10-Q 1 a2027826z10-q.txt 10-Q 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: AUGUST 31, 2000 --------------- / / 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: 0-14779 ------- MEDIA 100 INC. --------------------------------------------------------------- (Exact name of registrant as specified in its charter) DELAWARE 04-2532613 ---------------------------------------------- ----------------------------------------------------- (State or other jurisdiction of organization (I.R.S. Employer Identification Number) or incorporation)
290 DONALD LYNCH BOULEVARD MARLBOROUGH, MASSACHUSETTS --------------------------------------------------------------- (Address of principal executive offices) 01752-4748 --------------------------------------------------------------- (Zip code) (508) 460-1600 --------------------------------------------------------------- (Registrant's telephone number, including area code) 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, as of the latest practicable date. Common Stock, par value $.01 per share 12,144,891 shares -------------------------------------- -------------------------------------------- Class Outstanding at September 30, 2000
MEDIA 100 INC. INDEX
PAGE PART I - FINANCIAL INFORMATION NUMBER ------ ITEM 1 Consolidated Financial Statements: Consolidated Balance Sheets as of August 31, 2000 and November 30, 1999 3 Consolidated Statements of Operations for the three and Nine months ended August 31, 2000 and August 31, 1999 4 Consolidated Statements of Cash Flows for the nine months ended August 31, 2000 and August 31, 1999 5 - 6 Notes to Consolidated Financial Statements 7 - 15 ITEM 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 16 - 23 ITEM 3 Quantitative and Qualitative Disclosures about Market Risk 24 PART II - OTHER INFORMATION ITEM 1 Legal Proceedings 25 ITEM 6 Exhibits and Reports on Form 8-K 25 SIGNATURES 26 EXHIBIT INDEX 27
2 PART I - FINANCIAL INFORMATION MEDIA 100 INC. CONSOLIDATED BALANCE SHEETS (in thousands) (unaudited)
August 31, November 30, 2000 1999 --------------- ---------------- ASSETS Current assets: Cash and cash equivalents $ 7,788 $ 13,858 Marketable securities 12,776 18,169 Accounts receivable, net of allowance for doubtful accounts of $3,912 in 2000 and $4,160 in 1999 11,554 8,376 Inventories, net 5,004 1,689 Prepaid expenses 1,478 1,246 ---------------- ---------------- Total current assets 38,600 43,338 Property and equipment, net 6,710 7,235 Intangible assets, net 9,482 1,560 Other assets, net 1,918 605 ---------------- ---------------- Total assets $ 56,710 $ 52,738 ================ ================ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 4,103 $ 4,683 Accrued expenses 11,057 10,532 Note payable 1,465 - Deferred revenue 5,361 5,193 ---------------- ---------------- Total current liabilities 21,986 20,408 ---------------- ---------------- Contingencies (Note 9) Stockholders' equity: Preferred stock - - Common stock 122 115 Capital in excess of par value 216,959 210,839 Accumulated deficit (182,178) (178,418) Accumulated other comprehensive income (loss): Cumulative translation adjustment 5 5 Unrealized holding loss on available for sale securities (184) (211) ---------------- ---------------- Total stockholders' equity 34,724 32,330 ---------------- ---------------- Total liabilities and stockholders' equity $ 56,710 $ 52,738 ================ ================
The accompanying notes are an integral part of these consolidated financial statements. 3 MEDIA 100 INC. CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share data) (unaudited)
Three Months Ended August 31, Nine Months Ended August 31, 2000 1999 2000 1999 ------------- ------------- -------------- --------------- Net sales: Products $ 16,609 $ 14,677 $ 50,538 $ 40,548 Services 2,703 2,221 7,268 6,493 ------------- ------------ -------------- ---------------- Total net sales 19,312 16,898 57,806 47,041 Cost of sales 7,836 6,271 23,727 18,008 ------------- ------------ -------------- ---------------- Gross profit 11,476 10,627 34,079 29,033 ------------- ------------ -------------- ---------------- Operating expenses: Research and development 4,307 3,867 11,916 12,292 Selling and marketing 4,867 4,442 15,511 13,636 General and administrative 1,098 1,838 6,061 5,192 Amortization of intangible assets 850 92 1,686 92 Acquired in-process research and development - 430 470 430 Restructuring expense 424 - 424 Merger-related costs - - 2,007 - ------------- ------------ -------------- --------------- Total operating expenses 11,122 11,093 37,651 32,066 ------------- ------------ -------------- --------------- Operating income (loss) 354 (466) (3,572) (3,033) Interest income, net 260 314 809 990 Other income (expense), net (337) 1,794 (465) 7,048 ------------- ------------ -------------- ---------------- Income (loss) before tax provision 277 1,642 (3,228) 5,005 Tax provision - - 30 - ------------- ------------ -------------- ---------------- Net income (loss) $ 277 $ 1,642 $ (3,258) $ 5,005 ============= ============ ============== ================ Net income (loss) per share: Basic $ 0.02 $ 0.15 $ (0.27) $ 0.44 ============= ============ ============== =============== Diluted $ 0.02 $ 0.14 $ (0.27) $ 0.43 ============= ============= ============== =============== Weighted average common shares outstanding: Basic 12,136 11,297 11,916 11,266 ============= ============ ============== ================ Diluted 13,167 11,746 11,916 11,643 ============= ============ ============== ================
The accompanying notes are an integral part of these consolidated financial statements. 4 MEDIA 100 INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited)
Nine Months Ended August 31, 2000 1999 --------------- --------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net (loss) income $ (3,258) $ 5,005 Adjustments to reconcile net (loss) income to net cash used in operating activities: Depreciation and amortization 2,628 2,749 Non-cash interest expense 71 - Acquired in-process research and development 470 430 Amortization of acquisition-related intangible assets 1,686 92 Loss on disposition of fixed asset 6 - Gain on sale of other assets - (6,637) Gain on sale of marketable securities 15 (21) Changes in Assets and Liabilities, excluding effects of acquisitions: Accounts receivable (4,008) (1,297) Note receivable - 4,150 Inventories (2,184) (26) Prepaid expenses and other current assets (373) (143) Accounts payable (35) (507) Accrued expenses (2,317) (3,267) Deferred revenue 168 (4,978) --------------- --------------- Net cash used in operating activities $ (7,131) $ (4,450) --------------- ---------------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of Terran Interactive, Inc., net of cash acquired (350) (1,890) Acquisition of Wired, Inc., net of cash acquired (1,487) - Acquisition of 21st Century Media LLC, net of cash acquired (481) - Acquisition of J2 Digital Media Inc., net of cash acquired (152) - Acquisition of certain assets of Integrated Computing Engines, Inc. (1,797) - Purchases of property and equipment (1,614) (1,155) Other assets (1,225) (160) Purchase of intangible assets (227) - Net proceeds on the sale of other assets - 6,637 Proceeds from sales of marketable securities, net 5,405 5,112 --------------- --------------- Net cash (used in) provided by investing activities $ (1,928) $ 8,544 --------------- ---------------- CASH FLOWS FROM FINANCING ACTIVITIES: Net repayments on short term borrowings - (1,340) Proceeds from issuance of common stock pursuant to stock plans 4,472 511 Purchase of treasury stock - (202) --------------- --------------- Net cash provided by (used in) financing activities $ 4,472 $ (1,031) --------------- ---------------- EFFECT OF EXCHANGE RATE CHANGES ON CASH - (148) NET DECREASE IN CASH DURING EXCLUDED PRE-MERGER PERIOD (Note 4b) (1,483) - --------------- --------------- NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS $ (6,070) $ 2,915 CASH AND CASH EQUIVALENTS, beginning of period 13,858 7,849 --------------- --------------- CASH AND CASH EQUIVALENTS, end of period $ 7,788 $ 10,764 =============== ===============
5
Nine Months Ended August 31, 2000 1999 ---- ---- SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid for income taxes 13 2 =============== ================ Cash paid for interest $ - $ - =============== ================ OTHER TRANSACTIONS NOT USING CASH: Increase (Decrease) in value of marketable securities $ 27 $ (472) =============== =============== Nine Months Ended August 31, 2000 1999 ---- ---- SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING ACTIVITIES: In connection with the acquisition of Wired, Inc., the following non-cash transaction occurred: Fair value of assets acquired $ 3,180 $ - Cash paid for acquisition and acquisition costs 1,487 --------------- --------------- Note payable and liabilities assumed $ 1,693 $ - =============== =============== In connection with the acquisition of 21st Century Media, LLC, the following non-cash transaction occurred: Fair value of assets acquired $ 1,130 $ - Cash paid for acquisition and acquisition costs 481 --------------- --------------- Common stock issued and liabilities assumed $ 649 $ - =============== =============== In connection with the acquisition of J2 Digital Media, Inc., the following non-cash transaction occurred: Fair value of assets acquired $ 280 $ - Cash paid for acquisition and acquisition costs 152 --------------- --------------- Liabilities assumed $ 128 $ - =============== =============== In connection with the acquisition of certain assets of Integrated Computing Engines, Inc., The following non-cash transaction occurred: Fair value of assets acquired $ 2,775 $ - Cash paid for acquisition and acquisition costs 1,797 --------------- --------------- Common stock issued $ 978 $ - =============== =============== In connection with the acquisition of Terran Interactive, Inc., the following non-cash transaction occurred: Fair value of assets acquired $ 350 $ 2,558 Cash paid for acquisition and acquisition costs 350 1,890 --------------- --------------- Liabilities assumed $ - $ 668 =============== ===============
