of goodwill, $4.4 million of intangible assets and $0.4 million of property, plant and equipment. The impairment loss was the result of several circumstances: (i) delay in production introductions for the AccelGALAXY, E&S Lightning 1200 and the multiple-controller graphics subsystems product line; (ii) the developer of the chip used on the AccelGMX acquired a board company and entered the graphics accelerator market in direct competition with the AccelGMX; and (iii) introduction of lower-end products by competitors which can perform many of the functions of the higher-end 3D graphics cards. Restructuring Charge In the third quarter of 1999, the Company initiated a restructuring plan focused on reducing the operating cost structure of its Workstation Products Group. As part of the plan, the Company recorded a charge of $1.5 million relating to 28 employee terminations, including 17 employees in San Jose and 11 employees in Salt Lake City. Other Income (Expenses), Net Other income (expenses), net decreased $0.7 million ($0.2 million of other expense, net in the third quarter of 1999 compared to $0.4 million of other income, net in the third quarter of 1998). Interest income was $0.2 million and $0.8 million in the third quarter of 1999 and the third quarter of 1998, respectively. The decrease in interest income is due to a lower average balance of cash and cash equivalents and short-term investments balances during the third quarter of 1999 as compared to 1998. Income Taxes The effective tax rate was 35.2% and 34.9% of pre-tax earnings for the third quarter of 1999 and 1998, respectively. These rates are calculated based on an estimated annual effective tax rate applied to earnings before income taxes. Nine Months Ended October 1, 1999 Compared to Nine Months Ended September 25, 1998 Sales In the first nine months of 1999, sales increased $9.2 million, or 7% ($142.5 million in the first nine months of 1999 million compared to $133.3 million in the first nine months of 1998). Sales for simulation products decreased $1.0 million, or 1% ($118.8 million in the first nine months of 1999 compared to $119.8 million in the first nine months of 1998). The decrease in sales of simulation products is due to unusually strong sales to commercial customers in the first nine months of 1998, the pace of which was not repeated in the first nine months of 1999. Sales of workstation products increased $9.1 million, or 91% ($19.1 million in the first nine months of 1999 compared to $10.0 million in the first nine months of 1998). The increase in sales of workstation products is due to the acquisition of AGI at the end of the second quarter of 1998 which added $14.9 million of the increase in sales during the nine months ended October 1, 1999. This increase was offset by a decrease in royalty income, a decrease in the number of units sold and decreased selling prices of existing products and the delay in introduction of new products. Sales of application products increased $1.0 million, or 28% ($4.6 million in the first nine months of 1999 compared to $3.6 million in the first nine months of 1998). The increase in sales of application products is due to an increased number of shipments of Digistars, increased sales related to the StarRider product and sales of content-related projects in the first nine months of 1999 compared to the first nine months of 1998. These increases offset fewer shipments and lower selling prices of MindSet virtual studio products. 17 Write-down of Inventories The Company periodically reviews inventories for obsolescence and provides a reserve that it considers sufficient to cover any impaired inventories. During the third quarter of 1999, the Company finished its design and testing of software relating to the Harmony image generator product which had been delayed. As part of its testing, the Company determined that certain of the inventories previously purchased for the Harmony image generator had become technologically obsolete and did not properly function with the updated software. In connection with this assessment, the Company recorded a charge of $12.1 million to write-down obsolete, excess and overvalued inventories. In addition, during the third quarter of 1999, the Company wrote-down $1.1 million of Workstation Products Group inventories related to end-of-life or abandoned product lines. Gross Profit Gross profit decreased $9.6 million, or 17% ($47.5 million in the first nine months of 1999 compared to $57.0 million in the first nine months of 1998). As a percent of sales, gross profit decreased to 33.3% in the first nine months of 1999 from 42.8% in the first nine months of 1998. The decrease in gross margin resulted primarily from the write-down of $13.2 million of obsolete, excess and overvalued inventories. The decrease in gross margin is also due to lower margins in the Workstation Products Group as a result of a decrease in royalty income, a decrease in the number of units sold and decreased selling prices of existing products and the delay in introduction of new products. Selling, General