-----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, WguGhfVndQLg9fiajoXG3uVN6UIzvhNsRmifdQAcZfSxh1XvBbJS9Y0XmQ3KtqhT a/+qZLch9BvxApoLw5qfGA== 0000950135-99-002303.txt : 19990505 0000950135-99-002303.hdr.sgml : 19990505 ACCESSION NUMBER: 0000950135-99-002303 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990327 FILED AS OF DATE: 19990504 FILER: COMPANY DATA: COMPANY CONFORMED NAME: OPENROUTE NETWORKS INC CENTRAL INDEX KEY: 0000874316 STANDARD INDUSTRIAL CLASSIFICATION: COMPUTER COMMUNICATIONS EQUIPMENT [3576] IRS NUMBER: 042531856 STATE OF INCORPORATION: MA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-19175 FILM NUMBER: 99609621 BUSINESS ADDRESS: STREET 1: NINE TECHNOLOGY DRIVE CITY: WESTBOROUGH STATE: MA ZIP: 01581 BUSINESS PHONE: 5088982800 MAIL ADDRESS: STREET 1: 9 TECHNOLOGY DR CITY: WESTBOROUGH STATE: MA ZIP: 01581 FORMER COMPANY: FORMER CONFORMED NAME: PROTEON INC/MA DATE OF NAME CHANGE: 19930328 10-Q 1 OPENROUTE NETWORKS, INC. 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10 - Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 27, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period _________ to __________. Commission File Number 0-19175 OPENROUTE NETWORKS, INC. ------------------------------------------------------ (Exact name of Registrant as specified in its charter) Massachusetts 04-2531856 - ---------------------------- ---------------------- (State or other jurisdiction (IRS Employer of incorporation) Identification Number) Nine Technology Drive, Westborough, MA 01581 -------------------------------------------- (Address of principal executive offices) Registrant's telephone number (508) 898-2800 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 twelve 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 ninety days. YES [ X ] NO [ ] Indicate number of shares outstanding of each of the issuer's classes of common stock as of March 27, 1999. Common Stock, $0.01 par value 15,430,168 - ----------------------------- ------------------ (Title of each class) (Number of shares) 2 OpenROUTE Networks, Inc. Form 10-Q Quarterly Report March 27, 1999 Table of Contents Part I. Financial Information Item 1. Financial Statements Consolidated Balance Sheets as of March 27, 1999 (unaudited) and December 31, 1998. Consolidated Statements of Operations for the three months ended March 27, 1999 and March 28, 1998 (unaudited). Consolidated Statement of Shareholders' Equity for the Three Months Ended March 27, 1999 (unaudited). Consolidated Statements of Cash Flows for the three months ended March 27, 1999 and March 28, 1998 (unaudited). Notes to the Consolidated Financial Statements. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. Item 3. Quantitative and Qualitative Disclosures about Market Risk. Part II. Other Information Item 1. Legal Proceedings. Item 2. Changes in Securities. Item 3. Defaults upon Senior Securities. Item 4. Submission of Matters to a Vote of Security Holders. Item 5. Other Information. Item 6. Exhibits and Reports on Form 8-K. 3 PART I - FINANCIAL INFORMATION Item 1. Financial Statements OPENROUTE NETWORKS, INC. CONSOLIDATED BALANCE SHEETS (in thousands)
March 27, December 31, ASSETS 1999 1998 --------- ------------ (unaudited) Current assets: Cash and cash equivalents $ 1,810 $ 2,024 Marketable securities 2,260 3,128 Accounts receivable, net 3,394 3,356 Inventories 7,422 8,546 Prepaids and other assets 345 509 -------- -------- Total current assets 15,231 17,563 Property and equipment, net 2,574 2,715 -------- -------- Total assets $ 17,805 $ 20,278 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 767 $ 1,449 Accrued compensation 253 353 Accrued expenses 2,185 2,743 Accrued warranty 583 582 -------- -------- Total current liabilities 3,788 5,127 -------- -------- Stockholders' equity Preferred stock -- -- Common stock 159 157 Capital in excess of par value 49,560 49,418 Accumulated deficit (34,800) (33,526) Cumulative translation adjustments 108 112 Less Treasury stock, at cost (1,010) (1,010) -------- -------- Total stockholders' equity 14,017 15,151 -------- -------- Total liabilities and stockholders' equity $ 17,805 $ 20,278 ======== ========
The accompanying notes are an integral part of these consolidated financial statements. 4 OPENROUTE NETWORKS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share data) (unaudited)
Three months ended March 27, March 28, 1999 1998 -------- -------- Sales: Product $ 3,073 $ 3,493 Service and other 488 695 -------- -------- 3,561 4,188 -------- -------- Cost of sales: Product 1,543 2,062 Service and other 446 511 -------- -------- 1,989 2,573 -------- -------- Gross profit 1,572 1,615 -------- -------- Operating expenses: Research and development 970 1,215 Selling and marketing 1,073 2,247 General and administrative 847 853 -------- -------- 2,890 4,315 -------- -------- Loss from operations (1,318) (2,700) Interest income, net 50 191 -------- -------- Loss before income taxes (1,268) (2,509) Provision for income taxes 6 4 -------- -------- Net loss ($ 1,274) ($ 2,513) ======== ======== Per share data: Basic and diluted loss per share ($ 0.08) ($ 0.16) ======== ======== Basic and diluted weighted average number of common shares outstanding 15,417 15,286 ======== ========
The accompanying notes are an integral part of these consolidated financial statements. 5 OPENROUTE NETWORKS, INC CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (in thousands, except share data) (unaudited)