The accompanying notes are an integral part of these consolidated financial statements. 6 MEDIA 100 INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED, EXCEPT FOR NOVEMBER 30, 1999 AMOUNTS) 1. BASIS OF PRESENTATION The accompanying interim consolidated financial statements include the accounts of Media 100 Inc. ("the Company"), a Delaware corporation, and its wholly owned subsidiaries. The interim financial statements are unaudited. However, in the opinion of management, the interim consolidated financial statements and disclosures reflect all adjustments necessary for fair presentation. Interim results are not necessarily indicative of results expected for a full year or for any other interim period. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. These consolidated condensed financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in the Company's latest audited financial statements, which are included in the Company's Annual Report on Form 10-K for the fiscal year ended November 30, 1999, filed with the Securities and Exchange Commission. The Company's preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The Company develops, markets, sells, and supports digital video and web-based streaming media software and systems, or tools, that enable new Internet broadcasters and traditional broadcasters, corporate marketing professionals, and educators to create and deliver high-quality video programs. The Company markets and delivers its products to end users through its web sites as well as through a worldwide channel of specialized value-added resellers ("VARs") that sell, assemble, and install turnkey systems using personal computers, disk drives, and ancillary video equipment. In June 1999, the Company acquired Terran Interactive Inc. ("Terran"), a leading supplier of software tools for high quality Internet and DVD video. In December 1999, the Company acquired Wired, Inc. ("Wired"), a supplier of Moving Pictures Experts Group ("MPEG") streaming media production tools for the Internet and digital video disk ("DVD") authoring. In April 2000, the Company acquired 21st Century Media, LLC ("21st Century Media"), a leading provider of encoding, hosting, webcasting, and interactive production services. In June 2000, the Company announced it completed the acquisition of J2 Digital Media, Inc. ("J2 Digital Media"), another encoding, hosting and streaming media services provider (Note 3a). After this acquisition, J2 Digital Media Inc.'s operations were combined with the operations of 21st Century Media, and the Company launched a new division, called StreamRiver Networks, focused on providing encoding and hosting services for Internet broadcasters, web designers and digital media content creators. In May 2000, the Company completed its merger with Digital Origin, Inc. ("Digital Origin"). Digital Origin is a leading developer of digital video editing and effects software applications designed to support the new low-cost, high-quality digital video ("DV") camcorders used for acquiring video for Internet applications (see Note 3b). In August 2000, the Company acquired certain strategic technology assets and intellectual properties from Integrated Computing Engines, Inc. ("ICE"). ICE is a leading provider of acceleration solutions for streaming media from the desktop (Note 3c). 2. PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the Company and its subsidiaries. All material intercompany transactions and balances have been eliminated in consolidation. 7 3. ACQUISITIONS a.) J2 DIGITAL MEDIA, INC. In June 2000, the Company acquired substantially all of the assets of J2 Digital Media, a New York-based encoding, hosting and streaming media services provider for $150,000 in cash. The Company has treated the acquisition as a purchase for accounting purpose; accordingly, the Company has recorded the results of operations of J2 Digital Media's operations since the acquisition date. The Company has not included pro forma results as they are not deemed to be material. The aggregate purchase price consisted of the following (in thousands):
Description Amount ----------- ------ Cash $ 150 Liabilities assumed 128 Acquisition costs 2 ------- Total purchase price $ 280 -------
The purchase price has been allocated to the acquired assets as follows (in thousands): Current assets $ 44 Equipment and other assets 22 Goodwill 214 ------- $ 280 -------
b.) DIGITAL ORIGIN On May 9, 2000, the Company completed its merger with Digital Origin. Under the terms of the agreement, Digital Origin's shareholders and option holders received 0.5347 equivalent shares, or approximately 3.7 million Media 100 common shares, to effect the business combination. The transaction has been accounted for as a pooling of interests. As a result, all periods presented have been restated to reflect the combined operations of the two companies. As permitted by Accounting Principles Board Opinion No.16 BUSINESS COMBINATIONS (APB No.16), the November 30, 1999 balance sheet presented herein reflects the combination of the Media 100's November 30, 1999 balance sheet and Digital Origin's September 30, 1999 balance sheet. Likewise, the 1999 statements of operations and cash flows presented for the combined companies are the companies respective first, second and third fiscal quarters, which also differ by two months. In fiscal 2000, the balance sheet is as of August 31, 2000 for the combined companies and the statements of operations and cash flows represent the three and nine-month periods ended August 31, 2000 for both companies. The results of operations for Digital Origin for the two months ended November 30, 1999 have been excluded from the statement of operations and have been recorded directly to accumulated deficit as permitted by APB No.16. Net cash flows for Digital Origin for the two months ended November 30, 1999 have been included in the statement of cash flows as a single line item. Results for Digital Origin for the two month period ended November 30, 1999 which have been recorded directly to accumulated deficit were as follows:
Two months ended November 30, 1999 ----------------- Sales $ 1,953 Cost of sales 719 ----------- Gross profit 1,234 Operating expenses 1,695 ----------- Operating loss (461) Other income (expense), net (41) ----------- Net loss $ (502) ===========
8 3. ACQUISITIONS (continued) As part of the transaction, the Company incurred direct, merger-related costs of approximately $2.0 million, consisting primarily of investment bank fees, legal and accounting fees. All such costs have been expensed in the quarter ended May 31, 2000, upon consummation of the Digital Origin merger. Separate and combined results of Media 100 and Digital Origin during the periods preceding the merger were as follows:
Media 100 Digital Origin Eliminations Combined ---------------------------------------------------------------- (NINE MONTHS ENDED AUGUST 31, 2000)(a) Net sales 50,995 7,373 (562) 57,806 Net income (loss) (1,822) (1,436) - (3,258) (THREE MONTHS ENDED AUGUST 31, 1999) Net sales 13,116 3,782 - 16,898 Net income (loss) (172) 1,814 - 1,642 (NINE MONTHS ENDED AUGUST 31, 1999) Net sales $ 37,792 $ 9,249 $ - $ 47,041 Net income (loss) $ (684) $ 5,689 $ - $ 5,005
(a) Digital Origin results represent December 1, 1999 through May 9, 2000. Results subsequent to May 9, 2000 included In Media 100 results. c.) INTEGRATED COMPUTING ENGINES In August 2000, the Company acquired certain strategic technology assets and intellectual properties from Integrated Computing Engines, Inc. ("ICE"). ICE is a leading provider of acceleration solutions for streaming media from the desktop. In connection with the acquisition, the Company paid approximately $1,735,000 in cash and issued 61,577 shares of the Company's common stock for certain assets of ICE. The Company has treated the acquisition as a purchase for accounting purposes; accordingly, the Company has recorded the results of operations of ICE's operations since the acquisition date. The aggregate purchase price consisted of the following (in thousands):
Description Amount ----------- ------ Cash $1,735 Common stock 978 Acquisition costs 62 ------ Total purchase price $2,775 ------
The purchase price has been allocated to the acquired assets as follows (in thousands): Current assets $ 503 Goodwill and other intangible assets 2,272 ------ $2,775 ------
The Company is currently having an appraisal performed to determine the allocation of the purchase price. The amounts above represent a preliminary allocation based on management estimates. 9 4. CASH EQUIVALENTS AND MARKETABLE SECURITIES Cash equivalents are carried at cost, which approximates market value, and have original maturities of less than three months. Cash equivalents primarily include money market accounts. The Company accounts for marketable securities in accordance with Statement of Financial Accounting Standards No. 115, ACCOUNTING FOR CERTAIN INVESTMENTS IN DEBT AND EQUITY SECURITIES (SFAS No. 115). Under this standard, the Company is required to classify all investments in debt and equity securities into one or more of the following three categories: held-to-maturity, available-for-sale or trading. Available-for-sale securities are recorded at fair market value with unrealized gains and losses excluded from earnings and reported as a separate component of stockholders' equity. All of the Company's marketable securities are classified as available-for-sale. Marketable securities held as of August 31, 2000 and November 30, 1999 consist of the following (in thousands):
Maturity 2000 1999 ---------- ------ ------ Investments available for sale: U.S. Treasury Notes less than 1 year $ 505 $ - U.S. Treasury Notes 1 - 5 years 3,010 4,538 --------------- ------------- Total U.S. Treasury Notes 3,515 4,538 Municipal Bonds less than 1 year 861 1,797 U.S. Agency Bonds less than 1 year 1,510 - U.S. Agency Bonds 1 - 5 years 990 3,008 --------------- ------------- Total U.S. Agency Bonds 2,500 3,008 Money Market Instruments less than 1 year 358 3,689 Corporate Obligations less than 1 year 3,410 4,042 Corporate Obligations 1 - 5 years 2,490 4,784 --------------- ------------- Total Corporate Obligations 5,900 8,826 Total investments available for sale 13,134 21,858 Less: cash and cash equivalents (358) (3,689) --------------- ------------- Total marketable securities $ 12,776 $ 18,169 =============== =============
Marketable securities had a cost of $12,960 and $18,380, and a market value of $12,776 and $18,169 at August 31, 2000 and November 30, 1999, respectively. 5. INVENTORIES Inventories are stated at the lower of first-in, first-out (FIFO) cost or market and consist of the following (in thousands):
