-----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, I/czPl14iatUCzacJFzmoO4OYmgmAY3pL7GYPo/FP/cxhYZzQjQh67dSK7n1RnXX wLzO7S89wR1WCMsJk7gvUg== 0000950148-02-001276.txt : 20020513 0000950148-02-001276.hdr.sgml : 20020513 ACCESSION NUMBER: 0000950148-02-001276 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20020331 FILED AS OF DATE: 20020513 FILER: COMPANY DATA: COMPANY CONFORMED NAME: MRV COMMUNICATIONS INC CENTRAL INDEX KEY: 0000887969 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 061340090 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-11174 FILM NUMBER: 02644337 BUSINESS ADDRESS: STREET 1: 20415 NORDHOFF ST CITY: CHATSWORTH STATE: CA ZIP: 91311 BUSINESS PHONE: 8187730900 MAIL ADDRESS: STREET 1: 20415 NORDHOFF ST CITY: CHATSWORTH STATE: CA ZIP: 91311 10-Q 1 v81619e10-q.txt FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------------- FORM 10-Q (Mark One) [X] Quarterly report under section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended MARCH 31, 2002 [ ] Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act for the transition period from __________ to __________ Commission file number 0-25678 MRV COMMUNICATIONS, INC. (Exact name of registrant as specified in its charter) DELAWARE 06-1340090 (State or other jurisdiction (I.R.S. Employer incorporation or organization) identification No.) 20415 NORDHOFF STREET, CHATSWORTH, CA 91311 (Address of principal executive offices, Zip Code) Issuer's telephone number, including area code: (818) 773-0900 Check whether the issuer: (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] As of May 9, 2002, there were 90,590,429 shares of Common Stock, $.0017 par value per share, outstanding. MRV COMMUNICATIONS, INC. FORM 10-Q, MARCH 31, 2002 INDEX
Page Number ----------- PART I Financial Information 3 Item 1. Financial Statements: 3 Consolidated Condensed Statements of Operations (unaudited) for the 4 Three Months ended March 31, 2002 and 2001 Consolidated Condensed Balance Sheets as of March 31, 2002 (unaudited) 5 and December 31, 2001 Consolidated Condensed Statements of Cash Flows (unaudited) for the 6 Three Months ended March 31, 2002 and 2001 Notes to Unaudited Consolidated Condensed Financial Statements 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results 13 of Operations PART II Other Information 35 Item 1. Legal Proceedings 35 Item 2. Changes in Securities and Use of Proceeds 35 Item 6. Exhibits and Reports in Form 8-K 35 Signatures 37
As used in this Report, "we, "us", "our", "MRV" or the "Company" refer to MRV Communications, Inc. and its consolidated subsidiaries. PART I - FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS The consolidated condensed financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in MRV's latest annual report on Form 10-K. In the opinion of the Company, these unaudited statements contain all adjustments (consisting of normal recurring adjustments) necessary to present fairly the financial position of MRV Communications, Inc. and Subsidiaries as of March 31, 2002, and the results of their operations and their cash flows for the three months then ended. MRV COMMUNICATIONS, INC. CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA)
Three Months Ended ------------------------------ MARCH 31, March 31, 2002 2001 - ----------------------------------------------------------------------------------------------------- (Unaudited) NET REVENUES $ 62,418 $ 100,104 Cost of goods sold 43,105 66,391 --------- --------- GROSS PROFIT 19,313 33,713 --------- --------- OPERATING COSTS AND EXPENSES - Product development and engineering 15,620 25,005 Selling, general and administrative 23,539 38,412 Amortization of intangibles 2,504 28,139 --------- --------- Total operating costs and expenses 41,663 91,556 --------- --------- OPERATING LOSS (22,350) (57,843) Other expense, net 13,122 520 --------- --------- LOSS BEFORE MINORITY INTEREST, PROVISION (BENEFIT) FOR TAXES AND EXTRAORDINARY ITEM (35,472) (58,363) Minority interest 105 (1,388) Provision (benefit) for taxes 186 (2,683) --------- --------- LOSS BEFORE EXTRAORDINARY GAIN (35,763) (54,292) Extraordinary gain on extinguishment of debt, net of tax 3,244 -- --------- --------- NET LOSS $ (32,519) $ (54,292) ========= ========= EARNINGS PER SHARE: Basic and diluted loss per share - Loss before extraordinary gain $ (0.42) $ (0.73) ========= ========= Extraordinary gain $ 0.04 $ -- ========= ========= Net loss $ (0.38) $ (0.73) ========= ========= Weighted average number of shares - Basic and diluted 84,789 74,370 ========= =========
See accompanying notes MRV COMMUNICATIONS, INC. CONSOLIDATED CONDENSED BALANCE SHEETS (IN THOUSANDS, EXCEPT PAR VALUES)
