-----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, DqaYiC2EcqP9Z0E9IoqMrHUoGSZbnvnIrbwi3KhBrEzYyyahSKbgdWo+FGpAeVWn NQ1YGwQOFoOilNlHyccCoQ== 0000950005-96-000970.txt : 19961223 0000950005-96-000970.hdr.sgml : 19961223 ACCESSION NUMBER: 0000950005-96-000970 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19960930 FILED AS OF DATE: 19961220 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: ZITEL CORP CENTRAL INDEX KEY: 0000731647 STANDARD INDUSTRIAL CLASSIFICATION: PATENT OWNERS & LESSORS [6794] IRS NUMBER: 942566313 STATE OF INCORPORATION: CA FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-12194 FILM NUMBER: 96683785 BUSINESS ADDRESS: STREET 1: 47211 BAYSIDE PARKWAY CITY: FREMONT STATE: CA ZIP: 94538-6517 BUSINESS PHONE: 5104409600 MAIL ADDRESS: STREET 1: 47211 BAYSIDE PARKWAY CITY: FREMONT STATE: CA ZIP: 94538 10-K 1 FORM 10-K FORM 10-K SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 (X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED) For the fiscal year ended September 30, 1996 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED) Commission File No. 0-12194 ZITEL CORPORATION (Exact name of Registrant as specified in its charter) CALIFORNIA 94-2566313 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 47211 Bayside Parkway, Fremont, California 94538-6517 (Address of principal executive offices) (Zip Code) (510) 440-9600 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, no par value (Title of Class) Indicate by check mark whether the Registrant (1) has filed reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or 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 _____. The aggregate market value of the Registrant's Common Stock held by nonaffiliates on November 30, 1996 (based upon the closing sale price of stock on such date) was $339,257,112.00. As of November 30, 1996, 14,906,678 of the Registrant's Common Stock were outstanding. Documents Incorporated by Reference: Portions of the Company's 1996 Notice of Annual Meeting of Shareholders and Proxy Statement are incorporated by reference into Part III hereof. PART I Item 1: BUSINESS Business Zitel Corporation ("Zitel" or the "Company") specializes in the design, manufacture and marketing of high-performance, mission-critical storage subsystems for enterprise-wide applications which include relational database, batch and on-line transaction processing. Its primary products include CASD (Cached Actuator Storage Device) subsystems for Unisys A and V mainframes, and CASD-II/Enterprise, CASD technology architected for UNIX, NT and NETWARE based open systems. The Company also develops and markets single-system and multi-system performance measurement and modeling software used on a variety of UNIX and proprietary platforms to measure the performance of complex client/server environments. These products are marketed worldwide through a variety of channels including systems integrators, value-added resellers and distributors, sales representatives, Original Equipment Manufacturers (OEMs), and directly to end users. Additionally, the Company is a reseller of Year 2000 compliance services. The Company conducts its business within one industry segment. Zitel was organized in 1979 to provide semiconductor memory systems to OEM customers. The Company's first end user product was the solid state RAMdisk sold to users of Unisys Corporation mainframe computer systems. The Company then introduced its line of rotating memory systems incorporating its CASD technology, enhanced with caching solid state memory and proprietary algorithms, also for Unisys computer systems. In 1995, the Company announced the availability of the CASD products for the open systems and relational database markets. In late fiscal 1995, the second generation of CASD (CASD-II) was announced for general availability into the Unisys market. CASD-II for the open systems and relational database markets were announced in December 1995. The Company also sells Value Analysis Modeling (VAM)/Capacity Planner and NetArchitect software products which enables customers to plan their future information technology systems by balancing service levels required to support business applications with the costs of building and maintaining those systems. In 1996, the Company became a reseller of MatriDigm Corporation's Year 2000 compliance services. The Company operates with little backlog. Most of its orders are shipped in the quarter received. In 1992, the Company entered into a joint development agreement Page 2 with International Business Machines (IBM) Corporation. In September and October of 1994, IBM announced general availability of RAMAC products, which incorporate Zitel technology, and upon which the Company is receiving royalties based on RAMAC products sold. In October 1995 and September 1996, IBM announced the general availability of RAMAC 2 and RAMAC 3, respectively, its second and third generation of RAMAC, which continue to include Zitel technology and upon which Zitel will receive royalties. Royalties from RAMAC products constituted 38%, 65% and 63% of total revenue in fiscal 1994, 1995 and 1996, respectively. In the event that IBM should replace its current RAMAC products with products that do not incorporate the Company's technology or if sales of royalty bearing products were to produce significantly lower royalty payments and the Company were to be unable to generate profitable revenue from other sources, the Company could be unable to continue operations as currently conducted. The Company has historically, during certain quarters, made material sales to a single customer which have had significant impact on net sales and on operating margins. Operating margins can also fluctuate from quarter to quarter due to product mix and other cost of sales, which do not vary directly with sales volume. As a result of these and other factors, the Company has experienced fluctuations in its quarterly operating results in the past and anticipates such fluctuations in the future. Research and Development and New Products During fiscal 1996, the Company invested in a number of development programs including the enhancement of CASD-II, the current generation of rotating memory systems incorporating its CASD technology; other CASD programs for future generations of CASD; and the development of NetArchitect, a software package for client/server network design and simulation. Expenditures for research and development activities were approximately $6,551,000, $5,754,000 and $7,071,000 in fiscal 1996, 1995 and 1994, respectively. The computer industry, in general, and the markets for the Company's products, in particular, are subject to extreme price competition, rapid technological change and evolving standards, resulting in relatively short product life cycles and continuous erosion of average selling prices. As a result, the Company must continually enhance its existing products and develop and introduce new products in an effort to maintain and increase net sales. The Company has experienced delays in completing the Page 3 development of new products and may well encounter difficulties that could delay the products currently under development. There can be no assurance that the Company will be successful in its enhancement and development efforts or in achieving market acceptance of products developed. Products The Company offers a family of rotating memory systems utilizing the CASD technology for use with Unisys A and V mainframe computers and with most UNIX, NT, Open VMS and NETWARE server platforms. The Company also offers a family of software planning tools that help Information Technology managers architect and evaluate client/server environments. CASD-II, the second generation of the Company's CASD products, was introduced in September, 1995. CASD products integrate a high-capacity solid state cache with multiple rotating disk drives and utilize interactive caching algorithms. Modules utilizing the technology are available with cache sizes ranging from 64 to 512 megabytes and with one to four disk drives with capacities from 4.3 to 17.2 gigabytes, depending on the market the products are sold into. These modules can be sold on an individual module basis or are available in cabinet configurations ranging from one to six modules and up to 103 gigabytes per cabinet. Pricing for a single module ranges from approximately $16,500 to $27,900. Subsystems incorporating CASD technology are available in prices from $74,000 to $175,400, depending on the number of modules utilized, the amount of cache utilized, optional equipment, and other factors. Performance and Modeling, Inc., Zitel's wholly-owned subsidiary, designed and developed the Value Analysis Modeling (VAM) family of system planning tools, VAM/Capacity Planner and NetArchitect. VAM/Capacity Planner is a