August 31, November 30, 2000 1999 --------------- ----------------- Raw materials $ 2,506 $ 556 Work-in-process 823 498 Finished goods 1,675 635 --------------- ----------------- $ 5,004 $ 1,689 =============== =================
Work-in-process and finished goods inventories include material, labor and manufacturing overhead. Management performs periodic reviews of inventory and disposes of items not required by their manufacturing plan. 10 6. PROPERTY AND EQUIPMENT, NET Property and equipment, net is stated at cost, less accumulated depreciation and amortization, and consists of the following (in thousands):
August 31, November 30, 2000 1999 --------------- ----------------- Machinery and equipment $ 13,018 $ 11,535 Purchased software 7,010 8,026 Furniture and fixtures 1,728 1,606 Vehicles 11 11 Leasehold improvements 1,613 1,599 --------------- ----------------- $ 23,380 22,777 Less accumulated depreciation and amortization (16,670) (15,542) --------------- ----------------- $ 6,710 $ 7,235 =============== =================
7. INTANGIBLE ASSETS, NET Intangible assets consist of the following as of August 31, 2000 and November 30, 1999 (in thousands):
August 31, November 30, 2000 1999 --------------- ----------------- Patents and Trademarks $ 397 $ 169 Acquired Technology 2,460 1,560 Goodwill 8,664 101 --------------- ----------------- 11,521 1,830 Less accumulated amortization (2,039) (270) --------------- ----------------- $ 9,482 $ 1,560 =============== =================
Patents and trademarks are being amortized over periods ranging from three to five years, their estimated useful lives. The Company is amortizing goodwill and acquired technology related to each of its acquisitions using the straight-line method over two to three years, their estimated useful lives. In connection with a prior business combination, the Company has accrued $3,532 as additional goodwill pursuant to an earnout provision that has been met. The Company will amortize this additional goodwill over its remaining useful life. 8. NET INCOME (LOSS) PER SHARE Effective December 1, 1997, the Company adopted Statement of Financial Accounting Standards No. 128, EARNINGS PER SHARE (SFAS No. 128). In accordance with SFAS No. 128, basic net income (loss) per share is computed by using the weighted-average number of common shares outstanding. Diluted income (loss) per share is computed by using the weighted-average number of common shares outstanding and potential common shares from the assumed exercise of stock options and warrants outstanding during the period, if any, using the treasury stock method. The following is a reconciliation of the shares used in the computation of basic and diluted net income (loss) per share (in thousands):
Three months ended August 31, Nine months ended August 31, 2000 1999 2000 1999 ----------------- --------------- --------------- ----------------- Basic net income (loss) - weighted average common outstanding 12,136 11,297 11,916 11,266 Effect of potential common shares - stock options and warrants outstanding (unless antidilutive) 1,031 449 - 377 ----------------- --------------- --------------- ----------------- Diluted net income (loss) - weighted average shares and potential common shares outstanding 13,167 11,746 11,916 11,643 ================= =============== =============== ================= Options not included in computation of diluted net income (loss) per share due to their antidilutive effect 1,302 465 94 851 ================= =============== =============== =================
11 9. CONTINGENCIES (a) On June 7, 1995, a lawsuit was filed against the Company by Avid Technology, Inc. ("Avid") in the United States District Court for the District of Massachusetts. The complaint generally alleges patent infringement by the Company arising from the manufacture, sale, and use of the Company's Media 100 products. The complaint includes requests for injunctive relief, treble damages, interest, costs and fees. In July 1995, the Company filed an answer and counterclaim denying any infringement and asserting that the Avid patent in question is invalid. The Company intends to vigorously defend the lawsuit. In addition, Avid is seeking reissue of the patent, including claims that it asserts are broader than in the existing patent, and these reissue proceedings remain pending before the U.S. Patent and Trademark Office. On January 16, 1998, the court dismissed the lawsuit without prejudice to either party moving to restore it to the docket upon completion of all matters pending before the U.S. Patent and Trademark Office. On August 16, 2000, the U.S. Patent and Trademark Office issued an Office Action rejecting all of the claims made by Avid in their latest request for reexamination of the patent related to the aforementioned lawsuit. In addition, the Examiner at the U.S. Patent and Trademark Office designated the action as "final". Avid has the right to appeal the rejections to the Patent Office Board of Appeals and the Company plans to continue to monitor the proceedings. There can be no assurance that the Company will prevail in the event of an appeal by Avid or that the expense or other effects of the appeal, whether or not the Company prevails, will not have a material adverse effect on the Company's business, operating results and financial condition. Based on new information concerning the Avid litigation, the Company revised its estimate of costs necessary to bring this matter to its conclusion. As a result, the Company reversed $750,000 of the related accrual during the three months ended August 31, 2000. (b) On January 13, 1999 and January 28, 1999, Digital Origin and one of its former directors, Charles Berger, were named as defendants in two shareholder class action lawsuits against Splash Technology Holdings, Inc. ("Splash"), various directors and executives of Splash and certain selling shareholders of Splash. The lawsuit alleges, among other things, that the defendants made or were responsible for material misstatements, and failed to disclose information concerning Splash's business, finances and future business prospects in order to artificially inflate the price of Splash common stock. The complaint does not identify any statements alleged to have been made by Charles Berger or the Company. The complaint further alleges that the Company engaged in a scheme to artificially inflate the price of Splash common stock to reap an artificially large return on the sale of the common stock in order to pay off its debt. Digital Origin and the former director vigorously deny all allegations of wrongdoing and intend to aggressively defend themselves in these matters. Defendant's initial motion to dismiss the action was granted with leave to amend, and plaintiffs have amended the complaint. Defendants have filed their second motion to dismiss. (c) On July 18, 1997, Intelligent Electronics, Inc. filed a claim against Digital Origin alleging a breach of contract and related claims in the approximate amount of $800,000, maintaining that Digital Origin failed to comply with various return, price protection, inventory balancing and marketing development funding undertakings. In 1997, Digital Origin filed an answer to the complaint and cross-claimed against the plaintiffs and in October 1997 additionally cross claimed against Deutsche Financial, Inc., a factor in the account relationship between the Company and the plaintiffs, seeking the recovery of existing accounts receivable of approximately $1.8 million. During May 2000, the trial was completed and the Court entered two judgments in favor of Digital Origin, one in the amount of $314,000 relating to existing accounts receivable plus interest against Intelligent Electronics and one in the amount of $1,491,000 plus interest against Deutsche Financial, Inc. In September 2000, Intelligent Electronics, Inc. paid $314,000 plus interest of $139,000 and reimbursement of certain costs in the amount of $20,000 to the Company. Deutsche Financial, Inc. has requested that the Court reconsiders various portions of its rulings, and an appeal of the final judgment is expected. Pursuant to APB Opinion No. 20, Accounting Changes, the Company revised its estimate of the allowance for doubtful accounts by reversing $314,000 of the allowance in the three months ended August 31, 2000. The Company considers the balance of the recovery from Intelligent Electronics (interest and court costs) to be a gain contingency, as this term is defined in SFAS No. 5, Accounting for Contingencies. Accordingly, the Company will record the interest and court costs in the fourth quarter of 2000, the period in which the gain contingency was realized. The Company has not recorded any amounts pursuant to the Deutsche Financial, Inc. judgement, pending completion of the appeals process, as neither the collection of the outstanding accounts receivable nor the interest and court costs is certain. 12 9. CONTINGENCIES (CONTINUED) (d) From time to time the Company is involved in other disputes and/or litigation encountered in its normal course of business. The Company does not believe that the ultimate impact of the resolution of such other outstanding matters will have a material effect on the Company's business, operating results or financial condition. 10. ACCRUED EXPENSES Accrued expenses at August 31, 2000 and November 30, 1999 consist of the following (in thousands):
August 31, November 30, 2000 1999 ---------------- ----------------- Payroll and related taxes $ 2,714 $ 3,366 Accrued warranty 562 611 Accrued selling and marketing 251 484 Accrued inventory 1,696 1,041 Accrued contingent acquisition payment 3,182 - Accrued legal and other 2,652 5,030 ---------------- ----------------- $ 11,057 $ 10,532 ================ =================
11. COMPREHENSIVE INCOME (LOSS) Effective December 1, 1998, the Company adopted Statement of Financial Accounting Standards No. 130, REPORTING COMPREHENSIVE INCOME (SFAS No. 130). SFAS No. 130 establishes standards for the display of comprehensive income (loss) and its components in a full set of financial statements. Comprehensive income (loss) includes all changes in equity during a period except those resulting from the issuance of shares of stock and distributions to stockholders. SFAS No. 130 requires that an enterprise display the components of comprehensive income (loss) for each period presented. The components of the Company's comprehensive income (loss) were as follows:
Three months ended August 31, Nine months ended August 31, 2000 1999 2000 1999 ----------------- ---------------- ---------------- ------------------ Net income (loss) $ 277 $ 1,642 $ (3,258) $ 5,005 Cumulative translation adjustment 2 37 - (148) Unrealized holding gain (loss) on available for sale securities 150 (108) 27 (472) ----------------- ---------------- ---------------- ------------------ Comprehensive income (loss) $ 429 $ 1,571 $ (3,231) $ 4,385 ================= ================ ================ ==================
12. SEGMENT INFORMATION In July 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION (SFAS No. 131). SFAS No. 131 establishes standards for public companies to report operating segment information in annual and interim financial statements filed with the SEC and shareholders effective for fiscal years beginning after December 15, 1997. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief decision maker, or decision making group, in deciding how to allocate resources and in assessing performance. The Company's chief operating decision-making group is composed of the Chief Executive Officer and members of senior management. The Company's reportable operating segments are Internet tools, digital video systems and services. 13 12. SEGMENT INFORMATION (CONTINUED) Revenues are attributed to geographic areas based on where the customer is located. Segment information for the three and nine months ended August 31, 2000 and August 31, 1999 is as follows:
Digital Internet Video Tools Services Systems Corporate Total ----------- -------------- --------------- ------------ --------------- THREE MONTHS ENDED AUGUST 31, 2000 Net sales from external customers $ 7,648 $ 2,703 $ 8,961 $ - $ 19,312 =========== ============== =============== ============ =============== Gross profit 4,738 2,068 4,670 - 11,476 =========== ============== =============== ============ =============== Depreciation and amortization 131 25 701 - 857 =========== ============== =============== ============ =============== Interest income, net - - - 260 260 =========== ============== =============== ============ =============== NINE MONTHS ENDED AUGUST 31, 2000 Net sales from external customers $ 24,787 $ 7,268 $ 25,751 $ - $ 57,806 =========== ============== =============== ============ =============== Gross profit 14,709 6,001 13,369 - 34,079 =========== ============== =============== ============ =============== Depreciation and amortization 439 64 2,125 - 2,628 =========== ============== =============== ============ =============== Interest income, net 809 809 =========== ============== =============== ============ =============== Income taxes $ - $ - $ - $ 30 $ 30 =========== ============== =============== ============ =============== THREE MONTHS ENDED AUGUST 31, 1999 Net sales from external customers $ 5,231 $ 2,221 $ 9,446 $ - $ 16,898 =========== ============== =============== ============ =============== Gross profit 3,622 1,910 5,095 - 10,627 =========== ============== =============== ============ =============== Depreciation and amortization 32 19 876 - 927 =========== ============== =============== ============ =============== Interest income, net - - - 314 314 =========== ============== =============== ============ =============== NINE MONTHS ENDED AUGUST 31, 1999 Net sales from external customers $ 10,698 $ 6,493 $ 29,850 $ - $ 47,041 =========== ============== =============== ============ =============== Gross profit 6,979 5,525 16,529 - 29,033 =========== ============== =============== ============ =============== Depreciation and amortization 101 52 2,596 - 2,749 =========== ============== =============== ============ =============== Interest income, net - - - 990 990 =========== ============== =============== ============ ===============
Interest income and income taxes are considered corporate level activities and are, therefore, not allocated to segments. Management believes transfers between geographic areas are accounted for on an arms-length basis. Net sales by geographic area for the three and nine months ended August 31, 2000 and August 31, 1999 were as follows (in thousands):
Three months ended August 31, August 31, 2000 1999 -------------- ---------------- United States $ 13,916 $ 11,737 United Kingdom, Sweden, Denmark and Norway 1,662 1,482 Germany, Austria and Switzerland 598 868 France, Spain and Benelux 1,151 971 Japan 987 914 Other foreign countries 998 926 -------------- ---------------- $ 19,312 $ 16,898 ============== ================
14 12. SEGMENT INFORMATION (CONTINUED)
Nine months ended August 31, August 31, 2000 1999 -------------- ---------------- United States $ 37,312 $ 30,683 United Kingdom, Sweden, Denmark and Norway 4,567 4,555 Germany, Austria and Switzerland 3,336 2,182 France, Spain and Benelux 4,590 2,815 Japan 2,543 2,745 Other foreign countries 5,458 4,061 -------------- ---------------- $ 57,806 $ 47,041 ============== ================
Long-lived tangible assets by geographic area for the quarters ended August 31, 2000 and November 30, 1999 consist of the following (in thousands):
August 31, November 30, 2000 1999 --------------- ----------------- United States $ 6,482 $ 6,877 United Kingdom 96 146 France 67 89 Germany 49 97 Italy 16 26 --------------- ----------------- $ 6,710 $ 7,235 =============== =================
13. NOTE PAYABLE In connection with the acquisition of Wired, the Company agreed to pay $3 million in cash for all outstanding shares of Wired's common stock. The first payment in the amount of $1.5 million was paid upon completion of the acquisition and the remaining to be paid on the first anniversary of the closing. The net present value of this latter payment has been classified on the balance sheet as a note payable. 15 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview Except for the historical information contained herein, the matters discussed in this Quarterly Report on Form 10-Q are forward-looking statements based on current expectations, and involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company, or industry results, to be materially different from those expressed in such forward-looking statements. The risks and uncertainties associated with such statements have been described under the heading "Certain Factors That May Affect Future Results" in this Form 10-Q and the Company's Annual Report on Form 10-K for the fiscal year ended November 30, 1999. The Company develops, markets, sells, and supports digital video and web-based streaming media software and systems, or tools, that enable new Internet broadcasters and traditional broadcasters, corporate marketing professionals, and educators to create and deliver high-quality video programs quickly, easily, and with great creative flexibility. The Company markets and delivers its products to end users through its web sites as well as through a worldwide channel of specialized value-added resellers ("VARs") that sell, assemble, and install turnkey systems using personal computers, disk drives, and ancillary video equipment. Since the Company began first shipments of its products in 1993, it has shipped over 300,000 software applications and 26,000 systems to users in over 50 countries. In June 1999, the Company acquired Terran Interactive Inc. ("Terran") of Los Gatos, CA, a leading supplier of software tools for high quality Internet and DVD video. In December 1999, the Company acquired Wired, Inc. ("Wired"). Wired is a supplier of Moving Pictures Experts Group ("MPEG") streaming media production tools for the Internet and digital video disk ("DVD") authoring. In April 2000, the Company acquired 21st Century Media, LLC ("21st Century Media"), a leading provider of encoding, hosting, webcasting, and interactive production services. In June 2000, the Company announced it completed the acquisition of J2 Digital Media, Inc. ("J2 Digital Media"), another encoding, hosting and streaming media services provider. After this acquisition, J2 Digital Media Inc.'s operations were combined with the operations of 21st Century Media, and the Company launched a new division, called StreamRiver Networks, focused on providing encoding and hosting services for Internet broadcasters, web designers and digital media content. In May 2000, the Company completed its merger with Digital Origin, Inc. ("Digital Origin"). Digital Origin is a leading developer of digital video editing and effects software applications designed to support the new low-cost, high-quality digital video ("DV") camcorders used for acquiring video for Internet applications. As a result of the merger, all periods presented have been restated to reflect the combined operations of the two companies. As permitted by Accounting Principles Board Opinion No.16 BUSINESS COMBINATIONS (APB No.16), the November 30, 1999 balance sheet presented herein reflects the combination of the Media 100's November 30, 1999 balance sheet and Digital Origin's September 30, 1999 balance sheet. Likewise, the 1999 statements of operations and cash flows presented for the combined companies are the companies first and second and third fiscal quarters, which also differ by two months. In fiscal 2000, the balance sheet is as of August 31, 2000 for the combined companies and the statements of operations and cash flows represent the three and nine-month periods ended August 31, 2000 for both companies. The results of operations for Digital Origin for the two months ended November 30, 1999 have been excluded from the statement of operations and have been recorded directly to accumulated deficit as permitted by APB No.16. Net cash flows for Digital Origin for the two months ended November 30, 1999 have been included in the statement of cash flows as a single line item. In August 2000, the Company acquired certain strategic technology assets and intellectual properties from Integrated Computing Engines, Inc. ("ICE"). ICE is a leading provider of acceleration solutions for streaming media from the desktop. 16 Results of Operations The following table shows certain consolidated statements of operations data as a percentage of net sales.