MARCH 31, December 31, 2002 2001 - -------------------------------------------------------------------------------------------------------- (UNAUDITED) ASSETS CURRENT ASSETS: Cash and cash equivalents $ 90,685 $ 164,676 Short-term marketable securities 54,226 46,696 Time deposits 9,603 9,341 Accounts receivable 50,166 55,106 Inventories 55,787 57,308 Other current assets 11,706 10,044 ---------- ---------- TOTAL CURRENT ASSETS 272,173 343,171 PROPERTY AND EQUIPMENT, NET 68,802 72,012 GOODWILL AND OTHER INTANGIBLES 392,236 395,312 DEFERRED INCOME TAXES 23,749 23,229 INVESTMENTS 7,604 16,937 OTHER NON-CURRENT ASSETS 9,084 13,834 ---------- ---------- $ 773,648 $ 864,495 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Current maturities of long-term debt $ 2,521 $ 52,226 Short-term obligations 19,247 18,679 Accounts payable 47,270 48,586 Accrued liabilities 31,541 39,035 Other current liabilities 6,637 9,277 ---------- ---------- TOTAL CURRENT LIABILITIES 107,216 167,803 CONVERTIBLE SUBORDINATED NOTES 65,346 89,646 LONG-TERM DEBT 7,997 8,871 OTHER LONG-TERM LIABILITIES 3,940 3,737 MINORITY INTEREST 9,269 9,762 COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Preferred stock, $0.01 par value: Authorized -- 1,000 shares; no shares issued or outstanding -- -- Common stock, $0.0017 par value: Authorized -- 160,000 shares Issued -- 89,178 shares in 2002 and 82,824 in 2001 Outstanding -- 89,130 shares in 2002 and 82,776 in 2001 152 141 Additional paid-in capital 1,139,611 1,118,942 Accumulated deficit (530,202) (497,683) Deferred stock compensation, net (20,467) (26,344) Treasury stock, 48 shares at cost in 2002 and 2001 (133) (133) Accumulated other comprehensive loss (9,081) (10,247) ---------- ---------- TOTAL STOCKHOLDERS' EQUITY 579,880 584,676 ---------- ---------- $ 773,648 $ 864,495 ========== ==========
See accompanying notes MRV COMMUNICATIONS, INC. CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
Three Months Ended ------------------------------- MARCH 31, March 31, 2002 2001 - ------------------------------------------------------------------------------------------------------ CASH FLOWS FROM OPERATING ACTIVITIES: NET CASH USED IN OPERATING ACTIVITIES $ (7,797) $ (25,677) --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of property and equipment, net (2,894) (16,432) Purchases of short-term marketable securities (7,530) -- Investments in unconsolidated equity method subsidiaries (605) -- Proceeds from sale or maturity of investments -- 16,790 --------- --------- NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES (11,029) 358 --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Net proceeds from issuance of common stock 76 385 Payment to terminate interest rate swap (3,198) -- Payments on short-term debt -- (5,075) Borrowings on short-term debt 568 10,212 Payments on long-term debt (50,579) (725) --------- --------- NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (53,133) 4,797 --------- --------- EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS (2,032) 987 --------- --------- NET DECREASE IN CASH AND CASH EQUIVALENTS (73,991) (19,535) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 164,676 210,080 --------- --------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 90,685 $ 190,545 ========= =========
See accompanying notes MRV COMMUNICATIONS, INC. NOTES TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS 1. EARNINGS PER SHARE Basic earnings per common share are computed using the weighted average number of common shares outstanding during the period. Diluted earnings per common share include the incremental shares issuable upon the assumed exercise of stock options and conversion of the convertible subordinated notes. The effect of the assumed conversion of $65.3 million and $89.6 million of convertible subordinated notes for the three months ended March 31, 2002 and 2001, respectively, have not been included, as it would be anti-dilutive. The dilutive effect of all of MRV's stock options and warrants outstanding for the three months ended March 31, 2002 and 2001, respectively, have not been included in the loss per share computation as their effect would be anti-dilutive. 2. GOODWILL AND OTHER INTANGIBLE ASSETS - ADOPTION OF SFAS 142 Statement of Financial Accounting Standards (SFAS) No. 142, "Goodwill and Other Intangible Assets", which was adopted on January 1, 2002, requires disclosure of what reported income before extraordinary items and net income would have been in all periods presented exclusive of amortization expense (including any related tax effects) recognized in those periods related to goodwill and other intangible assets that are no longer being amortized and changes in amortization periods for intangible assets that will continue to be amortized (including any related tax effects). Similarly, adjusted per share amounts also are required to be disclosed for all periods presented. MRV initially applied this statement as of January 1, 2002. The amortization of goodwill, loss before extraordinary gains and net loss for the initial application and prior corresponding period follows (in thousands, except per share amounts).