Accumulated Capital in Other Common Stock Excess of Accumulated Comprehensive Shares Amount Par Value Deficit Income ------------------------------------------------------------------- BALANCE, December 31, 1998 15,740 $ 157 $49,418 $(33,526) $112 Issuance of common stock 81 2 142 -- -- Repurchase of stock as treasury stock -- -- -- -- -- Comprehensive income (loss) Foreign currency translation -- -- -- -- (4) Net Loss -- -- -- (1,274) - ------------------------------------------------------------------------------------------------------------------------------ Total comprehensive loss -- -- -- -- -- - ------------------------------------------------------------------------------------------------------------------------------ BALANCE, March 27, 1999 15,821 $ 159 $49,560 $(34,800) $108 - ------------------------------------------------------------------------------------------------------------------------------
Total Treasury Stock Stockholders' Shares Amount Equity ----------------------------------- BALANCE, December 31, 1998 390 $ (1,010) $ 15,151 Issuance of common stock -- -- 144 Repurchase of stock as treasury stock -- -- Comprehensive income (loss) Foreign currency translation -- -- (4) Net loss -- -- (1,274) - ---------------------------------------------------------------------------------- Total comprehensive loss (1,278) - ---------------------------------------------------------------------------------- BALANCE, March 27, 1999 390 $ (1,010) $ 14,017 - ----------------------------------------------------------------------------------
6 OPENROUTE NETWORKS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited)
March 27, March 28, 1999 1998 ------- ------- Cash flows provided by operating activities: Net loss $(1,274) $(2,513) Adjustments to reconcile net loss to cash flows used by operating activities: Bad debt provision 75 154 Depreciation and amortization 201 307 Loss (gain) on disposition of fixed assets (1) -- Changes in operating assets and liabilities: Increase in accounts receivable (113) (118) (Increase) decrease in inventories 1,124 (392) Decrease in deposits and other assets 164 5 Decrease in accounts payable and accrued expenses (1,339) (372) ------- ------- Net cash used by operating activities (1,163) (2,929) ------- ------- Cash flows provided by investing activities: Proceeds from the sale of fixed assets 1 -- Capital expenditures (60) (106) Marketable securities sales and maturities 868 3,460 Marketable securities purchases -- (685) ------- ------- Net cash provided by investing activities 809 2,669 ------- ------- Cash flows provided by financing activities: Proceeds from the issuance of common stock 144 34 ------- ------- Net cash provided by financing activities 144 34 ------- ------- Effect of exchange rate changes on cash (4) (22) ------- ------- Net decrease in cash and cash equivalents (214) (248) Cash and cash equivalents at beginning of period 2,024 5,317 ------- ------- Cash and cash equivalents at end of period 1,810 5,069 ======= =======
The accompanying notes are an integral part of these consolidated financial statements. 7 OpenROUTE Networks, Inc. Notes to Consolidated Financial Statements, unaudited The accompanying condensed consolidated financial statements include the accounts of OpenROUTE Network, Inc. and its subsidiaries (collectively, "the Company" or OpenROUTE). The condensed consolidated financial statements for the Company for the three months ended March 27, 1999 and March 28, 1998 have been prepared without an audit pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC"). The condensed consolidated financial statements do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. Certain information and footnote disclosures normally included in the Company's annual financial statements have been condensed or omitted. The interim financial statements, in the opinion of management, reflect all adjustments (including normal recurring accruals) necessary for a fair statement of the results for the interim periods ended March 27, 1999 and March 28, 1998. Operating results for the three months ended March 27, 1999 are not necessarily indicative of the results that may be expected for the full year ending December 31, 1999. These interim financial statements should be read in conjunction with the audited financial statements for the year ended December 31, 1998, which are contained in the Company's 1998 Annual Report to its shareholders and in its Form 10-K filed with the SEC. MANAGEMENT'S ESTIMATES AND ASSUMPTIONS The accompanying financial statements were prepared by the Company in conformity with generally accepted accounting principles which require 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 reported period. The Company reviews all significant estimates affecting the financial statements on a recurring basis and records the effect of any necessary adjustments prior to their issuance. Actual results could differ from those estimates.The Articles of Organization of the Company were amended on June 10, 1998 to change the Company's name to OpenROUTE Networks, Inc. from its former name of Proteon, Inc. INVENTORIES Inventories are stated at the lower of cost or market, with cost determined under the first-in, first-out method.