Three months ended August 31, Nine months ended August 31, 2000 1999 2000 1999 -------------- --------------- -------------- ----------------- Net sales: Products 86.0% 86.9% 87.4% 86.2% Services 14.0 13.1 12.6 13.8 -------------- --------------- -------------- ----------------- Total net sales 100.0 100.0 100.0 100.0 Cost of sales 40.6 37.1 41.0 38.3 -------------- --------------- -------------- ----------------- Gross profit 59.4 62.9 59.0 61.7 Operating expenses: Research and development 22.4 22.9 20.6 26.1 Selling and marketing 25.2 26.3 26.8 29.0 General and administrative 5.7 10.9 10.5 11.0 Amortization of intangible assets 4.4 .6 2.9 .2 Acquired in-process research and development - 2.5 0.8 .9 Restructuring expense - 2.5 - .9 Merger related costs - - 3.5 - -------------- --------------- -------------- ----------------- Total operating expenses 57.6 65.7 65.1 68.2 Operating income (loss) 1.8 (2.8) (6.2) (6.5) Interest income, net 1.3 1.9 1.4 2.1 Other income (expense), net (1.7) 10.6 (0.8) 15.0 -------------- --------------- -------------- ----------------- Income (loss) before tax provision 1.4 9.7 (5.6) 10.6 Tax provision - - - - -------------- --------------- -------------- ----------------- Net income (loss) 1.4% 9.7% (5.6)% 10.6% ============== =============== ============== =================
Comparison of Third Fiscal Quarter of 2000 to Third Fiscal Quarter of 1999 Net sales. Net sales for the third fiscal quarter ended August 31, 2000 were $19.3 million an increase of $2.4 million, or 14.3%, from the same period a year ago. Net sales from products for the third fiscal quarter ended August 31, 2000 were $16.6 million, an increase of $1.9 million or 13.2%, from the same period a year ago. The increase in net sales from products is due primarily to Internet tool sales from the Company's wholly owned subsidiaries Terran, Wired and Digital Origin. Internet tools sales for the third fiscal quarter ended August 31, 2000 increased to $7.6 million from $5.2 million in the same period a year ago. The Company acquired Terran in June 1999, acquired Wired in December 1999 and merged with Digital Origin in May 2000. The increase in sales of Internet tools was offset by a decrease of $0.4 million in digital video sales to $9.0 million in the third fiscal quarter ended August 31, 2000 from $9.4 million in the same period a year ago. Net sales from services for the third fiscal quarter ended August 31, 2000 were $2.7 million, an increase of $.5 million or 21.7%, from the same period a year ago. The increase in net sales from services is due to new customers purchasing and existing customers renewing their support contracts, and initial sales from the Company's recently announced streaming media services division, StreamRiver Networks. Gross profit. The Company's gross profit increased 8.0% to $11.5 million in the third fiscal quarter of 2000 from $10.6 million in the third fiscal quarter of 1999. Overall gross profit as a percentage of net sales was 59.4% in the third fiscal quarter of 2000 compared to 62.9% in the third fiscal quarter of 1999, due primarily to lower gross margins on the Company's digital origin products. Specifically, gross profit as a percentage of net product sales decreased to 56.6% in the third fiscal quarter of 2000 from 59.4% in the third fiscal quarter of 1999, while gross profit as a percentage of net sales of services decreased to 76.5% in the third fiscal quarter of 2000 from 86.0% in the third fiscal quarter of 1999. 17 Research and development. Research and development expenses increased 11.4% to $4.3 million in the third fiscal quarter of 2000 from $3.9 million in the same period a year ago. Research and development expenses consist primarily of salaries and related benefits, consultants, outside services, occupancy and depreciation. The Company currently anticipates research and development expenses will increase in absolute dollars in fiscal 2000 versus fiscal 1999 due to continued research and development of new technology, as well as, the acquisitions of Terran, Wired and Digital Origin and the planned development of their products. Selling and marketing. Selling and marketing expenses increased 9.6% to $4.9 million in the third fiscal quarter of 2000 from $4.4 million in the same period a year ago. Selling expenses consist primarily of salaries and related benefits, commissions, travel, occupancy and depreciation. Marketing expenses consist primarily of salaries and related benefits, trade shows, seminars, advertising, website development and lead generation activities. The increase in selling and marketing expenses resulted primarily from the acquisition of Terran and Wired and the merger with Digital Origin and the Company's promotion of the streaming media tools acquired as part of these transactions. The Company currently anticipates that its selling and marketing expenses will increase in absolute dollars in fiscal 2000 versus fiscal 1999 as the Company increases its focus on the Internet and the related support of the Company's promotion of its streaming media tools. General and administrative. General and administrative expenses decreased 40.3% to $1.1 million in the third fiscal quarter of 2000 from $1.9 million in the same period a year ago. General and administrative expenses include the cost of human resources, finance, information technology, legal and other administrative functions of the Company. The decrease in general and administrative expenses was due to a reduction of $314,000 in the allowance for doubtful accounts as a result of a settlement agreement reached between the Company and one of its customers (See Note 9 to the financial statements). General and administrative expenses were also affected by a reduction of $750,000 in the legal reserve account due to the Office Action from the U.S. Patent and Trademark Office in the Avid reexamination proceedings (See Note 9 to financial statements). Amortization of intangible assets. The Company recorded an expense for the amortization of intangible assets of $850,000 in the third fiscal quarter of 2000 as a result of the acquisitions of Terran, Wired, 21st Century Media and J2 Digital Media. The Company recorded an expense of $92,000 for the amortization of intangible assets in the third quarter of fiscal 1999 as a result of the Terran acquisition. Acquired in-process research and development. In connection with the acquisition of Terran Interactive, the Company allocated $430,000 of the purchase price to in-process research and development projects for the three months ended August 31, 1999. These allocations represented the appraised fair value based on risk-adjusted cash flows related to incomplete research and development projects. At the date of acquisition, the development of these projects had not yet reached technological feasibility and the research and development in progress had no alternative future uses. Accordingly, these costs were expensed as of the acquisition date. There were no such charges in the three months ended August 31, 2000. Restructuring expense. In the third quarter of 1999, the Company implemented a restructuring plan to better align its operating costs with its anticipated future revenue stream. The major component of the restructuring charge relates to the elimination of approximately 12 employees across the following functions: Product Development (4), Selling and marketing (7) and General and administration (1). At August 31, 1999 approximately $366,000 of the accrued restructuring charge remained, which is comprised of severance-related costs. The total cash impact of the restructuring amounted to approximately $424,000. The total cash paid as of August 31, 1999 was $58,000 and the remaining amount was paid in fiscal 2000. There were no such charges in the three months ended August 31, 2000. Interest income. Interest income for the third fiscal quarter ended August 31, 2000 was $260,000, a decrease of $54,000, or 17.2%, from the comparable quarter a year ago. The decrease in interest income is due to lower cash and cash equivalents and marketable securities in the third fiscal quarter of 2000, compared to the third fiscal quarter of 1999. The Company currently anticipates interest income will decline in fiscal 2000 versus 1999 due to additional reductions of cash resulting from the acquisition of Wired and 21st Century Media and an additional cash payment due to the former shareholders of Terran. Other income (expenses), net. Other income (expense), net was ($337,000) in the third fiscal quarter of 2000 compared to $1.8 million in the same period a year ago. The expense of $337,000 relates primarily to foreign exchange losses on inter-company transactions with the Company's foreign subsidiaries. The income of $1.8 million relates primarily to the licensing of technology by Digital Origin of its monitor and color publishing business to another company. Tax provision. The Company has not provided for a tax provision for the third fiscal quarter ended August 31, 2000 due to the net loss incurred for the first nine months of the fiscal year. 18 Net income (loss). Net income for the third fiscal quarter ended August 31, 2000 was $277,000, or $0.02 per share, compared to a net income of $1.64 million, or $0.15 per share, for the same period a year ago. Comparison of First Nine Months of 2000 to First Nine Months of 1999 Net sales. Net sales for nine months ended August 31, 2000 were $57.8 million an increase of $10.8, or 22.9%, from the same period a year ago. Net sales from products for the nine months ended August 31, 2000 were $50.5 million, an increase of $10.0 million or 24.6%, from the same period a year ago. The increase in net sales from products is due primarily to Internet tool sales from the Company's wholly owned subsidiaries Terran, Wired and Digital Origin. Internet tools sales for the nine months ended August 31, 2000 increased to $24.8 million from $10.7 million in the same period a year ago. The Company acquired Terran in June 1999, acquired Wired in December 1999 and merged with Digital Origin in May 2000. The increase in Internet tool sales was offset by a decrease of $4.1 million in digital video sales to $25.7 million in the nine months ended August 31, 2000 from $29.9 million in the same period a year ago. Net sales from services for the nine months ended August 31, 2000 were $7.3 million, an increase of $.8 million or 12.0%, from the same period a year ago. The increase in net sales from services is due to new customers purchasing and existing customers renewing their support contracts, and initial sales from the Company's recently announced streaming media services division, StreamRiver Networks. Gross profit. The Company's gross profit increased 17.4% to $34.1 million for the nine months ended August 31, 2000 from $29.0 million for the same period a year ago. Overall gross profit as a percentage of net sales was 59.0% for the nine months ended August 31, 2000 