Three Months Ended ------------------------------ March 31, March 31, 2002 2001 --------- --------- LOSS BEFORE EXTRAORDINARY ITEM: Reported loss before extraordinary gain $(35,472) $(54,292) Amortization of goodwill -- 25,562 -------- -------- Adjusted loss before extraordinary gain $(35,472) $(28,730) ======== ======== NET LOSS: Reported net loss $(32,519) $(54,292) Amortization of goodwill -- 25,562 -------- -------- Adjusted net loss $(32,519) $(28,730) ======== ======== BASIC AND DILUTED EARNINGS PER SHARE: Reported net loss $ (0.38) $ (0.73) Amortization of goodwill -- 0.34 -------- -------- Adjusted net loss $ (0.38) $ (0.39) ======== ========
MRV is currently undergoing the first step in the transitional goodwill impairment test prescribed in SFAS No. 142. MRV will complete the transitional goodwill impairment test and expects to report any potential impairment in the second quarter ended June 30, 2002. 3. COMPREHENSIVE INCOME SFAS No. 130, "Reporting Comprehensive Income" requires that net income (loss) and all other non-owner changes in equity be displayed in a financial statement with the same prominence as other consolidated financial statements. In addition, the standard requires companies to display the components of comprehensive loss, which were as follows (in thousands):
Three Months Ended ------------------------------- March 31, March 31, 2002 2001 --------- ---------- Net loss $ (32,519) $ (54,292) Realized loss on interest rate swap 3,198 -- Foreign currency translation (2,032) 987 --------- --------- $ (31,353) $ (53,305) ========= =========
4. CASH AND CASH EQUIVALENTS, TIME DEPOSITS AND SHORT-TERM INVESTMENTS MRV considers all highly liquid investments with an original maturity of 90 days or less to be cash equivalents. Investments with maturities of less than one year are considered short-term. Time deposits represent investments which are restricted as to withdrawal or use based on maturity terms. Furthermore, MRV maintains cash balances and investments in highly qualified financial institutions. At various times such amounts are in excess of insured limits. 5. INVENTORIES Inventories are stated at the lower of cost or market and consist of materials, labor and overhead. Cost is determined by the first-in, first-out method. Inventories consisted of the following (in thousands):
March 31, 2002 December 31, 2001 -------------- ----------------- Raw materials $ 15,687 $ 15,444 Work-in process 19,501 19,230 Finished goods 20,599 22,634 --------- --------- $ 55,787 $ 57,308 ========= =========
6. SEGMENT REPORTING AND GEOGRAPHICAL INFORMATION MRV operates under a business model that includes its operating divisions as well as start-up enterprises. These companies provide network infrastructure products and services and fall into two business segments: operating enterprises and development stage enterprises. Segment information is therefore being provided on this basis. Development stage enterprises, which MRV has created or invested in, focus on core routing, network transportation, switching and IP services, and fiber optic components and systems. The primary activities of development stage enterprises have been to develop solutions and technologies of which significant revenues have yet to be earned. MRV's operating enterprises design, manufacture and distribute optical components, optical subsystems, optical networking solutions and Internet infrastructure products. The accounting policies of the segments are the same as those described in the summary of significant accounting polices in our latest annual report on Form 10-K. MRV evaluates segment performance based on revenues and operating income (loss) of each segment. As such, there are no separately identifiable segment assets nor are there any separately identifiable statements of operations data below operating income. Business segment net revenues for the three months ended March 31, 2002 and 2001 were as follows (in thousands):
Three Months Ended ------------------------------ March 31, March 31, 2002 2001 --------- --------- Operating enterprises $ 62,418 $ 100,104 Development stage enterprises -- -- --------- --------- $ 62,418 $ 100,104 ========= =========
There were no inter-segment sales during the three months ended March 31, 2002 and 2001. Net revenues by product group for the three months ended March 31, 2002 and 2001 were as follows (in thousands):