and Administrative Selling, general and administrative expenses increased $3.5 million, or 12% ($32.6 million in the first nine months of 1999 compared to $29.1 million in the first nine months of 1998) and increased as a percent of sales (22.9% in the first nine months of 1999 compared to 21.8% in the first nine months of 1998). The increase in these expenses is due to the inclusion of nine months of AGI expenses in 1999 compared to three months in 1998. In addition, higher labor costs in the first nine months of 1999 compared to the first nine months of 1998 contributed to the increase. Research and Development Research and development expenses increased $13.3 million, or 60% ($35.6 million in the first nine months of 1999 compared to $22.3 million in the first nine months of 1998) and increased as a percent of sales (25.0% in the first nine months of 1999 compared to 16.7% in the first nine months of 1998). The increase in these expenses is due to increased research and development expenses related to higher costs in the Simulation Group relating to its Harmony image generator. In addition, the first nine months of 1999 included nine months of AGI expenses while the first nine months of 1998 only included three months of AGI expenses. Amortization of Goodwill and Other Intangible Assets Amortization of goodwill and other intangible assets decreased $0.9 million ($1.5 million in the first nine months of 1999 compared to $2.4 in the first nine months of 1998). The decrease in these expenses is due to the write-off of $9.3 million of goodwill and other intangible assets during the third quarter of 1999. 18 Impairment Loss The Company periodically reviews the value assigned to the separate components of goodwill, intangibles and other long-lived assets through comparison to anticipated, undiscounted cash flows from the underlying assets to assess recoverability. The assets are considered to be impaired when the expected future cash flows from these assets do not exceed the carrying balances of the related assets. The impairment loss of $9.7 million, as determined in accordance with SFAS 121, relates to the write-down to fair value of goodwill, intangibles and other long-lived assets acquired in the acquisition of AGI and SRI. The impairment loss consisted of the write-off of $4.9 million of goodwill, $4.4 million of intangible assets and $0.4 million of property, plant and equipment. The impairment loss was the result of several circumstances: (i) delay in production introductions for the AccelGALAXY, E&S Lightning 1200 and the multiple-controller graphics subsystems product line; (ii) the developer of the chip used on the AccelGMX acquired a board company and entered the graphics accelerator market in direct competition with the AccelGMX; and (iii) introduction of lower-end products by competitors which can perform many of the functions of the higher-end 3D graphics cards. Restructuring Charge In the third quarter of 1999, the Company initiated a restructuring plan focused on reducing the operating cost structure of its Workstation Products Group. As part of the plan, the Company recorded a charge of $1.5 million relating to 28 employee terminations, including 17 employees in San Jose and 11 employees in Salt Lake City. Write-off of Acquired In-Process Technology In the second quarter of 1998, the Company recognized $20.8 million of expense to write-off acquired in-process technology related to the acquisitions of AGI and SRI. No such expense was recognized in the first nine months of 1999. Other Income, Net Other income, net decreased $0.7 million ($0.8 million in the first nine months of 1999 compared to $1.6 million in the first nine months of 1998). Interest income was $1.7 million and $2.0 million in the first nine months of 1999 and the first nine months of 1998, respectively. The decrease in interest income is due a decrease in the average cash and cash equivalents and short-term investments balances offset by interest received in 1999 for delayed income tax refunds in the first nine months of 1999 as compared to the first nine months of 1998. Income Taxes Excluding the write-off of acquired in-process technology in 1998, the effective tax rate was 35.2% and 31.9% of pre-tax earnings for the first nine months of 1999 and 1998, respectively. These rates are calculated based on an estimated annual effective tax rate applied to earnings before income taxes. LIQUIDITY & CAPITAL RESOURCES At October 1, 1999, the Company had working capital of $118.5 million, including cash, cash equivalents and short-term investments of $18.0 million, compared to working capital of $134.4 million at December 31, 1998, including cash, cash equivalents and short-term investments of $27.7 million. During the nine months ended October 1, 1999, the Company used $0.3 million of cash in its operating activities, generated $9.6 million of cash from its investing activities and used $3.2 million of cash in its financing activities. 