- ----------------------------------------------------------------------------------------- (in thousands) March 27, 1999 December 31, 1998 - ----------------------------------------------------------------------------------------- Raw Materials $2,170 $2,270 Work In Process $326 $15 Finished goods $4,926 $6,261 - ----------------------------------------------------------------------------------------- Total Inventories $7,422 $8,546 - -----------------------------------------------------------------------------------------
NET LOSS PER COMMON AND COMMON EQUIVALENT SHARE The Company follows SFAS No. 128 "Earnings per Share." Under SFAS No. 128, Basic Earnings Per Share (EPS) excludes the effect of any dilutive options, warrants or convertible securities and is computed by dividing the net income (loss) available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common shares were exercised. Diluted EPS is computed by dividing the net income (loss) available to common stockholders by the sum of the weighted average number of common shares and common share equivalents computed using the average market price for the period under the treasury stock method. 8 NET LOSS PER COMMON AND COMMON EQUIVALENT SHARE (CONTINUED) The following table presents the numerator and the denominator of the basic and diluted EPS computations shown on the consolidated statements of operations:
Three Months ended March 27, 1999 March 28, 1998 ---------------------------------------------------------------------------------------------- Basic and diluted EPS (in thousands, except per share data) Computation: Numerator: Net loss $ (1,274) $ (2,513) Denominator: Weighted average common shares outstanding 15,417 15,286 --------------------------------------------------------------------------------------------- Basic and diluted EPS $ (0.08) $ (0.16) =============================================================================================
Outstanding stock options of 2,157,200 with an average exercise price of $1.44 as of March 27, 1999 and outstanding stock options of 1,731,230 with an average exercise price of $2.06 as of March 28, 1998 were not included in the diluted EPS computation because their effect would be antidilutive. COMPREHENSIVE INCOME The Company has adopted Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting Comprehensive Income," which requires that all components of comprehensive income and total comprehensive income be reported and that changes be shown in a financial statement displayed with the same prominence as other financial statements. The Company has elected to disclose this information in its statement of stockholders' equity. NEWLY ISSUED ACCOUNTING STANDARDS The Company has adopted SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." This Statement, which supersedes Statement No. 14 "Financial Reporting for Segments of a Business Enterprise," changed the way public companies report information about segments. The Statement, which is based on the management approach to segment reporting, includes requirements to report segment information quarterly and entity-wide disclosures about products and services, major customers and the material countries in which the entity holds assets and reports revenues. The Company is engaged principally in one business segment having two lines of business: (i) Internet Access and (ii) local area network access. During the three months ended March 27, 1999 and March 28, 1998, net sales to one customer accounted for approximately 13% and 15% of the Company's total net sales, respectively. A second significant customer accounted for approximately 9%, and 11% of total net sales during the three months ended March 27, 1999 and March 28, 1998, respectively. 9 The Company did not have sales to an individual foreign country that contributed 10% or more of the total operating data presented below. The geographic distribution of the Company's operating data is summarized as follows:
United Asia Europe States Pacific and Other Total ----------------------------------------------------------- (In thousands) Quarter ended March 27, 1999 Net sales $ 2,574 $ 237 $ 750 $ 3,561 Loss from operations (967) (137) (214) (1,318) Long-lived assets 2,433 119 22 2,574 Capital expenditures 60 - - 60 Depreciation and amortization 191 7 3 201 Quarter ended March 28, 1998 Net sales $ 2,767 $ 821 $ 600 $ 4,188 Loss from operations (2,499) (188) (13) (2,700) Long-lived assets 2,567 131 17 2,715 Capital expenditures 102 2 2 106 Depreciation and amortization 291 10 6 307
10 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations This quarterly report on Form 10-Q contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements can be identified by the use of forward-looking terminology such as "believes," "expects," "may," "estimates," "will," "should," "plans" or "anticipates" or the negative thereof or other variations thereon or comparable terminology, or by discussions of strategy. These forward-looking statements are based on numerous assumptions about future conditions that could prove not to be accurate. Actual events, transactions and results may materially differ from the anticipated events, transactions or results described in such statements. Investors are cautioned that forward-looking statements involve risks and uncertainties and may be affected by a number of factors including: business conditions within the networking industry; timing of orders from and shipments to major customers; timing of new product introductions; acceptance of products in the marketplace; increased competition; changes in manufacturing costs; changes in the mix of product sales; and changes in world economic conditions. No assurance can be given that these are all of the factors that could cause actual results to vary materially from the forward-looking statements. The following discussion of the financial condition and performance of the Company should be read in conjunction with the consolidated financial statements and related notes and other detailed information regarding the Company included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998 and other reports filed by the Company with the SEC. SUMMARY OpenROUTE is a pioneer in the datacommunications industry. OpenROUTE has distinguished itself