compared to 61.7% for the same period a year ago, due primarily to lower gross margins on the Company's Digital Origin products. Specifically, gross profit as a percentage of net product sales decreased to 55.6% for the nine months ended August 31, 2000 from 58.0% for the same period a year ago, while gross profit as a percentage of net sales of services decreased to 82.6% for the nine months ended August 31, 2000 from 85.1% in the same period a year ago. Research and development. Research and development expenses decreased 3.1% to $11.9 million for the nine months ended August 31, 2000 from $12.3 million in the same period a year ago. Research and development expenses consist primarily of salaries and related benefits, consultants, outside services, occupancy and depreciation. The Company currently anticipates research and development expenses will increase in absolute dollars in fiscal 2000 versus fiscal 1999 due to continued research and development of new technology, as well as, the acquisitions of Terran, Wired and Digital Origin and the planned development of their products. Selling and marketing. Selling and marketing expenses increased 13.8% to $15.5 million for the nine months ended August 31, 2000 from $13.6 million in the same period a year ago. Selling expenses consist primarily of salaries and related benefits, commissions, travel, occupancy and depreciation. Marketing expenses consist primarily of salaries and related benefits, trade shows, seminars, advertising, website development and lead generation activities. The increase in selling and marketing expenses resulted primarily from the acquisition of Terran and Wired and the merger with Digital Origin and the Company's promotion of the streaming media tools acquired as part of these transactions. The Company currently anticipates that its selling and marketing expenses will increase in absolute dollars in fiscal 2000 versus fiscal 1999 as the Company increases its focus on the Internet and the related support of the Company's promotion of its streaming media tools. General and administrative. General and administrative expenses increased 16.7% to $6.1 million for the nine months ended August 31, 2000 from $5.2 million in the same period a year ago. General and administrative expenses include the cost of human resources, finance, information technology, legal and other administrative functions of the Company. The increase in general and administrative expenses resulted primarily from increased personnel costs as a result of the acquisitions of Terran and Wired, and legal expenses related to a lawsuit involving Digital Origin. This increase was partially offset by a reduction of $314,000 in the allowance for doubtful accounts as a result of a settlement agreement reached between the Company and one of its customers (See Note 9 to the financial statements). General and administrative expenses were also affected by a reduction of $750,000 in the legal reserve account due to the Office Action from the U.S. Patent and Trademark Office in the Avid reexamination proceedings (See Note 9 to the financial statements). Amortization of intangible assets. The Company recorded an expense for the amortization of intangible assets of $1,686,000 for the nine months ended August 31, 2000 as a result of the acquisitions of Terran, Wired, 21st Century Media and J2 Digital Media. The Company recorded an expense of $92,000 for the amortization of intangible assets for the nine months ended August 31, 1999 as a result of the Terran acquisition. Acquired in-process research and development. In connection with the acquisition of Wired, the Company expensed $470,000 of the purchase price to in-process research and development projects for the nine months ended August 31, 2000. In connection with the acquisition of Terran Interactive, the Company allocated $430,000 of the purchase price to in-process research and 19 development projects for the three months ended August 31, 1999. These allocations represented the appraised fair value based on risk-adjusted cash flows related to the incomplete research and development projects. At the date of acquisition, the development of these projects had not yet reached technological feasibility and the research and development in progress had no alternative future uses. Accordingly, these costs were expensed as of the acquisition date. Restructuring expense. In the third quarter of 1999, the Company implemented a restructuring plan to better align its operating costs with its anticipated future revenue stream. The major component of the restructuring charge relates to the elimination of approximately 12 employees across the following functions: Product Development (4), Selling and marketing (7) and General and administration (1). At August 31, 1999 approximately $366,000 of the accrued restructuring charge remained, which is comprised of severance-related costs. The total cash impact of the restructuring amounted to approximately $424,000. The total cash paid as of August 31, 1999 was $58,000 and the remaining amount was paid in fiscal 2000. There were no such charges in the nine months ended August 31, 2000. Merger related costs. In connection with the merger with Digital Origin, the Company incurred direct, acquisition-related charges of approximately $2.0 million, consisting primarily of investment bank fees, legal and accounting fees. There was no similar expense recorded in the same period a year ago. Interest income. Interest income for the nine months ended August 31, 2000 was $809,000, a decrease of $181,000, or 18.3%, from the comparable quarter a year ago. The decrease in interest income is due to lower cash and cash equivalents and marketable securities in the first nine months of fiscal 2000, compared to the same period a year ago. The Company currently anticipates interest income will decline in fiscal 2000 versus 1999 due to additional reductions of cash resulting from the acquisition of Wired and 21 Century Media and an additional cash payment due to the former shareholders of Terran. Other income (expenses), net. Other income (expense), net was ($465,000) for the first nine months of fiscal 2000 compared to $7.0 million in the same period a year ago. The expense of $465,000 relates primarily to foreign exchange losses on inter-company transactions with the Company's foreign subsidiaries. The income of $7.0 million relates primarily to licensing technology from Digital Origin's monitor and color publishing business and a gain on the sale of Digital Origin's Color Server Group to another company. Tax provision. The Company has provided for a tax provision in the amount of $30,000 for the nine months ended August 31, 2000, compared to no tax provision in 1999. The tax provision is based on the statutory rate, offset by the expected utilization of net operating loss carryforwards and tax credits available to the Company. Net income (loss). The net loss for the nine months ended August 31, 2000 was ($3.258) million, or ($0.27) per share, compared to a net income of $5.0 million, or $0.44 per share, for the same period a year ago. Liquidity and Capital Resources The Company has funded its operations to date primarily from public offerings of equity securities and cash flows from operations. As of August 31, 2000, the Company's principal sources of liquidity included cash and cash equivalents and marketable securities totaling approximately $20,564,000. For the nine months ended August 31, 2000, cash used in operating activities was approximately $7,131,000 compared to cash used in operations of approximately $4,450,000 for the same period a year ago. Cash used in operations during the first nine months of fiscal 2000 was due to increases in accounts receivable of $4,008,000, inventories of $2,184,000, prepaid expenses of $373,000, decreases in accounts payable of $35,000 and accrued expenses of $ 2,317,000 offset by an increase in deferred revenue of $168,000. Net cash used in investing activities was approximately $1,928,000 during the first nine months of fiscal 2000, compared to cash provided by investing activities of approximately $8,544,000 for the same period a year ago. Cash used in investing activities during the nine months ended August 31, 2000 was related to the acquisitions of Terran, Wired, 21st Century, J2 Digital Media, and Integrated Computing Engines in the amounts of $350,000, $1,487,000, $481,000, $152,000 and $1,797,000 respectively, purchases of property and equipment of $1,614,000, intangible assets of $227,000 and purchases of other assets of $1,225,000. In addition, the Company received net proceeds on the sale of marketable securities of $5,405,000. Cash provided by financing activities during the first nine months of fiscal 2000 was approximately $4,472,000 compared to cash used in financing activities of $1,031,000 for the same period a year ago. Cash provided by financing activities in the first nine months of fiscal 2000 came from proceeds from the issuance of common stock pursuant to stock plans. In connection with prior business combinations, the Company may be required to make additional payments if certain earn-out provisions are met over the next several years. 20 The Company believes its existing cash balance, cash equivalents and marketable securities will be sufficient to meet the Company's cash requirements for at least the next twelve months. CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS Except for the historical information contained herein, the matters discussed in this Form 10-Q are forward-looking statements, and are based on current expectations, and involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company, or industry results, to be materially different from those expressed in such forward-looking statements. The risks and uncertainties associated with such statements include the following: ACQUISITION RELATED RISKS. During the fiscal year ended November 30, 1999, the Company completed the Terran acquisition. During the first fiscal quarter of 2000, the Company completed the acquisition of Wired. During the second fiscal quarter of 2000, the Company completed the 21st Century Media acquisition and the merger with Digital Origin. During the third quarter of fiscal 2000, the Company acquired J2 Digital Media and acquired certain strategic technology assets and intellectual properties from Integrated Computing Engines, Inc. The Company's business and results of operations could be materially adversely affected in the event the Company fails to complete publicly announced acquisitions or to successfully integrate the business and operations of these acquisitions. The Company may continue in the future to acquire existing businesses, products, and technologies to enhance and expand its line of products. Such acquisitions may be material in size and in scope. There can be no assurance that the Company will be able to identify, acquire, or profitably manage additional business