Windows-based system modeling tool that reduces analyses and planning costs by enabling companies to correctly identify current system utilization and undertake sophisticated "what-if?" analyses of modifications in system deployment or design. VAM/Capacity Planner's embedded expertise allows easy examination of the effects of various configuration changes and determines the best equipment enhancements. VAM/Capacity Planner measures and simulates performance of IBM MVS, Digital VMS, Unisys proprietary, and a wide variety of open systems platforms. This software tool aids system administrators to anticipate, track and correct system performance bottlenecks and I/O problems. Page 4 NetArchitect is a network modeling tool that has an intuitive, easy-to-use, Windows-based Graphical User Interface. This package is designed for the Network Administrator who has the responsibility of designing and installing a new network, or maintaining and expanding existing structures. As network requirements become increasingly more complex, computer-aided tools will be mandatory to sort through and evaluate the many issues and possibilities prior to the investment and installation of significant amounts of capital equipment. With these capabilities in mind, NetArchitect also has practical applications as a pre-sales tool for systems integrators, VARs, and other channels selling or consulting on network management. NetArchitect runs under Windows 3.X, Windows 95 and Windows NT. MatriDigm Corporation In November 1995, Zitel invested $3,350,000 in cash, $66,000 in equipment and $150,000 in future rent and administrative services in exchange for preferred stock and certain technology rights of a newly-formed company, MatriDigm Corporation ("MatriDigm"), which represented 37.5% of the capital stock of MatriDigm on a fully-converted basis. MatriDigm was formed to provide COBOL maintenance and re-engineering services. As of December 15, 1996, Zitel beneficially owned approximately 33% of the outstanding capital stock on a fully-converted basis. Zitel's percentage ownership will change as MatriDigm raises additional capital and as options under MatriDigm's stock option plan vest and are exercised. The initial focus of MatriDigm has been development of technology to automate the conversion of legacy software code which could not recognize or utilize dates after the year 1999 (the "Year 2000 Problem") into code which is able to recognize and utilize dates into the next century. MatriDigm has devoted substantially all of its resources to development of such technology and has stated that it expects to announce general availability of its conversion services early in 1997. Substantially all software programs written assume that the first two digits of any date are "19" and cannot recognize or utilize dates commencing with the year 2000. Estimates of the cost and available market for conversion of existing code to eliminate this problem are in the hundreds of billions of dollars. A large number of companies, many of which have substantially greater resources than MatriDigm, are offering conversion services or are developing systems to provide such services and competition is expected to be intense among the providers of such services. Page 5 MatriDigm believes that the software systems it is developing will have substantial advantages over the currently available systems. However, as with all development projects, there are risks that the software in development will not be successfully developed, will take longer to develop than MatriDigm currently expects, will not have the functionality currently planned or will have "bugs" or other problems rendering the commercial provision of conversion services more difficult or impossible. MatriDigm has stated that it expects to announce general availability of its conversion services in January 1997, but general availability may differ materially from that expectation. In August 1996, Zitel was authorized to become a reseller of MatriDigm's year 2000 compliance services on a commission basis. Zitel has established a new division to market those services and is in the process of staffing, training and performing preliminary marketing efforts. The reseller agreement also provides Zitel the exclusive right to create portable, on-site centers for the performance of services offered by the Company for certain accounts in certain circumstances. The Company's ability to generate sales and revenues is dependent on the success of MatriDigm's development effort and there is no assurance that the Company will be successful in generating profitable sales of conversion services. Marketing and Customers Zitel offers its products through system integrators, value-added resellers and distributors, OEMs, and directly to end users. Zitel's direct sales and service staff consists of employees who operate from Arizona, California, Florida, Kansas, Massachusetts, New Jersey, New York, Pennsylvania, Tennessee, Virginia, and Europe. In fiscal 1996, Proven Technology and Banamex accounted for 13.0% and 11.8% of net sales, respectively. In fiscal 1995, Lockheed Martin Missiles and Space Company accounted for 14.3% of net sales. In fiscal 1994, Unisys Mexico accounted for 14.5% of net sales During fiscal 1996, Zitel sold to approximately 113 customers, both domestically and internationally. Foreign and export sales were approximately $4.3 million in fiscal 1996, up from approximately $3.1 million in fiscal 1995. Page 6 Zitel does not maintain a field service organization. Typically, customers contract with a third party to maintain products. The end-user organization is staffed with experienced technical support personnel to make or assist in the initial installations; assist the service organization with problem resolution and field upgrades; assist customers in determining whether or not Zitel products can improve system reliability, performance and cost effectiveness; and in helping customers determine how best to deploy Zitel products in their system to achieve the maximum benefit. Competition During fiscal 1996, the Company generated a majority of its net sales in the Unisys end user market. Unisys Corporation offers alternative products by which a computer user can achieve enhanced performance. Zitel products compete against these alternatives in providing the customer with the best performance solution. Zitel also competes with other independent manufacturers of devices in the Unisys market and several system integrators. During fiscal 1996, competition remained at a high level and average sales prices continued to decline. Depending on the other markets served, the Company may compete with the computer manufacturer and/or third party companies. Patents Management believes that technical expertise, responsiveness to user requirements and implementation of technological advances are mandatory factors in Zitel's markets. Zitel applied for additional patent protection on certain elements of its CASD products, VAM software products and other products in the development stage. During the year, the Company received one patent on one of its other products, bringing the total patents currently held to five. There can be no assurance that any of the other patents applied for will be issued or, if issued, provide any meaningful protection. Manufacturing and Suppliers Zitel manufactures a large percentage of its hardware products from standard component parts and subassemblies purchased from others. Certain of these parts, including printed circuit boards and subassemblies, are produced from Zitel's design and to its specifications. Use of such standard items simplifies the manufacturing process, reduces the number of items carried in Page 7 inventory and permits Zitel to expand its product line while minimizing the expense of designing and developing new assemblies. The Company utilizes various subcontractors to assemble and solder printed circuit boards using material purchased by the Company or to produce surface mount ASICs to Zitel's workmanship standards. Completed assemblies are then inspected by Zitel's receiving inspection department and submitted to its manufacturing test operation. This test operation provides board-level and system-level testing under stressed operating conditions. The Company's hardware products use a large number of components that are generally available from several sources and the Company believes that the loss of one or more of its suppliers will not have a material effect on operations. Employees At the end of fiscal 1996, the Company employed 105 persons on a full time basis, 36 in research and development, 16 in manufacturing, 29 in sales and marketing, and 24 in general management and administration. The Company believes that its further success will depend, in part, on its ability to