19 The primary uses of cash from the Company's operating activities included a net increase in costs and estimated earnings in excess of billings on uncompleted contracts of $5.3 million, a decrease in accounts payable of $6.6 million, an increase in inventories of $5.3 million and a decrease in income taxes payable of $4.5 million. These primary uses of cash were partially offset by $4.3 million net cash flow from the collection of accounts receivable, and $1.6 million net cash flow from customer deposits and a $3.3 million increase in accrued expenses. The net increase in costs and estimated earnings in excess of billings on uncompleted contracts was primarily due to the delays in achieving billing milestones on projects related to the Company's Harmony image generator. The decline in the Company's accounts payable balance was due to a change in the timing of materials received which had resulted in a higher balance at December 31, 1998. The increase in the Company's inventories balance was due to an increase in raw materials and work-in-process inventories related to the Company's Harmony image generator. The decline in the Company's accounts receivable balance was due to an increased effort in collection of receivables and a reduced volume of new billings due to delays in achieving billing milestones on projects related to the Company's Harmony image generator. The Company's investing activities during the nine months ended October 1, 1999 included capital expenditures of $11.1 million for building improvements and equipment. The Company has a capital commitment, as of October 1, 1999, of $0.8 million to construct a building in Salt Lake City, Utah to house its machine shop. Proceeds from the sale of short-term investments, net of purchases, provided $15.4 million of cash during the nine months ended October 1, 1999. On June 3, 1999, the Company sold certain manufacturing capital assets and inventory for $6.0 million as part of the Company's efforts to outsource the production of certain electronic products and assemblies. In addition, the Company entered into an Electronic Manufacturing Services Agreement with a third-party manufacturer. The agreement commits the Company to purchase a minimum of $22.0 million of electronic products and assemblies from the third-party manufacturer each year for three years from the date of the agreement. If the Company fails to meet these minimum purchase levels, subject to adjustment, the Company may be required to pay 25 percent of the difference between the $22.0 million and the amount purchased. The Company's financing activities during the nine months ended October 1, 1999 included the use of $4.4 million for the repurchase of common stock. Proceeds from the issuance of common stock relating to the exercise of stock options provided $1.1 million of cash during the nine months ended October 1, 1999. On February 18, 1998, the Company's Board of Directors authorized the repurchase of up to 600,000 shares of the Company's common stock, including the 327,000 shares still available from the repurchase authorization approved by the Board of Directors on November 11, 1996. On September 8, 1998, the Company's Board of Directors authorized the repurchase of an additional 1,000,000 shares of the Company's common stock. Subsequent to February 18, 1998, the Company has repurchased 1,045,500 shares of its common stock; thus, 554,500 shares currently remain available for repurchase as of November 5, 1999. Stock may be acquired in the open market or through negotiated transactions. Under the program, repurchases may be made from time to time, depending on market conditions, share price and other factors. These repurchases are to be used primarily to meet current and near-term requirements for the Company's stock-based benefit plans. In November 1998, the Company entered into a revolving line of credit agreement with U.S. Bank National Association. The revolving line of credit provides for borrowings by the Company of up to $20.0 million. Borrowings bear interest at the prevailing prime rate minus 1.0% or the LIBOR rate plus 1.0%. The revolving line of credit expires on January 10, 2000. The revolving line of credit, among other things, (i) requires the Company to maintain certain financial ratios; (ii) restricts the Company's ability to incur debt or liens; sell, assign, pledge or lease assets; merge with another company; and (iii) restricts the payment of dividends and repurchase of any of the Company's outstanding shares without prior consent of the lender if there are borrowings outstanding under the agreement. The revolving line of credit is unsecured. There were no borrowings under this agreement outstanding as of November 5, 1999. In addition, the Company has a $12.5 million unsecured line for letters of credit with U.S. Bank National Association for which there was approximately $12.0 million outstanding as of October 1, 1999. 