or successfully integrate any acquired businesses into the Company without substantial expenses, delays, or other operational or financial problems. Acquisitions involve a number of special risks and factors, including increasing competition for attractive acquisition candidates in the Company's markets, the technological enhancement and incorporation of acquired products into existing product lines and services, the assimilation of the operations and personnel of the acquired companies, failure to retain key acquired personnel, adverse short-term effects on reported operating results, the amortization of acquired intangible assets, the assumption of undisclosed liabilities of any acquired companies, the failure to achieve anticipated benefits such as cost savings and synergies, as well as the diversion of management's attention during the acquisition and integration process. Some or all of these special risks and factors may have a material adverse impact on the Company's business, operating results, and financial condition. SIGNIFICANT FLUCTUATIONS AND UNPREDICTABILITY OF OPERATING RESULTS. The Company's quarterly operating results may vary significantly for a number of reasons, including new product announcements and introductions by the Company or its competitors, changes in pricing, and the volume and timing of orders received during the quarter. The Company has also in the past experienced delays in the development of new products and enhancements, and such delays may occur in the future. These factors make the forecasting of revenue inherently uncertain. Additionally, a significant portion of the Company's operating expenses is relatively fixed, and operating expense levels are based primarily on internal expectations of future revenue. As a consequence, quarterly operating expense levels cannot be reduced rapidly in the event that quarterly revenue levels fail to meet internal expectations. Therefore, if quarterly revenue levels fail to meet internal expectations, the Company's operating results would be adversely affected. EMERGING MARKETS. The Company is targeting the emerging market of new Internet-based broadcasters that are building streaming media web sites and businesses and institutions that are adding Internet video to their web sites. This market and the products utilized by these users are relatively new. The Company's success in this emerging market will depend on the rate at which the market develops and the Company's ability to penetrate that market. In addition, in fiscal 2000, the Company plans to begin targeting consumers who are looking to edit video at low cost and without complication. The Company believes this market will grow rapidly in the future as consumers increase their purchases of DV camcorders that connect directly to personal computers. Using a DV camcorder, a home PC and the Internet, the Company believes consumers will be able to capture, edit and stream video simply and easily. The Company's future growth will depend, in part, on the rate at which consumers purchase DV camcorders and adopt editing and streaming technology. There can be no assurance that the use of digital video editing and streaming products, like the ones offered by the Company, will expand among existing users of video production processes or the market for new users. Any failure of the Company's products to achieve market acceptance in these markets, as a result of competition, technological change or other factors, could have a material adverse effect on the Company's business and operating results. RISKS ASSOCIATED WITH DEVELOPMENT AND INTRODUCTION OF NEW PRODUCTS. New product announcements by the Company's competitors and by the Company itself could have the effect of reducing customer demand for the Company's existing products. The introduction of new or enhanced products by the Company also requires the Company to manage the transitions from existing products. New product introductions require the Company to devote time and resources to the training of its sales channel in the features and target customers for such new products, which efforts could result in less selling efforts being made 21 by the sales channel during such training period. New product announcements or introductions could contribute to significant quarterly fluctuations in operating results as orders for new products commence and orders for existing products decline. RAPID TECHNOLOGICAL CHANGE. Rapidly changing technology, evolving industry standards and frequent new product introductions characterize the market for the Company's products. The Company's future success will depend in part upon its ability to enhance its existing products and to introduce new products and features in a timely manner to address customer requirements, respond to competitive offerings, adapt to new emerging industry standards and take advantage of new enabling technologies that could render the Company's existing products obsolete. The Company plan in fiscal 2000 is to continue its investment in research and development, in connection with the Company's development strategy. Any delay or failure of the Company in developing additional new products or features for existing products or any failure of such new products or features to achieve market acceptance, could have a material adverse effect on the Company's business and operating results. COMPETITION. The market for the Company's products is highly competitive and characterized by pressure to reduce prices, incorporate new features and accelerate the release of new products. A number of companies currently offer products that compete directly or indirectly with the Company's products, including Accom, Inc., Adobe Systems, Apple Computer Inc. ("Apple"), Avid Technology, Inc., Discreet (a division of Autodesk, Inc.), FAST Electronic GmbH, Matrox Electronic Systems Ltd., Pinnacle Systems, Inc., Real Networks Inc., Loudeye Technologies, Inc., and Sonic Foundry, Inc. In addition, the Company expects much larger vendors, such as Matsushita Electric Industrial Company Ltd., Microsoft Corporation, and Sony Corporation, to develop and introduce digital editing systems that may compete with the Company's products. Many of these current and potential competitors have greater financial, technical and marketing resources than the Company. As a result, such competitors may be able to develop products comparable to or superior to the Company's products, adapt more quickly than the Company to new technologies, evolving industry standards or customer requirements, or lower their product costs and thus be able to lower prices to levels at which the Company could not operate profitably, the occurrence of any of which could have a material adverse effect on the Company's business and operating results. In this regard, the Company believes that it will continue to experience competitive pressure to reduce prices, particularly for its high data rate systems. The Company has historically realized higher gross profit on the sale of its high data rate systems than its entry-level systems, and such continued competitive pricing pressure could result in lower sales and gross margin, which in turn could adversely affect the Company's operating results. DEPENDENCE ON AND COMPETITION WITH APPLE COMPUTER, INC. As a competitor, Apple could, in the future, inhibit the Company's ability to develop its products that operate on the Macintosh platform. Additionally, new products and enhancements to existing products from Apple such as Final Cut Pro could cause customers to delay purchases of the Company's products or alter their purchase decision altogether. Furthermore, as the sole supplier of Macintosh computers, any disruption in the availability of these computers could cause customers to defer or alter their purchase of the Company's products. The Company relies on access to key information from Apple to continue development of its products and any failure to continue supplying the Company's engineers with this information could have a material adverse affect on the Company's business and financial results. DEPENDENCE ON MICROSOFT CORPORATION. Many of the Company's products operate in the Windows environment and the Company's engineers depend upon access to information in advance from Microsoft Corporation ("Microsoft"). Any failure to continue supplying the Company's engineers with this information could have a material adverse affect on the Company's business and financial results. DEPENDENCE ON SINGLE OR LIMITED SOURCE SUPPLIERS. The Company is dependent on single or limited source suppliers for several key components used in its products. The availability of many of these components is dependent on the Company's ability to provide suppliers with accurate forecasts of its future requirements, and certain components used by the Company have been subject to industry-wide shortages. The Company does not carry significant inventories of these components and has no guaranteed supply arrangements with such suppliers. There can be no assurance that the Company's inventories would be adequate to meet the Company's production needs during any interruption of supply. The Company's inability to develop alternative supply sources, if required, or a reduction or stoppage in supply, could delay product shipments until new sources of supply become available, and any such delay could adversely affect the Company's business and operating results in any given period. DEPENDENCE ON PROPRIETY TECHNOLOGY. The Company's ability to compete successfully and achieve future revenue growth will depend, in part, on its ability to protect its proprietary technology and operate without infringing the rights of others. The Company has in the past received, and may in the future continue to receive, communications suggesting that its products may infringe patents or other intellectual property rights of third parties. The Company's policy is to investigate the factual basis of such communications and negotiate licenses where appropriate. While it may be necessary or desirable in the future to obtain licenses relating to one or more products, or relating to current or future technologies, there can be no assurance that the 22 Company will be able to do so on commercially reasonable terms or at all. There can be no assurance that these or other future communications can be settled on commercially reasonable terms or that they will not result in protracted and costly litigation. RISKS OF THIRD-PARTY CLAIMS OF INFRINGEMENT. There has been substantial industry litigation regarding patent, trademark and other intellectual property rights involving technology companies. In the future, litigation may be necessary to enforce any patents issued to the Company or to enforce trade secrets, trademarks and other intellectual property rights owned by the Company, to defend the Company against claimed infringement of the rights of others and to determine the scope and