as a leader in networking and in particular, in developing networking connectivity solutions that focus exclusively on the Internet's edge. For more than 18 years OpenROUTE has shipped network connectivity products that have helped companies grow and prosper through deploying network-centric computing. Historically, the Company's local area networking ("LAN") products have provided connectivity solutions in more than 70 percent of the Fortune 100 companies. Leveraging this expertise in mission-critical network solutions, OpenROUTE aggressively delivers this same quality of product and service for Internet connectivity. OpenROUTE is committed to providing solutions that make the Internet a more cost-effective, secure and comfortable place to grow a business. The Company's comprehensive line of products and solutions is designed to meet the needs of Internet Service Providers ("ISPs") and corporate enterprises. OpenROUTE's data networking products and services combine cost effectiveness with ease of operation, interoperability, network security, reliability and performance. The Company's customers include Global 1000 multinationals, ISPs as well as corporations looking to the Internet to grow their business. Specifically, OpenROUTE provides solutions that complement and optimize the edge of the network. RESULTS OF OPERATIONS THREE MONTHS ENDED MARCH 27, 1999 COMPARED TO THREE MONTHS ENDED MARCH 28, 1998 NET SALES Net sales for the quarter ended March 27, 1999 were $3,561,000, as compared with $4,188,000 for the quarter ended March 28, 1998, a decrease of $627,000 or 15.0%. Product sales for the quarter ended March 27, 1999 were $3,073,000, as compared with $3,493,000 for the quarter ended March 28,1998, a decrease of $420,000, or 12.0%. Revenue from the Company's Internet Access products increased by $400,000 or 16.5% for the quarter ended March 27, 1999, as compared to the same period in 1998. Revenues from the Company's Internet Access products equaled 92% of the Company's total product sales. This reflects the Company's transition from (LAN) to Internet Access products. Although overall product sales for the quarter ended March 27, 1999, as compared with the quarter ended March 28, 1998, have decreased, the total number of units of Internet Access products sold by the Company increased by 88.4% as compared to the same period in 1998. This increase reflects the Company's selling strategy of focusing its efforts on the ISP and telephone company marketplace and the growth in this marketplace for Internet Access products. 11 The Company did not have any software licensing revenue for either the quarter ended March 27, 1999 or the quarter ended March 28, 1998. The Company expects future software licensing revenue to be at varying and uncertain levels. Software licensing revenue is an ancillary component of the Company's core revenue stream but strategic in its promotion of OpenROUTE's routing technology. For the quarter ended March 27, 1999, service and other revenues decreased by $207,000 or 29.8%, to $488,000, as compared with $695,000 for the same period in 1998. This decrease was primarily due to the reduction in service contracts worldwide resulting from the Company's decision to focus on Internet Access products, which require fewer support services. GROSS PROFIT The Company's total gross profit margin as a percentage of net sales increased to 44.1% for the quarter ended March 27, 1999, as compared with 38.6% for the same period in 1998. The Company's product gross profit increased from 41.0% for the quarter ended March 28, 1998 to 49.8% for the quarter ended March 27, 1999. The margin improvement is primarily due to increased sales of certain higher margin Internet Access products and purchasing efficiencies. RESEARCH AND DEVELOPMENT Research and development expenses for the quarter ended March 27, 1999 were $970,000, or 27.2% of net sales, as compared with $1,215,000, or 29.0% of net sales, for the same period in the prior year. The decrease in expenses of $245,000 or 20.2% was primarily due to the concentration of the Company's development efforts on Internet Access products. The Company considers investments in research and development to be critical to future revenues and intends to focus these expenditures on Internet Access products. SELLING AND MARKETING Selling and marketing expenses were $1,073,000 or 30.1% of net sales for the quarter ended March 27, 1999, as compared with $2,247,000 or 53.7% of net sales for the quarter ended March 28, 1998, a decrease of $1,174,000 or 52.2%. This decrease was mainly due to lower fixed personnel related costs in line with the Company's selling strategy. GENERAL AND ADMINISTRATIVE General and administrative expenses were $847,000, or 23.8% of net sales, for the quarter ended March 27, 1999, compared to $853,000, or 20.4% of net sales, for the quarter March 28, 1998, a decrease of $6,000. PROVISION FOR INCOME TAXES For the quarter ended March 27, 1999, the Company booked an income tax provision of $6,000 compared to $4,000 for the quarter ended March 28, 1998. The provision represents state income taxes and estimated tax liabilities for the Company's foreign subsidiaries. LIQUIDITY AND CAPITAL RESOURCES During the first three months of 1999, the Company's net cash used in operating activities was $1,163,000 as compared with $2,929,000 for the first three months of 1998. The net cash used in operating activities for the first three months of 1999 was primarily due to the net operating loss of $1,274,000 and decreases in accounts payable and accrued expenses of $1,339,000, partially offset by a decrease in inventory of $1,124,000 and depreciation of $201,000. Investing activities for the three months ended March 27, 1999 generated net proceeds of $809,000, principally from the sales of marketable securities. The Company's management believes that if it achieves its twelve month operating plan, the Company's current levels of cash, cash equivalents and marketable securities will satisfy its expected working capital and capital expenditure requirements through the next twelve months. If the operating plan is not achieved, it is likely that the Company will need to secure alternative forms of financing and there is no assurance that the financing would be available when needed or, on terms favorable to the Company. The Company is in the process of obtaining additional working capital financing to fund expected future growth. TRENDS AND UNCERTAINTIES The Company continues to face many risks and uncertainties in addition to those set forth below, including without limitation, risks that apply to most businesses, such as risks arising from competition and general and specific market and economic risks. 