20 As of October 1, 1999, the Company had revolving line of credit agreements with foreign banks totaling approximately $6.5 million, of which approximately $2.4 million was unused and available. The Company has a letter of credit with another bank in the United States for $4.9 million as a guarantee for one of the Company's foreign line of credit agreements. In July 1998, the Company obtained approximately $24.0 million, less transaction costs of approximately $0.5 million, of financing through the sale of 901,408 shares of the Company's Class B-1 Preferred Stock, no par value, and issued warrants to purchase 378,462 additional shares of the Company's Class B-1 Preferred Stock at an exercise price of $33.28125 per share to Intel Corporation ("Intel"). The Class B-1 Preferred Stock has no dividend rights. Intel has certain contractual rights, including registration rights, a right of first refusal, and a right to require the Company to repurchase the 901,408 shares of Class B-1 Preferred Stock, 378,462 shares underlying the warrant, and shares of common stock of the Company issuable upon conversion of the Class B-1 Preferred Stock (the "Intel Shares") in the event of any transaction qualifying as a Corporate Event, as defined below. If Intel fails to exercise its right of first refusal as to a Corporate Event, Intel shall, upon the Company's entering into an agreement to consummate a Corporate Event, have the right to sell to the Company any or all of the Intel Shares. The potential mandatory redemption amount is the greater of (i) the original price per share purchase price paid by Intel or (ii) either the highest price per share of capital stock (or equivalent) paid in connection with a Corporate Event or, if the transaction involves the sale of a significant subsidiary or assets or the licensing of intellectual property, Intel's pro rata share of the consideration received, directly or indirectly, by the Company in such transaction based on its then fully-diluted ownership of the Company's capital stock. A Corporate Event shall mean any of the following, whether accomplished through one or a series of related transactions: (i) certain transactions that result in a greater than 33% change in the total outstanding number of voting securities of the Company immediately after such issuance; (ii) an acquisition of the Company or any of its significant subsidiaries by consolidation, merger, share purchase or exchange or other reorganization or transaction in which the holders of the Company's or such significant subsidiary's outstanding voting securities immediately prior to such transaction own, immediately after such transaction, securities representing less than 50% of the voting power of the Company, any such significant subsidiary or the person issuing such securities or surviving such transaction, as the case may be; (iii) the acquisition of all or substantially all the assets of the Company or any significant subsidiary; (iv) the grant by the Company or any of its significant subsidiaries of an exclusive license for any material portion of the Company's or such significant subsidiary's intellectual property to a person other than Intel or any of its subsidiaries; or (v) any transaction or series of related transactions that result in the failure of the majority of the members of the Company's Board of Directors immediately prior to the closing of such transaction or series of related transactions failing to constitute a majority of the Board of Directors (or its successor) immediately following such transaction or series of related transactions. As of October 1, 1999, the Company had approximately $18.0 million of 6% Convertible Subordinated Debentures due in 2012 (the "6% Debentures"). The 6% Debentures are unsecured and are convertible at each bondholder's option into shares of the Company's common stock at a conversion price of $42.10 or 428,000 shares of the Company's common stock, subject to adjustment. The 6% Debentures are redeemable at the Company's option, in whole or in part, at par. Management believes that existing cash, cash equivalents and short-term investment balances, borrowings available under its line of credit agreements and cash from future operations will be sufficient to meet the Company's anticipated working capital needs, research and development, routine capital expenditures and current debt service obligations for the next twelve months. The Company's cash, cash equivalents and short-term investments are available for working capital needs, research and development, capital expenditures, strategic investments, mergers and acquisitions, stock repurchases and other potential cash needs as they may arise. On a longer-term basis, if future cash from operations and existing line of credit agreements are not sufficient to meet the Company's cash requirements, the Company may be required to renegotiate its existing line of credit agreements or seek additional financing from the issuance of debt or equity securities. There can be no assurances that the Company would be successful in renegotiating its existing line of credit agreements or obtaining additional debt or equity financing. 