attract and retain qualified employees, who are in great demand. None of Zitel's employees are represented by a labor union and the Company believes that its employee relations are good. Item 2: PROPERTIES Zitel leases its primary manufacturing and office facility under a noncancelable operating lease, which expires in March 1998, with an average annual rent of approximately $502,000 per annum. Item 3: LEGAL PROCEEDINGS None. Item 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The Company did not submit any matters to a vote of security holders during the fourth quarter of the fiscal year ended September 30, 1996. Page 8 Executive Officers of the Registrant Set forth below is information regarding executive officers of the Company who are not directors. Name Age Position Richard F. Harapat 61 Vice President, International Sales Henry C. Harris 48 Vice President, Finance and Administration; Chief Financial Officer; Chief Accounting Officer; Secretary Jesse I. Stamness 50 Vice President, Engineering Frank J. Vukmanic 50 Vice President, Domestic Sales Richard F. Harapat joined Zitel as Director of International Sales in March of 1986. In October of 1987, he was promoted to Vice President of End User Sales and, in mid-1992, to Vice President of International Sales. Prior to joining Zitel, he spent over 30 years in the computer industry in the sales management area, 15 of which were with Burroughs Corporation. Henry C. Harris, CPA, joined Zitel as Vice President of Finance and Administration, Chief Financial Officer and Chief Accounting Officer in December 1986. He has served as Secretary of the Company since November 1987. Prior to joining Zitel, he was employed by Dynamic Disk, Inc. as Vice President of Finance and Administration and Chief Financial Officer from October 1983 until November 1986. Prior to Dynamic Disk, he spent over 10 years in financial management and public accounting positions. Jesse I. Stamness joined Zitel in May 1991. He has over 26 years of development experience in data storage and storage controller products for various markets including IBM and Unisys. Mr. Stamness has been granted many patents in disk storage controller and caching technology and currently has several patents pending on technology recently released. He has held senior engineering management positions at Unisys Corporation, Memorex Corporation and Burroughs Corporation. Frank J. Vukmanic joined Zitel in June 1994 as Vice President of Marketing, which he relinquished in February 1996 to become Vice President of Domestic Sales. Prior to joining Zitel, Mr. Vukmanic was CEO of Edgetech International, a consulting firm, from October 1993 until joining Zitel. From June 1989 to September 1993, Mr. Vukmanic was Sr. Vice President of Amperif Corporation responsible for worldwide sales, marketing, customer Page 9 support, and customer engineering for mass storage products. For 19 years prior to joining Amperif, Mr. Vukmanic held various sales and marketing management positions with Unisys Corporation. His experience includes over 25 years in sales, marketing, product management, customer service and support management, and program management. Zitel, CASD and RAMdisk are registered trademarks of Zitel Corporation. NetArchitect and VAM are trademarks of Zitel Corporation. Digital is a trademark of Digital Equipment Corporation. IBM, MVS and RAMAC are registered trademarks of IBM Corporation. MatriDigm is a trademark of MatriDigm Corporation. Windows NT is a trademark of Microsoft Corporation. Unisys is a registered trademark of Unisys Corporation. Unisys A and V are trademarks of Unisys Corporation. UNIX is a registered trademark of UNIX Systems Laboratories, Inc., in the United States and other countries. All other product names are trademarks or registered trademarks of their respective holders. Page 10 PART II Item 5: MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Zitel Corporation's common stock is traded in the over-the-counter market and is listed on the Nasdaq National Market System under the symbol ZITL. The following table shows the quarterly high and low closing prices in the Nasdaq National Market System after giving effect to the two-for-one stock split on November 27, 1996: FISCAL 1996 1995 ------------------- ------------------- High Low High Low -------- -------- -------- -------- First Quarter 6 3/8 4 11/16 6 13/16 3 15/16 Second Quarter 6 15/16 5 1/16 10 3/8 5 13/16 Third Quarter 10 6 1/16 6 1/2 4 1/16 Fourth Quarter 10 1/8 5 1/8 6 13/16 4 5/8 As of September 30, 1996, the Registrant had approximately 251 shareholders of record of its Common Stock. The Company has paid no cash dividends on its common stock and does not plan to pay cash dividends to its shareholders in the foreseeable future. Item 6: SELECTED FINANCIAL DATA Five-Year Financial Summary (In thousands except per share data) 1996 1995 1994 1993 1992 Total Revenue $23,066 $23,714 $17,452 $21,780 $47,771 Net income (loss) 4,049 8,526 (6,961) (8,277) 783 Net income (loss) per share .26 .56 (.55) (.67) .06 Number of shares used in per share calculation 15,626 15,166 12,654 12,358 13,110 At year end: Working capital 20,445 19,969 7,202 15,668 18,374 Total assets 30,699 26,206 13,678 24,230 32,442 Long-term liabilities - - 13 4,355 305 Shareholders' equity 27,089 22,957 10,004 16,203 23,802 Page 11 Item 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the five-year summary of selected financial data and the Company's consolidated financial statements and notes thereto. Business Zitel Corporation (the "Company") specializes in the design, manufacture and marketing of high-performance, mission-critical storage subsystems for relational database, batch and on-line transaction processing. The Company also develops and markets single-system and multi-system performance management and modeling software used on a variety of UNIX and proprietary platforms to manage the performance of client/server environments. These products are marketed worldwide through a wide variety of channels including systems integrators, value-added resellers and distributors, OEMs, and directly to end users. The Company has recently been appointed as an authorized reseller of the Year 2000 services by an affiliated company. It has not completed development of its Year 2000 services and no revenue has been generated from this activity. 1996 vs. 1995 Total revenue for 1996 was $23,066,000 compared with revenue of $23,714,000 in the prior year, a decrease of 3%. The decrease in total revenue is attributable to a decrease in royalty revenue based upon the sale of products incorporating the Company's technology by a third party from $15,421,000 to $14,473,000. The third party has recently commenced shipping a third generation product incorporating the Company's technology and management is not yet in a position to express a view on the level of future royalty revenue. Net sales were approximately level year to year with increases in sales of CASD products into the Unisys Corporation computer systems market offsetting the absence of sales of products discontinued or sold in fiscal 1995. Net sales into the open system market were not a material portion of the Company's sales until the fourth quarter of the year. While management has been encouraged by the initial reception of these products, the Company's ability to sell these products in quantities and at prices resulting in profitable operations is yet to be established. Page 12 Cost of goods sold as a percentage of net sales decreased to 77% in 1996 from 82% of net sales in the prior year. The improvement in cost of goods sold was attributable to lower material and production costs of the newly introduced CASD-II. The average sales price per megabyte of product sales declined by nearly 50% during the year. Research and development expenses were 28% of total revenue versus 24% of total revenue in the prior year. Spending increased $797,000, primarily attributable to enhancements of existing products and the development of new products. The increase was primarily related to increased salary and related costs, consulting costs and costs associated with chip development. Selling, general and administrative expenses were 35% of total revenue versus 29% of total revenue in the prior year. Actual spending increased $1,058,000. The increase is primarily attributable to an increase in bad debt expense of $367,000 resulting from a bad debt reversal in the prior year and increases in expenses in a wide variety of expense categories. Included in interest and other income is a gain on trading securities of $4,177,000 of which $2,136,000 has been realized. Also included is interest income in fiscal 1996 of $482,000 versus $399,000 in 1995. The increase is primarily related to higher cash balances invested in fiscal 1996 versus 1995. In 1996, the Company recorded a tax provision of 38% of income before income taxes. In 1995, the Company recorded a tax provision of 33.2% of income before income taxes, which was offset by the utilization of net operating losses and the recognition of deferred tax assets in accordance with SFAS No. 109, "Accounting for Income Taxes," totaling $5,500,000. On November 27, 1996, the Company's common stock was split two-for-one in the form of a stock dividend to shareholders of record on November 18, 1996. All applicable share and per-share data in these financial statements have been restated to give effect to the stock split. 