12 TECHNOLOGICAL CHANGE, NEW PRODUCTS AND INDUSTRY STANDARDS OpenROUTE is positioning itself as a company focused on the edge of the Internet. OpenROUTE views the network access market as having two lines of business - Internet access and local access. Its current strategy is based upon concentration on the Internet access market segment. The market for the Company's products is characterized by rapidly changing technology, new product introductions and multiplicity of current and evolving industry standards. Accordingly, the Company believes that its future success will depend on its continuing ability to enhance and expand its existing products and to develop or private label other manufacturer's technology and introduce in a timely fashion new products which incorporate new technologies, conform to standards and achieve market acceptance. There can be no assurance that the Company's strategy is the correct one under the circumstances; that the Company has correctly assessed trends in the marketplace; that the Company will be able to develop, market, support or secure external supplies of, such products successfully; or that the Company will be able to respond effectively to technological changes, new product announcements by others or new industry standards. MANUFACTURING AND SUPPLY; DEPENDENCE ON SUPPLIERS The Company's manufacturing operations consist of systems level integration and testing. The Company has strategic relationships with U.S. Assemblies of Taunton, Massachusetts, a major subcontract manufacturer with access to cost-effective, high volume manufacturing, distribution and repair capability worldwide, and since October 1998 with Venture Manufacturing. U.S. Assemblies manufactures the Company's board assemblies for its router, hub and adapter card product lines and specific, turnkey manufacturing for a number of OpenROUTE products. When fully operational in 1999, Venture Manufacturing will provide OpenROUTE with services similar to U.S. Assemblies. The Company believes that in the event of an interruption in manufacturing by either of its subcontractors (U.S. Assemblies or Venture Manufacturing) it will be able to shift its production needs to the unaffected facility as necessary and continue to meet its expected demand. Both U.S. Assemblies and Venture Manufacturing operate a number of other plants within the United States and Asia. OpenROUTE performs some final assembly and testing of its intelligent hubs and routers at its Westborough, Massachusetts facility. A repair depot and logistics operation is also located at its Westborough facility, coordinating global service requirements for all products. The Token Ring chipsets used in the Company's 4/16 Mbps adapters are currently manufactured by Texas Instruments. The Company has an agreement with Texas Instruments under which it believes it will be able to obtain adequate supplies of these chipsets in a timely manner to meet customer demand. However, the reduction or interruption in supply or a significant price increase could adversely affect the Company's operating results. The RISC processor presently used in the Company's CNX 600 and CNX 500 bridging routers is available solely from AMD. The Company believes, however, that other available RISC processors could be substituted for the AMD chip, if necessary, with some product modifications. Certain logic semiconductors, signal processors and subassembly components used in the Company's products are also available only from limited sources. The Company has not experienced any significant problems in obtaining required supplies of such limited source components and believes that alternative sources could be developed quickly. However, such shortages could result in production delays that might adversely affect the Company's business. The Company's line of GTX and GT Business Series products incorporates microprocessors supplied by Motorola. The Company is not aware of any shortages of chips from Motorola, and believes that supplies will be adequate for the coming year. OpenROUTE continues to have OEM arrangements with manufacturers for some of its Token Ring product offerings. The Company does not feel these arrangements jeopardize the quality of the products the Company is shipping. In most cases, if supply from one vendor was interrupted or made scarce, the Company could find a comparable source for the affected product with limited delays in shipment. The inability to obtain sufficient sole or limited source components as required, or to develop alternative sources if and as required in the future, could result in delays or reductions in product shipments which would adversely affect the Company's operation results. There can be no assurance that, in the event of interruptions in contract manufacturing, supplies of components from sole or limited sources or supplies of units from OEM vendors or similar occurrences, the Company could find and engage suitable alternatives in a timely manner. Such interruptions or the inability of OpenROUTE to counteract them successfully could have an adverse effect on the Company's business, operations and finances. 