21 ACQUIRED IN-PROCESS TECHNOLOGY In connection with the acquisitions of AGI and SRI, the Company made allocations of the purchase price to various acquired in-process technology projects. These amounts were expensed as non-recurring charges in the quarter ended June 26, 1998 because the acquired in-process technology had not yet reached technological feasibility and had no future alternative uses. Failure to complete the development of these projects in their entirety, or in a timely manner, has had a material adverse impact on the Company's results of operations. During the third quarter of 1999, the Company recorded on impairment loss of $9.7 million (discussed below). Actual revenues and operating profits attributable to acquired in-process technology have deviated significantly from the original projections used to value such technology in connection with each of the respective acquisitions. On-going operations and financial results for the acquired technology and the Company as a whole are subject to a variety of factors which may not have been known or estimable at the date of such acquisition, and the estimates discussed below should not be considered the Company's current projections for operating results for the acquired businesses or the Company as a whole. A description of the acquired in-process technology and the estimates made by the Company for each of the technologies is discussed below. Mid-range Professional Graphics Subsystem (2100). This technology is a graphics subsystem with built in VGA core and integral DMA engines. This technology provides superior graphics performance over previous technologies, and includes features such as stereo and dual monitor support and various texture memory configurations. The technology is used in the AccelGALAXY(TM) product, which was completed and began shipping to customers in late third quarter of 1998. The cost to complete this project subsequent to the acquisition of AGI was $0.3 million, $0.1 million over the budgeted amount and was funded by working capital. The project was also completed a month later than scheduled. The assigned value for this acquired in-process technology was $6.1 million. CAD-focused Professional Graphics Subsystem (1200). This technology is a graphics subsystem with lower costs compared to the mid-range technology, resulting in a more cost-effective graphics solution for the end-user. It provides the cost sensitive user with adequate graphics performance, with few features and a single texture configuration option. The technology is used in the E&S Lightning 1200 product, which was completed in March 1999 and began shipping to customers in April 1999. The cost to complete this project subsequent to the acquisition of AGI was $0.5 million, $0.2 million over the budgeted amount and was funded by working capital. This project was completed five months later than originally projected. The assigned value for this acquired in-process technology was $6.2 million. Multiple-Controller Graphics Subsystems (2200). This technology is a high-end graphics subsystem involving the parallel use of two or four controllers. This technology is aimed at super users in the graphics area who need significant increases in performance and features to accomplish their tasks and are willing to pay the increased price necessary to support those requirements. This technology is in development. As of October 1, 1999, the cost to complete this project subsequent to the acquisition of AGI was $1.5 million. During the third quarter, the Company determined the technology and graphics subsystem as originally designed would not be a viable product in the marketplace. The new graphics subsystem will be based on the technology behind the 2200 and the AccelGMX products. Management estimates that additional costs to complete this project will be $1.3 million and the project is expected to be completed by the end of the second quarter of 2000, approximately 15 months later than planned. This project will be funded by working capital. The assigned value for this acquired in-process technology was $2.7 million. On-board Geometry Engine Graphics Subsystem (AccelGMX(TM)). This technology is a mid-range graphics subsystem with a geometry engine on board. This technology is aimed at the performance intensive graphics end-user. It has fewer features than the mid-range professional technology, but faster geometry performance compared to the mid-range professional technology on Pentium II processors. This technology was completed in the third quarter of 1998 and the AccelGMX product that uses this technology began shipping to customers at that time. The cost to complete this project subsequent to the acquisition of AGI was $0.1 million and was funded by working capital. The assigned value for this acquired in-process technology was $5.3 million. 