1995 vs. 1994 Total revenue for 1995 was $23,714,000 compared with revenues of $17,452,000 in the prior year, an increase of 36%. The increase in revenue was attributable to an increase of $8,743,000 in Page 13 royalties, partially offset by a decrease of $2,481,000 in net sales. Fiscal 1995 represented the first full year that royalties based on a third party's sales of products incorporating the Company's technology were received. In 1994, royalties represented a one-time non-refundable prepayment of $6,378,000 from this third party and $300,000 from product sales in the fourth quarter of the fiscal year. The decrease in net sales continued to impact operational profitability excluding royalty revenue. The decrease in net sales was primarily attributable to competitive factors in the data storage market which have made the Company's original generation of CASD products a less cost effective solution for end-users of Unisys Corporation computer systems. A new generation of CASD products for the Unisys market was announced for general availability in early October 1995. Cost of goods sold as a percentage of net sales decreased to 82% during 1995 from 90% of net sales in the prior year. The improvement in gross margin is primarily attributable to a decrease in other cost of sales which do not vary directly with sales volume. Research and development expenses were 24% of total revenue versus 41% of total revenue in the prior year. Spending decreased $1,317,000, primarily attributable to decreased development spending as a result of the completion of a major development program, and lower salary and related costs in connection with a reduction in personnel. Selling, general and administrative expenses were 29% of total revenue versus 43% of total revenue in the prior year. Actual spending decreased $586,000. The decrease was primarily attributable to the reversal of a bad debt reserve for an expected collection of a receivable ($350,000). Interest expense in fiscal 1995 was $57,000 versus $310,000 in the prior year. The decrease was primarily attributable to lower levels of debt in fiscal 1995 versus 1994. Interest income in fiscal 1995 was $399,000 versus $174,000 in 1994. The increase is primarily related to higher cash balances invested in fiscal 1995 versus 1994. In 1995, the Company recorded a tax provision of 33.2% of income before income taxes. This provision was offset by the Page 14 utilization of net operating losses and the recognition of deferred tax assets in accordance with SFAS No. 109, "Accounting for Income Taxes," totaling $5,500,000. Liquidity and Capital Resources The Company's principal sources of working capital are product sales and royalty revenue. Working capital increased $476,000 during fiscal 1996 and cash flows provided by operations were $626,000. Cash flows from operating activities were generated primarily from net income of $4,049,000, a decrease in deferred and refundable taxes of $2,124,000, an increase in accounts payable of $341,000 and depreciation and amortization of $935,000. This was offset by an increase in marketable securities of $2,382,000, an increase in accounts receivable of $1,342,000 and an increase in inventory of $1,224,000. Net cash used in investing activities was $2,745,000. $1,676,000 was used to purchase capital equipment in the current year and $3,497,000 was utilized to invest in a private company. This was offset by the proceeds of $2,795,000 from the sale of a trading security. Net cash provided by financing activities in the current year was $70,000. $989,000 was generated from the exercise of employee stock options and from the sale of stock under the Company's employee stock purchase plan. This was offset by the repurchase of 130,000 shares of the Company's common stock for $906,000. The Company had a $3,000,000 line of credit during the year that was extended to November 30, 1996. The Company did not utilize the line of credit during the year. Management believes that the Company will meet its cash requirements from current cash on hand, other existing working capital, cash flows from operations, and the utilization of the line of credit. Page 15 Item 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Consolidated Balance Sheets (In thousands) September 30, 1996 1995 Assets Current assets: Cash and cash equivalents $ 9,216 $ 11,265 Marketable securities 2,382 - Accounts receivable, less allowance for doubtful accounts of $88 in 1996 and in 1995 5,542 4,200 Inventories 4,211 2,987 Deferred and refundable taxes 2,224 4,348 Other current assets 480 418 -------- -------- Total current assets 24,055 23,218 Fixed assets-net 2,253 1,419 Other assets-net 4,391 1,569 -------- -------- Total assets $ 30,699 $ 26,206 ======== ======== Liabilities And Shareholders' Equity Current liabilities: Accounts payable $ 2,066 $ 1,725 Accrued liabilities 1,544 1,524 -------- -------- Total current liabilities 3,610 3,249 Commitments (See note) Shareholders' equity: Preferred stock, no par value; 1,000 shares authorized, none issued Common stock, no par value; 20,000 shares authorized: Issued and outstanding; 14,820 shares and 14,552 shares at September 30, 1996 and 1995, respectively 20,723 19,916 Retained earnings 6,366 3,041 -------- -------- Total shareholders' equity 27,089 22,957 -------- -------- Total liabilities and shareholders' equity $ 30,699 $ 26,206 ======== ======== The accompanying notes are an integral part of these consolidated financial statements. Page 16 Consolidated Statements of Operations (In thousands except per share data) Year Ended September 30, 1996 1995 1994 Net sales $ 8,593 $ 8,293 $10,774 Royalty revenue 14,473 15,421 6,678 ------- ------- ------- Total revenue 23,066 23,714 17,452 Costs and expenses: Cost of goods sold 6,630 6,807 9,682 Research and development 6,551 5,754 7,071 Selling, general and administrative 8,002 6,944 7,530 ------- ------- ------- Operating income (loss) 1,883 4,209 (6,831) Interest and other expense 25 156 419 Interest and other income (4,670) (418) (289) ------- ------- ------- Income (loss) before income taxes 6,528 4,471 (6,961) Provision (benefit) for income taxes 2,479 (4,055) - ------- ------- ------- Net income (loss) $ 4,049 $ 8,526 $(6,961) ======= ======= ======= Net income (loss) per share $ .26 $ .56 $ (.55) ======= ======= ======= Number of shares used in per share calculation 15,626 15,166 12,654 ======== ======= ======= The accompanying notes are an integral part of these consolidated financial statements. Page 17 Consolidated Statements of Shareholders' Equity (In thousands except per share data)
Common Common Retained Total Stock Stock Earnings Shareholders' Shares Amount (Deficit) Equity Balances at September 30, 1993 12,466 $14,727 $ 1,476 $16,203 Issuance of common stock: Stock options exercised ($0.34-$3.82 per share) 308 504 - 504 Employee stock purchase plan ($1.07 and $1.65 per share) 196 258 - 258 Net loss - - (6,961) (6,961) ------ ------- ------- ------- Balances at September 30, 1994 12,970 15,489 (5,485) 10,004 Issuance of common stock: Stock options exercised ($0.34-$4.57 per share) 544 1,262 - 1,262 Employee stock purchase plan ($1.07 and $3.83 per share) 134 230 - 230 Private placement 900 2,922 - 2,922 Stock warrants 4 13 - 13 Net income - - 8,526 8,526 ------ ------- ------- ------- Balances at September 30, 1995 14,552 19,916 3,041 22,957 Issuance of common stock: Stock options exercised ($0.82-$7.94 per share) 310 686 - 686 Employee stock purchase plan ($4.15 and $5.10 per share) 66 303 - 303 Stock repurchase (130) (182) (724) (906) Stock warrants 22 - - - Net income - - 4,049 4,049 ------ ------- ------- ------- Balances at September 30, 1996 14,820 $20,723 $ 6,366 $27,089 ====== ======= ======= ======= The accompanying notes are an integral part of these consolidated financial statements.
Page 18 Consolidated Statements of Cash Flows (In thousands)