Three Months Ended ------------------------------- March 31, March 31, 2002 2001 ---------- ---------- Optical passive components $ 6,641 $ 11,469 Optical active components 15,642 36,401 Switches and routers 12,723 19,323 Remote device management 3,901 4,065 Network physical infrastructure equipment 14,436 18,088 Services 4,694 4,071 Other network products 4,381 6,687 --------- --------- $ 62,418 $ 100,104 ========= =========
For the three months ended and as of March 31, 2002 and 2001, MRV had no single customer that accounted for more than 10% of net revenues or accounts receivable, respectively. MRV does not track customer sales by region for each individual reporting segment. A summary of external net revenues by region is as follows (in thousands): Three Months Ended ------------------------------ March 31, March 31, 2002 2001 --------- --------- United States $ 18,232 $ 41,903 Asia Pacific 6,619 14,820 European 37,244 41,318 Other 323 2,063 --------- --------- $ 62,418 $ 100,104 ========= =========
Business segment operating loss for the three months ended March 31, 2002 and 2001 were as follows (in thousands):
Three Months Ended ------------------------------- March 31, March 31, 2002 2001 --------- ---------- Operating enterprises $ (14,107) $ (43,864) Development stage enterprises (8,243) (13,979) --------- --------- $ (22,350) $ (57,843) ========= =========
Loss before provision (credit) for income taxes for the three months ended March 31, 2002 and 2001 was as follows (in thousands):
Three Months Ended ------------------------------- March 31, March 31, 2002 2001 --------- ---------- United States $ (19,353) $ (29,483) Foreign (12,980) (27,492) --------- --------- $ (32,333) $ (56,975) ========= =========
7. RESTRUCTURING CHARGES From November 9, 2000 through December 28, 2001, MRV owned approximately 92% of Luminent, Inc. and approximately 8% of Luminent's shares where publicly traded. During the second quarter of 2001, Luminent's management approved and implemented a restructuring plan in order to adjust operations and administration as a result of the dramatic slowdown in the communications equipment industry generally and the optical components sector in particular. Major actions primarily involved the reduction of workforce, the abandonment of certain assets and the cancellation and termination of purchase commitments. These actions are expected to realign the business based on current and near-term growth rates. All of these actions are expected to be completed by the end of the fiscal year 2002. During the year ended December 31, 2001, Luminent recorded restructuring charges totaling $20.3 million. Costs for restructuring activities are limited to either incremental costs that directly result from the restructuring activities and provide no future revenue generating benefit, or costs incurred under contractual obligations that existed before the restructuring plan and will continue with either no future revenue generating benefit or become a penalty incurred for termination of the obligation. Employee severance costs and related benefits of $1.3 million are related to 671 layoffs through March 31, 2002, bringing Luminent's total workforce to 1,029 employees as of March 31, 2002. Affected employees came from all divisions and areas of Luminent. The majority of affected employees were in the manufacturing group. In addition to the costs associated with employee severance, Luminent identified a number of assets, including leased facilities and equipment that are no longer required due to current market conditions, operations and expected growth rates. The net facilities costs related to closed and abandoned facilities were approximately $2.4 million for the year ended December 31, 2001, which were are primarily related to future obligations under operating leases. The total lease charge is net of approximately $3.7 million in expected sublease revenue on leases that Luminent cannot terminate. As of March 31, 2002, $2.3 million in estimated future obligations remain. In connection with these closed and abandoned facilities, Luminent recorded asset impairment charges of $10.4 million for the year ended December 31, 2001, consisting of leasehold improvements and certain manufacturing equipment to write down the value of this equipment. There were no additional asset impairment charges recorded during the three months ended March 31, 2002. The liability for purchase commitments, $3.7 million still remaining as of March 31, 2002, are for the cancellation or renegotiation of outstanding contracts for materials and capital assets that are no longer required due to Luminent's significantly reduced orders for optical components and sales projections over the next twelve months. During the three months ended