22 The AccelGALAXY has performed below revenue estimates due to the delay in product introduction by the Company and a delayed design win at one major OEM. These delays, in addition to increased competition, caused an erosion of approximately 50% of the projected average selling price for the AccelGALAXY and a loss of projected unit sales. Subsequent to the Company's acquisition of AGI, the developer of the chip used on the AccelGMX also acquired a board company and entered the graphics accelerator market in direct competition with the AccelGMX. Due to the advantage of producing the chip, the competitor can produce a comparable product at a lower cost; thus, the AccelGMX has performed below revenue estimates and the Company no longer expects to generate significant revenues from this product. The E&S Lightning 1200 has performed below revenue estimates due to the delay in product introduction by the Company. As a result of the delay in product introduction, most OEMs selected a competing product. The expected sales volume and average selling price of the E&S Lightning 1200 have been significantly reduced. The Company periodically reviews the value assigned to the separate components of goodwill, intangibles and other long-lived assets through comparison to anticipated, undiscounted cash flows from the underlying assets to assess recoverability. The assets are considered to be impaired when the expected future cash flows from these assets do not exceed the carrying balances of the related assets. Based on the events described above and in accordance with Statement of Financial Accounting Standards No. 121 (SFAS 121) "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of", during the third quarter of 1999 the Company recorded an impairment loss of $9.7 million related to the acquisition of AGI and SRI. The impairment loss consisted of the write-off of $4.9 million of goodwill, $4.4 million of intangible assets and $0.4 million of property, plant and equipment. YEAR 2000 ISSUE The Year 2000 issue is the result of potential problems with computer systems or any equipment with computer chips that store the year portion of the date as just two digits (for example, 98 for 1998). Systems using this two-digit approach will not be able to determine whether "00" represents the year 2000 or 1900. The problem, if not corrected, will make those systems fail altogether or, even worse, allow them to generate incorrect calculations causing a disruption of normal operations. The Company has created a company-wide Year 2000 team to identify and resolve Year 2000 issues associated either with the Company's internal systems or the products and services sold by the Company. As part of this effort, the Company is communicating with its main suppliers of technology products and services regarding the Year 2000 status of such products or services. The Company has identified and tested its main internal systems. The Company expects to complete implementation of needed Year 2000-related modifications to its information systems by the end of November 1999. The Company has also assessed its internal non-information technology systems, and expects to complete testing and any needed modifications to these systems by the end of November 1999. The Company's total cost relating to these activities has not been and is not expected to be material to the Company's financial position, results of operations, or cash flows. The Company believes that necessary modifications will be made on a timely basis. However, there can be no assurance that there will not be a delay in, or increased costs associated with, the implementation of such modifications, or that the Company's suppliers will adequately prepare for the Year 2000 issue. It is possible that any such delays, increased costs, or supplier failures could have a material adverse impact on the Company's operations and financial results, by, for example, impacting the Company's ability to deliver products or services to its customers. The Company expects to finalize its assessment of and contingency planning for potential operational or performance problems related to Year 2000 issues with its information systems by the end of November 1999. The Company's Year 2000 effort has included testing products currently or recently on the Company's price list for Year 2000 issues. Generally, for products that were identified as needing updates to address Year 2000 issues, the Company has prepared or is preparing updates, or has removed or is removing the product from its price list. Some of the Company's customers are using product versions that the Company will not support for Year 2000 issues; the Company is encouraging these customers to migrate to current product versions that are Year 2000 ready. 