Year Ended September 30, 1996 1995 1994 Cash flows provided by (used in) operating activities: Net income (loss) $ 4,049 $ 8,526 $(6,961) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Depreciation and amortization 935 1,384 2,495 Loss on disposal of fixed assets 15 111 212 Provision for doubtful accounts 185 114 237 Provision for inventory allowances 480 176 233 Unrealized gains on marketable securities (2,041) - - Realized gains on marketable securities (2,136) - - Deferred and refundable income taxes 2,124 (4,104) 1,412 Decrease (increase) in accounts receivable (1,527) (529) 213 Decrease (increase) in inventories (1,770) 1,825 3,276 Decrease (increase) in other current assets (62) 418 722 Increase (decrease) in accounts payable 341 (298) 755 Increase (decrease) in accrued liabilities 33 (50) 226 Decrease in other long-term liabilities - - (113) Royalty revenues utilized to retire note payable - - (5,000) ------- ------- ------- Net cash provided by (used in) operating activities 626 7,573 (2,293) ------- ------- ------- Cash flows provided by (used in) investing activities: Acquisition of fixed assets (1,676) (1,222) (566) Investment in unconsolidated company (3,497) - - Sale of trading security 2,795 - - Purchase of other assets (367) (446) (66) ------- ------- ------- Net cash used in investing activities (2,745) (1,668) (632) ------- ------- ------- Cash flows provided by (used in) financing activities: Issuance of common stock 989 4,427 762 Repurchase of common stock (906) - - Proceeds from borrowings - 3,646 - Repayments of borrowings (13) (3,723) (221) ------- ------- ------- Net cash provided by financing activities 70 4,350 541 ------- ------- ------- Net increase (decrease) in cash (2,049) 10,255 (2,384) Cash and cash equivalents, beginning of year 11,265 1,010 3,394 ------- ------- ------- Cash and cash equivalents, end of year $ 9,216 $11,265 $ 1,010 ======= ======= ======= The accompanying notes are an integral part of these consolidated financial statements.
Page 19 Notes to Consolidated Financial Statements (In thousands except per share data) Summary of Significant Accounting Policies: Zitel Corporation (the "Company") specializes in the design, manufacture and marketing of high-performance, mission-critical storage subsystems for relational database, batch and on-line transaction processing. The Company also develops and markets single-system and multi-system performance management and modeling software used on a variety of UNIX and proprietary platforms to manage performance of client/server environments. These products are marketed worldwide through a wide variety of channels including systems integrators, value-added resellers and distributors, OEMs, and directly to end users. Additionally, the Company is a reseller of Year 2000 services. Zitel conducts its business within one industry segment. The following is a summary of Zitel's significant accounting policies: Principles of Consolidation: The consolidated financial statements include the accounts of Zitel Corporation and its wholly-owned subsidiaries. Zitel's preferred stock interest in the unconsolidated company is accounted for under the equity method. All significant intercompany accounts and transactions have been eliminated. Use of Estimates: The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount 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 these estimates. Cash Equivalents: For purposes of the statements of cash flows, the Company considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. Page 20 Marketable Securities: At September 30, 1996, the Company's marketable securities consisted entirely of common shares of one company and were classified as trading securities. The Company has entered into an agreement whereby it will not sell such shares until January of 1997, after which time the Company intends to sell the shares, dependent upon market conditions. The cost of the marketable securities was $341 thousand and the fair market value of the securities on September 30, 1996 was $2,382 thousand. The difference between the cost of those securities and their fair market value based on quoted market prices on September 30, 1996, is included in other income. Inventories: Inventories are stated at the lower of cost (determined on a first-in, first-out basis) or market. Fixed Assets: Fixed assets, other than leasehold improvements, are depreciated on a straight-line basis over their estimated useful lives (2-7 years). Leasehold improvements are amortized over the lesser of their useful life or remaining term of the related lease. When assets are disposed of, the cost and related accumulated depreciation are removed from the accounts and the resulting gains and losses are included in the results of operations. Deferred Software Implementation Costs: The Company capitalizes substantially all costs related to the purchase of software and its implementation which includes purchased software, consulting fees and the use of certain specified Company resources. As of September 30, 1996, $238 thousand in costs had been capitalized and are included in other long-term assets. No amortization has been charged as of September 30, 1996. Revenue Recognition: Revenue is recognized at the time products are shipped to customers and at the time services are rendered. Royalty revenue is recognized when earned and receipt is assured. Page 21 Research and Development Expenditures: Research and development expenditures are charged to operations as incurred. Foreign Currency Translation: The U.S. dollar is considered to be the functional currency for the Company's foreign operations. Accordingly, non-monetary assets and liabilities have been translated into U.S. dollars at a historical rate; monetary assets and liabilities have been translated into U.S. dollars using the exchange rate at the balance sheet date; and revenues and expenses have been generally translated into U.S. dollars at the weighted average exchange rate during the period. Foreign currency transaction gains and losses, as well as the effects of translation (which have not been material in the aggregate), are included in the accompanying statements of operations. Income Taxes: The Company accounts for income taxes under the liability method. Deferred tax assets and liabilities are determined based on the difference between the financial reporting and tax bases of assets and liabilities and are measured using enacted tax rates and laws that will be in effect when the differences are expected to reverse. Recent Accounting Pronouncement: During March 1995, the Financial Accounting Standards Board issued Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of," which requires the Company to review for impairment long-lived assets, certain identifiable intangibles and goodwill related to those assets whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In certain situations, an impairment loss would be recognized. Statement No. 121 will be effective for the Company's fiscal year 1997. The Company has studied the implications of the statement and based on its initial evaluation, does not expect it to have a material impact on the Company's financial condition or results of operations. During October 1995, the Financial Accounting Standards Board issued Statement No. 123 (SFAS No. 123), "Accounting for Stock- Page 22 Based Compensation," which establishes a fair value based method of accounting for stock-based compensation plans. The Company is currently following the requirements of APB Opinion No. 25, "Accounting for Stock Issued to Employees." The Company will adopt SFAS No. 123 in fiscal year 1997 utilizing the disclosure alternative. Net Income (Loss) Per Share: Net income (loss) per share amounts are computed by dividing the net income (loss) by the weighted average number of common shares and common equivalent shares (when dilutive) outstanding during each year presented using the treasury stock method. Concentrations of Credit Risk: Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of cash and trade receivables. The Company places its cash investments with high credit quality financial institutions and limits the amount of exposure to any one financial institution. Concentrations of credit risk with respect to trade receivables are limited due to the diversity of the Company's customers both geographically and within different industry segments. Year Ended September 30, 1996 1995 1994 Supplemental Cash Flow Information: Cash paid during the period for: Interest $ - $ 57 $310 Income taxes 82 136 19 Fair Value of Financial Instruments: Carrying value amounts of certain of the Company's financial instruments, including cash and cash equivalents, accounts receivable, accounts payable and other accrued liabilities approximate fair value due to their short maturities. September 30, 1996 1995 Inventories: Raw materials $ 1,515 $ 734 Work in progress 738 733 Finished goods 1,958 1,520 ------- ------- $ 4,211 $ 2,987 ======= ======= Page 23 September 30, 1996 1995 Fixed Assets: Manufacturing equipment $ 3,666 $ 3,504 Office furniture and equipment 2,250 2,197 