validity of the proprietary rights of others. For a description of certain pending litigation instituted against the Company, see Note 10 to the Consolidated Financial Statements included herein. Any such litigation could be costly and a diversion of management's attention, which could adversely affect the Company's business, operating results and financial condition. Adverse determinations in any such litigation could result in the loss of the Company's proprietary rights, subject the Company to significant liabilities, require the Company to seek licenses from third parties or prevent the Company from manufacturing or selling its products, any of which could adversely affect the Company's business, operating results and financial condition. DEPENDENCE ON RESELLERS AND DISTRIBUTORS. The Company relies primarily on its worldwide network of independent VARs to distribute and sell its content creation products to end-users. The Company's resellers generally offer products of several different companies, including in some cases products that are competitive with the Company's products. In addition, many of these VARs are small organizations with limited capital resources. There can be no assurance that the Company's resellers will continue to purchase the Company's products or provide them with adequate levels of support, or that the Company's efforts to expand its VAR network will be successful, any significant failure of which could have a material adverse effect on the Company's business and operating results. Digital Origin relies on distributors to distribute its products. There can be no assurance that Digital Origin's distributors will continue to purchase the Company's products, any significant failure of which could have a material adverse effect on the Company's business and operating results. RELIANCE ON INTERNATIONAL SALES. International sales and operations may be subject to risks such as the imposition of government controls, export license requirements, restrictions on the export of critical technology, less effective enforcement of proprietary rights; currency exchange fluctuations, generally longer collection periods, political instability, trade restrictions, changes in tariffs, difficulties in staffing and managing international operations, potential insolvency of international resellers and difficulty in collecting accounts receivable. The Company's international sales are also subject to more seasonal fluctuation than domestic sales. In this regard, the traditional summer vacation period, which occurs during the Company's third fiscal quarter, may result in a decrease in sales, particularly in Europe. There can be no assurance that these factors will not have an adverse effect on the Company's future international operations and consequently, on the Company's business and operating results. INTERNET-BASED SALES. In fiscal 1999, the Company implemented e-commerce systems allowing customers to purchase the Company's products directly from its web site. Although the portion of revenue derived from its e-commerce web site was less than five percent in fiscal 1999, the Company anticipates revenue derived from its e-commerce web site to ramp up in fiscal 2000. There can be no assurances that the Company's customers will continue to purchase the Company's products from its web site or that the web site will not experience technical difficulties thereby causing customers to delay purchases. Any significant technical difficulties could have a material adverse effect on the Company's business and operating results. DEPENDENCE ON KEY PERSONNEL. Competition for employees with the skills required by the Company is intense in the geographic areas in which the Company's operations are located. The Company believes that its future success will depend on its continued ability to attract and retain qualified employees, especially in research and development. EURO CONVERSION. On January 1, 1999, 11 of the 15 member countries of the European Union established fixed conversion rates between their existing sovereign currencies and the Euro. As of January 1, 2002, the transition to the Euro will be complete. The Company has operations within the European Union and has prepared for the Euro conversion. The Company does not expect the costs associated with the transition to be material. However, the overall effect of the transition to the Euro may have a material adverse affect on the Company's business, financial condition and financial results. 23 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Derivative Financial Instruments, Other Financial Instruments and Derivative Commodity Instruments. The Company does not participate in derivative financial instruments, other financial instruments for which the fair value disclosure would be required under Statement of Financial Accounting Standards No. 107 DERIVATIVE FINANCIAL INSTRUMENTS, OTHER FINANCIAL INSTRUMENTS AND DERIVATIVE COMMODITY INSTRUMENTS ( SFAS No. 107). All of the Company's investments are in short-term, investment grade commercial paper, certificates of deposit and U.S. Government and agency securities that are carried at fair value on the Company's books. Accordingly, the Company has no quantitative information concerning the market risk of participating in such investments. Primary Market Risk Exposures. The Company's primary market risk exposures are in the area of interest rate risk and foreign currency exchange rate risk. The Company's investment portfolio of cash equivalents is subject to interest rate fluctuations, but the Company believes this risk is immaterial due to the short-term nature of these investments. The Company's business in Europe is conducted in local currency. In Asia, business is conducted in US currency. In addition, the Company sells products to its foreign subsidiaries in transactions denoted in US currency. The Company's foreign subsidiaries are therefore exposed to foreign exchange fluctuations on US currency-denominated inter-company payables to the Company. The Company has no foreign exchange contracts, option contracts or other foreign hedging arrangements. 24 PART II. OTHER INFORMATION Item 1. Legal Proceedings On June 7, 1995, a lawsuit was filed against the Company by Avid Technology, Inc. ("Avid") in the United States District Court for the District of Massachusetts. The complaint generally alleges patent infringement by the Company arising from the manufacture, sale, and use of the Company's Media 100 products. The complaint includes requests for injunctive relief, treble damages, interest, costs and fees. In July 1995, the Company filed an answer and counterclaim denying any infringement and asserting that the Avid patent in question is invalid. The Company intends to vigorously defend the lawsuit. In addition, Avid is seeking reissue of the patent, including claims that it asserts are broader than in the existing patent, and these reissue proceedings remain pending before the U.S. Patent and Trademark Office. On January 16, 1998, the court dismissed the lawsuit without prejudice to either party moving to restore it to the docket upon completion of all matters pending before the U.S. Patent and Trademark Office. On August 16, 2000, the U.S. Patent and Trademark Office issued an Office Action rejecting all of the claims made by Avid in their latest request for reexamination of the patent related to the aforementioned lawsuit. In addition, the Examiner at the U.S. Patent and Trademark Office designated the action as "final". Avid has the right to appeal the rejections to the Patent Office Board of Appeals and the Company plans to continue to monitor the proceedings. There can be no assurance that the Company will prevail in the event of an appeal by Avid or that the expense or other effects of the appeal, whether or not the Company prevails, will not have a material adverse effect on the Company's business, operating results and financial condition. On January 13, 1999 and January 28, 1999, the Company and one of its former directors, Charles Berger, were named as defendants in two shareholder class action lawsuits against Splash Technology Holdings, Inc. ("Splash"), various directors and executives of Splash and certain selling shareholders of Splash. The lawsuit alleges, among other things, that the defendants made or were responsible for material misstatements, and failed to disclose information concerning Splash's business, finances and future business prospects in order to artificially inflate the price of Splash common stock. The complaint does not identify any statements alleged to have been made by Charles Berger or the Company. The complaint further alleges that the Company engaged in a scheme to artificially inflate the price of Splash common stock to reap an artificially large return on the sale of the common stock in order to pay off its debt. The Company and the former director vigorously deny all allegations of wrongdoing and intend to aggressively defend themselves in these matters. Defendant's initial motion to dismiss the action was granted with leave to amend, and plaintiffs have amended the complaint. Defendants have filed their second motion to dismiss. On July 18, 1997, Intelligent Electronics, Inc. filed a claim against Digital Origin alleging a breach of contract and related claims in the approximate amount of $800,000, maintaining that Digital Origin failed to comply with various return, price protection, inventory balancing and marketing development funding undertakings. In 1997, Digital Origin filed an answer to the complaint and cross-claimed against the plaintiffs and in October 1997 additionally cross claimed against Deutsche Financial, Inc., a factor in the account relationship between the Company and the plaintiffs, seeking the recovery of existing accounts receivable of approximately $1.8 million. During May 2000, the trial was completed and the Court entered two judgments in favor of Digital Origin, one in the amount of $314,000 plus interest against Intelligent Electronics and one in the amount of $1,491,000 plus interest against Deutsche Financial, Inc. In September 2000, Intelligent Electronics, Inc. paid $314,000 plus interest of $139,000 and reimbursement of certain costs in the amount of $20,000 to the Company. Deutsche Financial, Inc. has requested that the Court reconsiders various portions of its rulings, and an appeal of the final judgment is expected. Item 6. Exhibits and Reports on Form 8-K a) Exhibits Exhibits required as part of this Quarterly Report on Form 10-Q are listed in the exhibit index on page 27. b) Reports on Form 8-K No report was filed during the third quarter of fiscal year 2000. 25 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. Media 100 Inc. Date: October 16, 2000 By: /s/ Steven D. Shea ------------------------------- Steven D. Shea Chief Financial Officer Treasurer 26 EXHIBIT INDEX Number Description ------ ----------- 27 Financial Data Schedule 27