13 INTELLECTUAL PROPERTY Currently, OpenROUTE relies principally upon a combination of contractual rights, trade secrets and copyright laws to establish and protect proprietary aspects of its products. The Company believes that, because of the rapid pace of technological change in the data communications and computer industries, legal protection for its products is a less significant factor in the Company's success than the knowledge, ability and experience of the Company's employees, the frequency of product enhancements and the timeliness and quality of support services provided by the Company. However, should a successful challenge be mounted against the rights of OpenROUTE in and to its intellectual property, by allegations of infringement on the rights of other or for any other reason, the Company's business, operations and finances could be adversely affected. Certain technology used in the Company's products is licensed by the Company from third parties. The termination of certain of these licenses would have a material adverse effect on the Company's operations. PRODUCT COMPATIBILITY AND COMPETITION INTERNET ACCESS (ROUTERS) OpenROUTE expects to participate significantly in the market segment of Internet access routing by focusing exclusively on the Internet's edge. Specifically, the Company provides best-of-class edge solutions that complement with the core and maximize the edge. The Company has enhanced its Internet access capabilities with the introduction of new products that and expanded its presence in the Integrated Services Digital Network (ISDN) marketplace. INTERNETWORKING SOFTWARE OpenROUTE(TM), OpenROUTE's internetworking software suite, is the foundation of the Company's high performance Internet access products. All of OpenROUTE's internetworking products ship with this software technology installed. Also, OpenROUTE licenses this software to other providers of internetworking products. As routing technology progresses, the Company may be required to modify its routing and bridging software to maintain compatibility of its products with various standards and interoperability with other manufacturers router products. Failure by the Company to maintain such compatibility, interoperability and technical competencies could adversely affect the Company's business, operations and finances. NETWORK INTERFACE CARD PRODUCTS The market for Token Ring network interface card products is dominated by IBM, MADGE and Olicom. While Token Ring networking is an industry standard, OpenROUTE believes that its ability to address successfully the market for Token Ring network products is dependent upon the compatibility and interoperability of the Company's products with products offered by these vendors and upon maintaining compatibility with the Token Ring standard as it continues to evolve. LAN ACCESS The Company continues to sell Token Ring Switches; intelligent hubs that provide connectivity and management of different network cabling schemes and LAN topologies; Ethernet hubs, the ProNET/E series, for the workgroup market segment; Token Ring hubs, the Serial 75 Stackable Hub family for building networked and extended workgroups; Token Ring adapters for physical connectivity and Token Ring signaling between a PC or workstation and LAN cabling; a muliport cards intended to provide a full range of solution for the client/server marketplace. The Company also seeks opportunities to leverage technology through licensing arrangements. COMPETITION The data communications, networking and computer industries are highly competitive and characterized by rapidly changing technology and evolving industry standards. These advances result in frequent new product introductions, increased capabilities and improvements in the relative price/performance of networking products. As a competitor in the networking industry, OpenROUTE believes one of the keys to success will be making networks more accessible to a broader base of customers. OpenROUTE is committed to open, standards based products, innovative solutions to customer requirements for reliable and high performance networks, a favorable price/performance ratio, ease of installation and ease of use. 14 The Company competes with several companies having greater research and development, marketing and financial resources, manufacturing capability, customer support organizations, and name recognition than those of the Company. There can be no assurance that the Company will be able to compete successfully in the future or that competitive pressures will not adversely affect the Company's business. RESEARCH AND PRODUCT DEVELOPMENT Management believes the Company's future success depends in large part upon timely enhancement of existing products and the development of new products that not only maintain technological excellence, but also improve the capabilities, efficiency and cost effectiveness of the end users' data communication networks. The Company is developing new products to improve price/performance ratios, enhance its network management capabilities, simplify ease of use and ensure interoperability with other vendors' standards based products. VARIABILITY OF QUARTERLY OPERATING RESULTS The Company's quarterly operating results may vary significantly depending upon factors such as the timing of new product announcements and releases by the Company and its competitors, the timing of significant orders, the mix of products sold and the mix of distribution channels through which the products are sold. In addition, substantially all of the Company's sales in each quarter result from orders booked in that quarter. Consequently, if sales do not close in any quarter as anticipated, the Company's results of operations for that quarter would be adversely affected. Further, the Company's expense levels are based, in part, on its expectations of future sales. If sales levels are below expectations, operating results may be adversely affected. Also, quarterly results can be materially affected by the existence and/or the timing of software licensing revenues. METHOD OF DISTRIBUTION The Company sells its products to end users worldwide primarily through an indirect sales channel comprised of ISPs, OEMs, and VARs. These resellers also represent other lines of products which are, in some cases, identical or complementary to, or which compete with, those of the Company. While the Company attempts to encourage these resellers to focus on its products through marketing and support programs, there is a risk that these resellers may give higher priority to products of other suppliers, thereby reducing their efforts devoted to selling the Company's products. One reseller accounted for approximately 12%, 11% and 14%, of the Company's total net sales in 1998, 1997 and 1996, respectively, and a second reseller accounted for approximately 10%, 8%, and 14% of the Company's total net sales in 1998, 1997, and 1996, respectively. There can be no assurance that the Company has selected