Engineering equipment 4,334 4,462 Leasehold improvements 666 638 ------- ------- 10,916 10,801 Less accumulated depreciation and amortization (8,663) (9,382) ------- ------- $ 2,253 $ 1,419 ======= ======= Other Assets: Investment in unconsolidated companies $ 3,563 $ 1,000 Other 1,252 885 ------- ------- 4,815 1,885 Less accumulated amortization (424) (316) ------- ------- $ 4,391 $ 1,569 ======= ======= Investment in Unconsolidated Companies: At September 30, 1995, Zitel had a $1.0 million investment in a company which was accounted for under the cost method. During fiscal year 1996, the company completed its initial public offering and Zitel sold a portion of its investment. The remaining investment is classified as a trading marketable security at September 30, 1996. In November 1995, Zitel purchased 9.6 million shares of preferred stock and certain technology rights, to be commercialized, of a company in the development stage, in exchange for $3.35 million in cash, $66 thousand in equipment and $150 thousand in future rent and administrative services. As of September 30, 1996, the company had utilized approximately $147 thousand of such rent and administrative services. The technology rights include an exclusive license to manufacture and market certain products using proprietary technology of the company, subject to a royalty to the company. Zitel also has an option to purchase 500 Page 24 thousand shares of the company's common stock from a shareholder of the company at $.60 per share, exercisable beginning July 1997. The following is a summary of financial information with respect to the company, as of September 30, 1996: Net sales $ - Gross profit - Net loss (1,873) Current assets 2,612 Non-current assets 1,009 Current liabilities 324 In July 1996, Zitel entered into an agreement to resell services of the company on a commission basis. The agreement also provides Zitel the exclusive right to create portable, on-site centers for the performance of services offered by the company for certain accounts in certain circumstances. Note Receivable From Related Party: The Company holds a note receivable from an officer of an unconsolidated company. The note bears interest at 8% per annum and has a principle balance of $300 thousand. As of September 30, 1996, interest in the amount of $18 thousand has been prepaid on the note. The note is included in other long-term assets at September 30, 1996. September 30, 1996 1995 Accrued Liabilities: Accrued payroll and related $ 435 $ 637 Accrued vacation 594 526 Accrued commissions 24 24 Other accrued liabilities 491 337 ------- ------- $ 1,544 $ 1,524 ======= ======= Line of Credit: The Company has a $3.0 million bank line of credit which expired on September 30, 1996 and was subsequently extended to November 30, 1996. Interest is at the prime rate (8.25% at September 30, 1996) and is payable monthly. The Company is required to Page 25 maintain certain specified financial ratios and profitable operations on a quarterly basis. As of September 30, 1996, the Company had no borrowings outstanding under the line of credit. Commitments: The Company leases its primary manufacturing and office facility under a noncancelable operating lease which expires in March 1998. The Company is responsible for taxes, maintenance and insurance. Rent expense incurred under all operating leases and charged to operations was $574 thousand in 1996, $606 thousand in 1995 and $682 thousand in 1994. Future minimum obligations under the facility lease at September 30, 1996 aggregate approximately $753 thousand, payable as follows: Fiscal Year 1997 $502 1998 251 Capital Stock: - ------------- Preferred Stock: In October 1983, the Company authorized one million shares of preferred stock. The Board of Directors has the authority to establish all rights and terms with respect to the preferred stock without future vote or action by the shareholders. Private Placement: In November 1994, the Company issued 900 thousand shares of common stock in a private placement. Net proceeds from this transaction were $2.9 million. Common stock purchase warrants totaling approximately 46 thousand were issued as a part of this transaction. The warrants, which are immediately exercisable at $3.51 per share, expire in December 1999. Stock Option Plans: At September 30, 1996, the Company had reserved 4.6 million common shares for issuance under its 1990 Stock Option, 1982 Incentive Option and 1984 Supplemental Stock Option Plans. Under the Company's stock option plans, options become exercisable at Page 26 dates and in amounts as specified by the Compensation Committee of the Board of Directors and expire two to ten years from the date of grant. Options may be granted to employees at prices not less than fair market value at the date of grant. At September 30, 1996, there were no shares reserved for future grants. Activity in the Company's option plans during fiscal 1996 is summarized as follows: Options Outstanding Shares Per Share Amount Total Balances, September 30, 1995 1,860 $ .34-$9.50 $ 5,377 Granted 260 $4.82-$9.88 1,851 Canceled (40) $1.19-$7.94 (190) Exercised (310) $ .82-$7.94 (660) ----- ----------- ------- Balances, September 30, 1996 1,770 $ .34-$9.88 $ 6,378 ===== ======= At September 30, 1996, options for 1,044 thousand shares were exercisable at prices ranging from $0.34 to $9.88. Preferred Share Purchase Rights Plan: In June 1996, the Company adopted a Preferred Share Purchase Rights Plan whereby shareholders will receive one right to purchase one one-hundredth of a share of a new series of preferred stock ("Rights") for each outstanding share of the Company's common stock held at the date of record, July 1, 1996. The Rights do not become exercisable or transferable apart from the common stock until a person or group (a) acquires beneficial ownership of 15% or more of the Company's common stock or (b) announces a tender or exchange offer, the consummation of which would result in ownership by a person or group of 15% or more of the Company's common stock. The Rights will be distributed as a non-taxable dividend and will expire in ten years from the date of declaration of the dividend. The exercise price is $69.50 per 1/100 of a share of preferred stock. Employee Benefit Plans: - ---------------------- Stock Purchase Plan: In April 1984, the Board of Directors approved the adoption of an Employee Stock Purchase Plan under which 400 thousand shares of common stock were reserved for issuance to eligible employees. Page 27 In January 1988, January 1990, January 1992, and January 1995, the shareholders approved amendments to increase the shares reserved for the Plan by 300 thousand shares, 400 thousand shares, 400 thousand shares, and 500 thousand shares, respectively. Employees who do not own 5% or more of the outstanding shares are eligible to participate through payroll deductions, which may not exceed 10% of an employee's compensation. At the end of each offering period, shares are purchased by the participants at 85% of the lower of the fair market value at the beginning or the end of the offering period. The 15% discount is treated as equivalent to the cost of issuing stock for financial reporting purposes. 66 thousand shares were issued under the Plan during fiscal 1996. Since inception of the Plan, approximately 1,600 thousand shares have been issued. Savings and Investment Plan: The Company has a Savings and Investment Plan, qualified under sections 401(k) and 401(a) of the Internal Revenue Code, that enables participating U.S. employees to prepare for retirement. The Plan allows eligible employees to defer up to 15%, but no greater than $9.5 thousand per year, of their earnings on a pre-tax basis through contributions to the Plan. The Plan provides for employer contributions at the discretion of the Board of Directors; however, no such contributions were made in fiscal 1996, 1995, or 1994. Income Taxes: For the year ended September 30, 1994, there was no provision for income taxes. The provision (benefit) for income taxes for the years ended September 30, 1996 and 1995 is as follows: 1996 1995 Current expense: Federal $ 77 $ 125 State 23 - Foreign - 7 ------- ------- 100 132 Deferred tax expense (benefit): Federal 2,091 (3,735) State 288 (452) ------- ------- $ 2,479 $(4,055) ======= ======= Page 28 The Company's effective tax rate for the years ended September 30, 1996 and 1995 differs from the U.S. federal statutory income tax rate as follows: 1996 1995 Federal income tax at statutory rate 34.0% 34.0% State taxes, net of federal benefit 6.1 6.1 Tax credits (2.7) (9.7) Other, net .6 2.8 Net operating losses utilized - (33.5) Change in valuation allowance - (90.4) ------- ------- 38.0% (90.7%) ======= ======= The following table shows the major components of the deferred tax asset as of September 