23 For third party products which the Company distributes with its products, the Company has sought information from the product manufacturers regarding the products' Year 2000 readiness status. Customers who use the third-party products are directed to the product manufacturer for detailed Year 2000 status information. On its Year 2000 web site at www.es.com/investor/y2k_corp.html, the Company provides information regarding which of its products are Year 2000 ready and other general information related to the Company's Year 2000 efforts. The Company's total costs relating to these activities has not been and is not expected to be material to the Company's financial position or results of operations. Additionally, there can be no guarantee that one or more of the Company's current products do not contain Year 2000 date issues that may result in material costs to the Company. FORWARD-LOOKING STATEMENTS This quarterly report on Form 10-Q, includes certain "forward-looking statements" within the meaning of that term in Section 27A of the Securities Act of 1933, and Section 21E of the Exchange Act, including, among others, those statements preceded by, followed by or including the words "believes," "expects," "anticipates" or similar expressions. These forward-looking statements are based largely on our current expectations and are subject to a number of risks and uncertainties. Our actual results could differ materially from these forward-looking statements. Important factors to consider in evaluating such forward-looking statements include risk of product demand, market acceptance, economic conditions, competitive products and pricing, difficulties in product development, commercialization and technology and other risks detailed in this filing and in the Company's most recent Form 10-K. Although the Company believes it has the product offerings and resources for continuing success, future revenue and margin trends cannot be reliably predicted. Factors external to the Company can result in volatility of the Company's common stock price. Because of the foregoing factors, recent trends are not necessarily reliable indicators of future stock prices or financial performance and there can be no assurance that the events contemplated by the forward-looking statements contained in this quarterly report will, in fact, occur. TRADEMARKS USED IN THIS FORM 10-Q AccelGALAXY, AccelGMX, Digistar, E&S, E&S Lightning 1200, FuseBox, Harmony, MindSet, REALimage, RAPIDsite, StarRider, and Virtual Studio System are trademarks or registered trademarks of Evans & Sutherland Computer Corporation. All other product, service, or trade names or marks are the properties of their respective owners. 24 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The principal market risks to which the Company is exposed are changes in foreign currency exchange rates and changes in interest rates. The Company's international sales, which accounted for 48% of the Company's total sales in the nine months ended October 1, 1999 are concentrated in the United Kingdom, continental Europe and the Pacific Rim. The Company manages its exposure to changes in foreign currency exchange rates by entering into most of its sales and purchase contracts for products and materials in U.S. dollars. Occasionally, the Company enters into sales and purchase contracts for products and materials denominated in currencies other than U.S. dollars and in those cases the Company enters into foreign exchange forward sales or purchase contracts to offset those exposures. Foreign currency purchase and sale contracts are entered into for periods consistent with related underlying exposures and do not constitute positions independent of those exposures. The Company does not enter into contracts for trading purposes and does not use leveraged contracts. As of October 1, 1999, the Company had no material sales or purchase contracts in currencies other than U.S. dollars and had no material foreign currency sales or purchase contracts. The Company reduces its exposure to changes in interest rates by maintaining a high proportion of its debt in fixed-rate instruments. As of October 1, 1999, 82% of the Company's total debt was in fixed-rate instruments; however, the Company has a revolving line of credit that provides for borrowings by the Company of up to $20.0 million. The borrowings bear interest at a variable rate at the prevailing prime rate minus 1.0% or the LIBOR rate plus 1.0%. If the Company were to borrow all of the $20.0 million of the revolving line of credit and the $6.5 million of foreign lines of credit, 40% of the Company's total debt would be in fixed-rate instruments. PART II - OTHER INFORMATION Item 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits Exhibit No. Description 27.1 Financial Data Schedule (filed as part of electronic filing only) (b) Reports on Form 8-K None. 25 SIGNATURE Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. EVANS & SUTHERLAND COMPUTER CORPORATION Date November 15, 1999 By: /s/ Mark C. McBride Mark C. McBride, Vice President, Acting Chief Financial Officer, Corporate Controller and Corporate Secretary (Principal Financial Officer) 26 EX-27 2 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY INFORMATION FROM THE EVANS & SUTHERLAND COMPUTER CORPORATION OCTOBER 1, 1999 FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 0000276283 EVANS & SUTHERLAND COMPUTER CORPORATION 1,000 9-MOS DEC-31-1999 JAN-01-1999 OCT-01-1999 7,519 10,523 45,767 1,579 39,626 192,714 52,603 0 256,100 74,235 18,015 23,714 0 1,931 138,205 256,100 142,473 142,473 95,015 95,015 80,896 398 0 (32,621) (11,470) (21,151) 0 0 0 (21,322) (2.23) (2.23)
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