appropriate channels of distribution for its products or that existing resellers will dedicate adequate resources to sales of the Company's products. Failure to do so could result in an adverse impact on the Company's business, operations and finances. LIQUIDITY Failure of the Company to create and maintain adequate working capital and liquidity, by sales of equity, obtaining lines of credit or otherwise, could adversely impact the Company's business, operations and finances. INTERNATIONAL SALES, REGULATORY STANDARDS AND CURRENCY EXCHANGE International sales accounted for 30.9%, 35.4% and 38.3% in 1998, 1997 and 1996, respectively, of the Company's net sales. The decrease in the international sales as a percentage of the Company's net sales was primarily the result of the economic crisis in the Asia Pacific region. The Company expects that international sales to continue to be a significant portion of the Company's business. Foreign regulatory bodies continue to establish standards different from those in the United States, and the Company's products are designed generally to meet those standards. The inability of the Company to design products in compliance with such foreign standards could have an adverse effect on the Company's operating results. The Company's international business may be affected by changes in demand resulting from fluctuation in currency exchange rates and tariffs and difficulties in obtaining export licenses. 15 SHARES ELIGIBLE FOR FUTURE SALE Approximately 15,430,000 outstanding shares of Common Stock as of March 27, 1999 are now freely tradable or eligible for sale on the open market. In addition, options to acquire an aggregate of 387,546 shares of Common Stock were vested as of March 27, 1999 and the shares issuable upon exercise of any such option will be freely tradable or eligible for sale in the public market. Additional shares will become eligible for resale in the public market at subsequent dates. Sales of substantial numbers of such shares in the public market could adversely affect the market price of the Common Stock. POSSIBLE VOLATILITY OF STOCK PRICE The Company believes factors such as announcements of new products by the Company or its competitors and quarterly variations in financial results could cause the market price of the Company's Common Stock to fluctuate substantially. In addition, the stock market has experienced volatility which has particularly affected the market prices for many high technology companies' stock and which often has been unrelated to the operating performance of such companies. These market fluctuations may adversely affect the price of the Company's Common Stock. CERTAIN CHARTER AND BY LAW PROVISIONS The Company's Amended and Restated Articles of Organization and By-Laws contain certain provisions that could have the effect of making it more difficult for a third party to acquire, or could discourage a third party from attempting to acquire, control of the Company. Such provisions could limit the price that certain investors might be willing to pay in the future for shares of the Company's Common Stock. Certain of such provisions allow the Company to issue preferred stock with rights senior to those of the Common Stock and impose various procedural and other requirements which could make it more difficult for stockholders to effect certain corporate actions. YEAR 2000 The "Year 2000 Issue" is the result of computer programs that were written using two digits rather than four to define the applicable year. If computer programs with date sensitive functions are not Year 2000 compliant, they may recognize a date using "00" as the Year 1900 rather than the Year 2000. This could result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions or engage in similar normal business activities. The Company has initiated a program to review the Year 2000 readiness of its internal systems, product line and third party suppliers and vendors. The program consists of: (i) preparing an inventory of the Company's products and suppliers to determine which systems, if any, may encounter date processing problems; (ii) assessing the Year 2000 issues presented; (iii) remediation, if necessary, of products owned or manufactured by the Company; (iv) testing of systems; and (v) contingency plans. The program's implementation varies depending upon the problems or issues encountered, and their resolution. PRODUCTS MANUFACTURED BY THE COMPANY. The Company's main business since its formation has consisted primarily of the manufacture and sale of: (i) Remote Access Routers used to access the Internet; (ii) LAN equipment used to link together computers and peripheral devices; and (iii) Network Interface Cards (NIC), which connect computer workstations to a network. The Company has installed its own proprietary software in all of its manufactured Remote Access Routers and LANs, and at times has licensed this software to third parties. The Company's installed proprietary software and the products manufactured and sold by the Company, do not track or report dates, are not date dependent and are Year 2000 compliant. The Company's manufactured NIC cards do not contain any date-dependent functions, and thus also are Year 2000 compliant. Therefore, the Company does not expect that Year 2000 processing problems will occur in products sold by the Company, or that Year 2000 product problems would have a material effect on the Company's business, financial condition or the results of operations. INTERNAL BUSINESS SOFTWARE AND SYSTEMS. The Company in 1998 conducted an inventory of its internal business systems to determine whether any Year 2000 processing problems existed in critical equipment or systems. As a result, and as part of a corporate program intended to reduce cycle time and improve efficiency, the Company purchased new business operations systems which operate the Company's financial, administrative, business, manufacturing and customer service functions. The software vendor has indicated these systems are Year 2000 compliant. The Company successfully completed the installation of this system in January 1999. The Company has a one year limited warranty on these systems commencing from the date of delivery, which warranty would expire before January 1, 2000. 