30, 1996 and 1995: Deferred tax assets and liabilities: 1996 1995 Current: Accounts receivable, inventory and other reserves $ 694 $ 691 Accrued liabilities 286 264 Net operating losses 373 1,673 Tax credit carryforwards 1,015 1,114 Appreciation of marketable securities (819) - Other 259 445 ------- ------- Net deferred tax asset $ 1,808 $ 4,187 ======= ======= At September 30, 1996, the Company has federal and state net operating loss (NOL) carryforwards of $1.0 million and $.5 million, respectively, to reduce future taxable income. These carryforwards expire in 1998 through 2009, if not utilized. As a result of the acquisition of CHI Systems, Inc. in 1992, CHI Systems experienced a change of ownership as defined by the Internal Revenue Code. Consequently, utilization of approximately $500 thousand and $100 thousand of the Company's federal and state NOL carryforwards, respectively, will be subject to an annual limitation of approximately $100 thousand available to offset CHI Systems' separate taxable income. These carryforwards expire in 1998 through 2008, if not utilized. Page 29 Research and Development Contract: During fiscal year 1992, the Company entered into a joint development contract to develop a product with a third party. The Company received funding from the third party based on completion milestones. In addition, upon completion of the project, the Company has and will receive a royalty based on sales by the third party of the product developed. All expenses incurred by the Company were charged to research and development expense as incurred. Amounts received from the third party were recognized as a reduction of research and development expense on a percentage of completion basis and amounted to $1,101 thousand for the year ended September 30, 1994. For the year ended September 30, 1994, the Company incurred expenses of $2,928 thousand related to the contract. Royalties totaling approximately $14.5 million, $15.4 million and $300 thousand were received from the third party in fiscal years 1996, 1995 and 1994, respectively. Foreign Operations: The Company's foreign operations are those of its European branch and subsidiary. All of their sales are made to unaffiliated European customers. The following table summarizes the Company's European operations: 1996 1995 1994 Net sales $2,924 $1,566 $2,138 Operating income (loss) 585 (124) (489) Total assets 1,368 386 1,176 Export Sales: Export sales from domestic operations were $1.4 million, $1.5 million and $2.8 million in 1996, 1995 and 1994, respectively. Major Customers: Sales to two customers amounted to 13% and 11.8% of net sales in 1996. Sales to one customer amounted to 14.3% and 14.5% of net sales in 1995 and 1994, respectively. Page 30 Subsequent Events: On November 27, 1996, the Company's common stock was split two-for-one in the form of a stock dividend to shareholders of record on November 18, 1996. All applicable share and per-share data in these financial statements have been restated to give effect to the stock split. Page 31 Report of Independent Accountants To the Shareholders and Board of Directors Zitel Corporation We have audited the accompanying consolidated balance sheets of Zitel Corporation and subsidiaries as of September 30, 1996 and 1995, and the related consolidated statements of operations, shareholders' equity, and cash flows for each of the three years in the period ended September 30, 1996. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Zitel Corporation and subsidiaries as of September 30, 1996 and 1995, and the consolidated results of their operations and their cash flows for each of the three years in the period ended September 30, 1996, in conformity with generally accepted accounting principles. COOPERS & LYBRAND L.L.P. COOPERS & LYBRAND L.L.P. San Jose, California October 24, 1996, except for the note entitled "Subsequent Events" to which the date is November 18, 1996. Page 32 Item 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III Item 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information regarding directors under the caption "Election of Directors" of the Proxy Statement for the Annual Meeting of Shareholders to be held February 27, 1997, is incorporated herein by reference. The information regarding executive officers under the caption "Executive Officers of the Registrant" is included herein on pages 9 and 10. Item 11: EXECUTIVE COMPENSATION The information under the caption "Executive Compensation of the Proxy Statement for the Annual Meeting of Shareholders to be held February 27, 1997, is incorporated herein by reference. Item 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information under the caption "Security Ownership of Certain Beneficial Owners and Management" of the Proxy Statement for the Annual Meeting of Shareholders to be held on February 27, 1997, is incorporated herein by reference. Item 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS None. PART IV Item 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) Financial Statements and Schedules The consolidated financial statements, together with the report thereon from Coopers & Lybrand, appear in Item 8 in this Form 10-K. Financial statement schedules not included in this Form 10-K have been omitted because they are not applicable or the required information is shown in the financial statements or the notes thereto. Page 33 (1) Financial Statements: Consolidated Balance Sheets (p. 16) Consolidated Statements of Operations (p. 17) Consolidated Statements of Shareholders' Equity (p. 18) Consolidated Statements of Cash Flows (p. 19) Notes to Consolidated Financial Statements (pgs. 20-31) Report of Independent Accountants (p. 32) (2) Financial Statement Schedules: Report of Independent Accountants (p. 41) SCHEDULE VIII-Valuation and Qualifying Accounts (p. 42) (3) Exhibits Exhibits filed as part of this report are listed below. Certain exhibits have been previously filed with the Commission and are incorporated by reference. Exhibit Number Description - ------- ----------- 3.1 Restated Articles of Incorporation. (7) 3.2 Bylaws. (2) 10.1 1982 Incentive Stock Option Plan, as amended, and form of Stock Option Grant. (3) 10.2 1984 Supplemental Stock Option Plan and form of Stock Option Grant. (3) 10.3 1984 Stock Purchase Plan, as amended through November 1987. (7) 10.4 Agreement dated February 27, 1979 among Robert H. Welch, Jack Melchor, Bernard Wagner, Tony Tadin, John C. Blackie, John J. DePalma, James F. Riley and the Company, amended as of November 15, 1979. (1) 10.5 Agreement for the Sale and Purchase of Intel Memory Product Lines dated as of February 2, 1983 between the Company and Intel Corporation, and amendments dated March 16, 1983, April 22, 1983, June 23, 1983 and October 25, 1983 (portions deleted pursuant to a Confidentiality Order). (1) Page 34 10.6 Stock Purchase Agreement dated September 29, 1980 between the Company and Oxford Venture Fund, Oxford Venture (California) Fund II, and Oxford Venture Offshore Fund. (1) 10.7 Stock Purchase Agreement dated June 2, 1983 between the Company and Oxford Venture Fund, Oxford Venture (California) Fund II, and Oxford Venture Offshore Fund. (1) 10.8 Agreement dated as of October 1, 1983 between the Company and Motorola, Inc. (portions deleted pursuant to a Confidentiality Order). (1) 10.9 Agreement and Plan of Reorganization among the Company, Zitel Merger Corporation and Gifford Computers Systems, Inc. (4) 10.10 Agreement for Purchase and Sale of Assets dated as of November 1, 1985 between the Company and React Corporation with Exhibits (portions deleted pursuant to a Confidentiality Order). (5) 10.11 Agreement for Purchase and Sale of Marketing Rights dated as of June 8, 1986 between the Company and React Corporation (portions deleted pursuant to a Confidentiality Order). (6) 10.12 Lease agreement dated February 7, 1986 between the Company, John Arrillaga, Trustee, and Richard T. Peery, Trustee. (7) 10.13 Senior Management Incentive Plan (SMIP) dated November 18, 1987. (8) 10.14 Unisys Cooperative Marketing Agreement dated April 13, 1990 between the Company and Unisys Corporation and Amendment One effective October 25, 1990. (The Company has applied for confidential treatment of a portion of this Exhibit.) (9) 10.15 Amendment Two to the Unisys Cooperative Marketing Agreement effective February 5, 1991. (10) 10.16 Amendment Three to the Unisys Cooperative Marketing Agreement effective March 31, 1991. (10) 10.17 Amendment Four to the Unisys Cooperative Marketing Agreement effective June 30, 1991. (10) Page 35 10.18 Sublease agreement dated August 11, 1992 between the Company and Credence Systems Corporation. (11) 10.19 Loan and Security Agreement dated August 2, 1993 between the Company and IBM Credit Corporation. (12) 10.20 Development Agreement between the