16 The Company also has installed a new telephone system under a long-term lease which the Company believes to be Year 2000 compliant. However, if testing demonstrates unexpected Year 2000 problems in these new systems, there would be no assurance that the Year 2000 problems would not have a material impact on the Company's internal operations and would not materially impact the Company's business, financial condition or results of operations. The Company expended $340,000 in Year 2000 system costs in 1998. Some of these costs have been capitalized under generally accepted accounting practices. The Company expects to incur additional expenditures of approximately $175,000 in 1999 related to Year 2000 equipment purchases and leases, including consulting fees, license agreements and lease payments. The Company expended $51,034 in Year 2000 system costs in the first three months of 1999. READINESS OF THIRD PARTY SUPPLIERS AND VENDORS. The Company relies on third party suppliers, service providers and contractors for critical services, including utility power and telephone, parts and supplies. In addition, the Company sells its products to customers, including ISPs and others, which are highly dependent on computers, and which could be adversely affected by their own or their suppliers' lack of Year 2000 readiness. The Company has conducted an inventory of its critical suppliers, service providers and contractors to determine the extent to which the Company's operations could be affected by those third parties' failure to remedy their own Year 2000 issues. This exercise was substantially completed in March 1999. Most of the Company's critical suppliers, service providers and contractors are also in the high technology field, thus year 2000 compliance has received intense attention throughout the vendors' base. OpenROUTE's major contract manufacturer, U.S. Assemblies, has recently completed implementation of the Year 2000 compliant version of MAPICS for their material resource planning (MRP) efforts.. Following completion of its inventory and assessment of third party readiness, the Company will determine whether testing, verification or contingency plan procedures are necessary. The most reasonably likely worst case scenario if suppliers or customers were not Year 2000 compliant would be interruption in the Company's ability to manufacture or deliver its products through loss of power, supply shortages or disruption of delivery systems, or a material decrease in the sale of products if customers lose substantial business or divert substantial resources to uncorrected Internet Year 2000 problems. The Year 2000 readiness of outside suppliers or customers is outside the Company's control. There can be no assurance that the failure of third party suppliers or the Company's customers to effectively remedy Year 2000 defects would not have a material adverse impact on the Company's business, results of operations or financial condition. Item 3. Quantitative and Qualitative Disclosures about Market Risk Currently, the Company is not exposed to any market risks arising from changes in interest rates, foreign currency rates or other market risk sensitive instruments. Under its current policy, the Company places its investments in highly rated financial institutions and, by policy, limits the amount of credit exposure to any one financial institution. Financial instruments, which potentially subject the Company to concentration of credit risk, are principally cash and cash equivalents, marketable securities and accounts receivable. 17 PART II - OTHER INFORMATION Item 1. Legal Proceedings: Not applicable. Item 2. Changes in Securities: Not applicable. Item 3. Defaults Upon Senior Securities: Not applicable. Item 4. Submission of Matters to a Vote of Security Holders: Not applicable. Item 5. Other Information: Not applicable. Item 6. Exhibits and Reports on Form 8 - K: (a) Exhibits: See Exhibits Index (b) Reports on Form 8 - K: The Company did not file any report on Form 8-K with the SEC during the quarter ended March 27, 1999. 18 SIGNATURES In accordance with the requirements of the Exchange Act, the registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. OpenROUTE Networks, Inc. May 4, 1999 By: /s/ Bryan R. Holley ------------------------------------- Bryan R. Holley President & Chief Executive Officer (principal executive officer) By: /s/ Steven T. Shedd ------------------------------------- Steven T. Shedd Chief Financial Officer, Vice President Treasurer and Clerk (principal financial officer) By: /s/ Sally Teo ------------------------------------- Sally Teo Corporate Controller (principal accounting officer) 19 Item 6 Exhibits and Reports on Form 8-K Exhibit Index
Exhibit Number Description - ------- ----------- (3.1) Restated Articles of Organization as Amended * ( a )(filed as Exhibit 3.1) (3.3) By-Laws, as amended and restated, of the Registrant * ( b ) (filed as Exhibit 3.3) (4.1) Article 4 of the Restated Article of Organization, (See 3.1 above) (4.2) Form of Common Stock Certificate * ( c ) (filed as Exhibit 4.2) (27) Financial Data Schedule
All exhibit descriptions followed by an asterisk and a letter in parentheses were previously filed with the SEC as Exhibits to, and are hereby incorporated by reference from, the document to which the letter in parentheses corresponds, as set forth below: ( a ) Registrant's Annual Report on Form 10-K for the fiscal year ended December 31, 1991. ( b ) Registrant's Registration Statement on Form S-1 Registration No. 33-40073. ( c ) Amendment No. 1 on Form 8 to the Registrant's Registration Statement on Form 8-A, File No. 0-19175. Where documents are incorporated by reference from previous filings, the Exhibit number of the document in that previous filing is indicated in parentheses after the incorporation by reference code. EX-27 2 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE FINANCIAL STATEMENTS OF OPENROUTE NETWORKS, INC. AS OF MARCH 27, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 U.S. DOLLARS 3-MOS DEC-31-1999 JAN-01-1999 MAR-27-1999 1 1,810 2,260 3,394 0 7,422 15,231 13,286 10,712 17,805 3,788 0 0 0 49,719 (1,010) 14,017 3,073 3,561 1,543 1,989 2,890 0 0 (1,268) 6 (1,274) 0 0 0 (1,274) (0.08) (0.08)
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