Company and IBM Corporation dated October 14, 1992. (Confidential treatment has been requested for a portion of the exhibit.) (13) 10.21 Amendment No. 1 dated June 23, 1993 to the Development Agreement between the Company and IBM Corporation dated October 14, 1992. (Confidential treatment has been requested for a portion of the exhibit.) (13) 10.22 Amendment No. 2 dated July 26, 1993 to the Development Agreement between the Company and IBM Corporation dated October 14, 1992. (Confidential treatment has been requested for a portion of the exhibit.) (13) 10.23 Amendment No. 3 dated November 29, 1993 to the Development Agreement between the Company and IBM Corporation dated October 14, 1992. (Confidential treatment has been requested for a portion of the exhibit.) (13) 10.24 Amendment No. 4 dated April 15, 1994 to the Development Agreement between the Company and IBM Corporation dated October 14, 1992. (Confidential treatment has been requested for a portion of the exhibit.) (13) 10.25 Loan and Security Agreement, dated as of September 30, 1994, between the Company and CoastFed Business Credit Corporation. (14) 10.26 Accounts Collateral Security Agreement, dated as of September 30, 1994, between the Company and CoastFed Business Credit Corporation. (14) 10.27 Lease Agreement dated February 16, 1995 between the Company and Renco Investment Company. (15) 10.28 Series A Preferred Stock Purchase Agreement between the Company and MatriDigm Corporation dated November 17, 1995. (Confidential treatment has been requested for a portion of the exhibit. The confidential portion has been omitted and filed separately with the Commission.)(16) Page 36 11.1 Statement regarding computation of earnings per share. 22.1 Subsidiaries of the Company. 24.1 Consent of Independent Accountants. 27 Financial Data Schedule. - ---------- (1) Incorporated by reference to the indicated exhibits to the Company's Registration Statement on Form S-1 (File No. 2-87445) filed on October 27, 1983. (2) Incorporated by reference to the indicated exhibits to the Company's Registration Statement on Form S-8 (File No. 2-90366) filed on April 6, 1984. (3) Incorporated by reference to the indicated exhibits to the Company's Registration Statement on Form S-8 (File No. 2-96804) filed on March 29, 1985. (4) Incorporated by reference to the indicated exhibits to the Company's Current Report on Form 8-K filed on September 20, 1984. (5) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 18, 1985. (6) Incorporated by reference to the indicated exhibits to the Company's Quarterly Report on Form 10-Q filed August 14, 1986. (7) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 17, 1987. (8) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 21, 1988. (9) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 20, 1990. (10) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 20, 1991. (11) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 18, 1992. Page 37 (12) Incorporated by reference to the indicated exhibits to the Company's Quarterly Report on Form 10-Q filed August 13, 1993. (13) Incorporated by reference to the indicated exhibits to the Company's Quarterly Report on Form 10-Q filed May 13, 1994. (14) Incorporated by reference to the indicated exhibits to the Company's Annual Report on Form 10-K filed December 22, 1994. (15) Incorporated by reference to the indicated exhibits to the Company's Quarterly Report on Form 10-Q filed May 11, 1995. (16) Incorporated by reference to the indicated exhibits to the Company's Quarterly Report on Form 10-Q filed February 13, 1996 and Form 10-QA filed on December 16, 1996. (b) Reports on Form 8-K None. For the purposes of complying with the amendments to the rules governing Form S-8 under the Securities Act of 1933, the undersigned Registrant hereby undertakes as follows, which undertaking shall be incorporated by reference into Registrant's Registration Statements on Form S-8 No.'s 33-40361 and 33-47697 (filed May 3, 1991 and May 6, 1992). Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act of 1933 and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. Page 38 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. ZITEL CORPORATION By: /s/ Jack H. King ------------------------------ Jack H. King President and Director Chief Executive Officer December 20, 1996 KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Jack H. King and Henry C. Harris, jointly and severally, his attorneys-in-fact, each with the power of substitution, for him in any and all capacities, to sign any amendments to this Report on Form 10-K, and to file the same, with exhibits thereto and other documents in connection herewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or his substitute or substitutes, may do or cause to be done by virtue hereof. Page 39 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Signature Title Date - --------- ----- ---- Jack H. King President and Director December 20, 1996 Jack H. King (Chief Executive Officer) Henry C. Harris Vice President - December 20, 1996 Henry C. Harris Finance and Administration, Secretary (Chief Financial and Accounting Officer) Catherine P. Lego Director December 20, 1996 Catherine P. Lego William R. Lonergan Director December 20, 1996 William R. Lonergan William M. Regitz Director December 20, 1996 William M. Regitz Robert H. Welch Director December 20, 1996 Robert H. Welch Page 40 REPORT OF INDEPENDENT ACCOUNTANTS To the Shareholders and Board of Directors Zitel Corporation Fremont, California Our audit of the consolidated financial statements of Zitel Corporation and Subsidiaries referred to in our report dated October 24, 1996 appearing in Item 8 in this Annual Report on Form 10-K also included an audit of the financial statement schedule listed in Item 14a of this Form 10-K. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein. Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. San Jose, California October 24, 1996 Page 41 SCHEDULE VIII ZITEL CORPORATION VALUATION AND QUALIFYING ACCOUNTS FISCAL YEARS 1994, 1995 AND 1996 Column A Column B Column C Column D Column E -------- -------- -------- -------- -------- Additions Charged to Balance Revenues Write-offs Balance at Beginning and Costs and End of Description of Period and Expense Deductions Period ----------- --------- ----------- ---------- ------ 1994 - -------------- Allowance for Doubtful Accounts $259,000 $ 282,000 $ 45,000 $496,000 Provision for Obsolete Inventory $139,000 $ 730,000 $ 318,000 $551,000 1995 - -------------- Allowance for Doubtful Accounts $496,000 $(408,000) - $ 88,000 Provision for Obsolete Inventory $551,000 $ 278,000 $ 520,000 $309,000 1996 - -------------- Allowance for Doubtful Accounts $ 88,000 - - $ 88,000 Provision for Obsolete Inventory $309,000 $ 480,000 $ 289,000 $500,000 Page 42 EX-11.1 2 COMPUTATION OF NET INCOME (LOSS) PER COMMON EXHIBIT 11.1 ZITEL CORPORATION COMPUTATION OF NET INCOME (LOSS) PER COMMON AND COMMON EQUIVALENT SHARE Year Ended September 30, ------------------------------------- 1994 1995 1996 ----------- ----------- ----------- Average common shares outstanding 12,654,000 14,158,000 14,726,000 Computation of incremental outstanding shares Net effect of dilutive stock options based on treasury stock method 0 1,008,000 900,000 12,654,000 15,166,000 15,626,000 Net income (loss) $(6,961,000) $8,526,000 $4,049,000 Net income (loss) per share $ (0.55) $ 0.56 $ 0.26 Primary and fully diluted income (loss) per share differ by less than one cent in all periods. Page 43 EX-22.1 3 SUBSIDIARIES OF ZITEL CORPORATION EXHIBIT 22.1 SUBSIDIARIES OF ZITEL CORPORATION 1. Zitel International Corporation 47211 Bayside Parkway Fremont, CA 94538-6517 2. Zitel SARL 47211 Bayside Parkway Fremont, CA 94538-6517 3. Zitel Export Corporation 47211 Bayside Parkway Fremont, CA 94538-6517 4. Performance & Modeling, Inc. 47211 Bayside Parkway Fremont, CA 94538-6517 5. CHI Systems, Inc. 47211 Bayside Parkway Fremont, CA 94538-6517 Page 44 EX-24.1 4 CONSENT OF INDEPENDENT ACCOUNTANTS EXHIBIT 24.1 CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the registration statements of Zitel Corporation on Form S-8 (File No.'s 33-40361 and 33-47697) of our report dated October 24, 1996 appearing in Item 8 in this Annual Report on Form 10-K. We also consent to the incorporation by reference of our report on the Financial Statement Schedule, which appears on page 42 of this Form 10-K. Coopers & Lybrand L.L.P. Coopers & Lybrand L.L.P. San Jose, California December 20, 1996 Page 45 EX-27 5 FINANCIAL DATA SCHEDULE
5 Financial Data Schedule for 10-K 1,000 YEAR SEP-30-1996 OCT-01-1995 SEP-30-1996 9,216 2,382 2,204 88 4,211 24,055 10,915 8,662 30,699 3,610 0 20,723 0 0 6,366 30,699 8,593 23,066 6,630 14,553 (4,645) 0 0 6,528 2,479 4,049 0 0 0 4,049 .26 .26
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