March 31, 2002, $1.1 million of the original purchase commitment provision has been reversed to cost of goods sold. Of this amount, $457,000 is a reduction in the estimated future liability due to vendor based on current negotiations, and $637,000 represents inventory and equipment purchase commitments, which will ultimately be utilized. The restructuring provision has been reduced by cash payments of $910,000 for the three months ended March 31, 2002 and non-cash related charges of $1.1 million for the three months ended March 31, 2002, resulting in an ending liability balance of $6.6 million. Luminent expects to utilize the remaining balance in the year ending December 31, 2002, which will be paid through cash and cash equivalents and through operating cash flows. Luminent began to realize savings related to the workforce reductions in late 2001, with estimated ongoing quarterly net savings of $2.4 million. In addition, Luminent will realize reduced depreciation charges of approximately $384,000 per quarter through December 2004 and $163,000 per quarter through December 2005 for facility costs. These savings are expected to be realized as reductions in cost of sales, research and development and selling, general and administrative expenses. A summary of the restructuring costs for the three months ended March 31, 2002 is as follows (in thousands):
December 31, Additional March 31, 2001 Provision Utilized (1) 2002 ------------ ---------- ------------ --------- EXIT COSTS: Asset impairment $ -- $ -- $ -- $ -- Closed and abandoned facilities 2,317 -- 56 2,260 Purchase commitments 5,705 -- 2,003 3,702 ------ ------ ------ ------ 8,022 -- 2,059 5,962 Employee severance costs 655 -- -- 655 ------ ------ ------ ------ $8,677 $ -- $2,059 $6,617 ====== ====== ====== ======
(1) Includes $457,000 in reduction of future liabilities based on current negotiations with vendors and $637,000 in expected usage of previously reserved purchase commitments for inventory and equipment. The provisions previously recognized for these items have been reversed in the three months ended March 31, 2002. 8. INTEREST RATE SWAP MRV entered into an interest rate swap (the "Swap") in the second quarter of 2000 to effectively change the interest rate characteristics of its $50.0 million variable-rate term loan presented in long-term debt, with the objective of fixing its overall borrowing costs. The Swap was considered to be 100% effective and was therefore recorded using the short-cut method. The Swap was designated as a cash flow hedge and changes in fair value of the debt were generally offset by changes in fair value of the related security, resulting in negligible net impact. The gain or loss from the change in fair value of the Swap as well as the offsetting change in the hedged fair value of the long-term debt were recognized in other comprehensive loss. In February 2002, MRV paid off the long-term debt of $50.0 million (see Note 9) and terminated the Swap. The realized loss on the Swap of $3.2 million has been recorded as interest expense and included in other expense, net in the accompanying statements of operations. 9. LONG-TERM DEBT AND CONVERTIBLE SUBORDINATED NOTES During the three months ended March 31, 2002, MRV paid off a $50.0 million term loan. Additionally, during the three months ended March 31, 2002, MRV acquired $24.3 million in Convertible Subordinated Notes (the "Notes") in exchange for MRV's issuance of 6.3 million shares of its common stock to the holders of the Notes. In connection therewith, MRV recognized an extraordinary gain of $3.2 million, net of associated taxes. MRV retired the Notes acquired in the exchange. 10. RECENT ACCOUNTING PRONOUNCEMENTS In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations". SFAS No. 143 requires entities to record the fair value of a liability for an asset retirement obligation in the period in which the obligation is incurred. When the liability is initially recorded, the entity capitalizes the cost by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. This statement is effective on January 1, 2003 with earlier application encouraged. MRV has reviewed this statement and has determined that there will be no material impact on its financial position, results of operations or cash flows. In October 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS No. 144 requires that long-lived assets be measured at the lower of carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. MRV adopted this statement on January 1, 2002 and has determined that there will be no material impact on its financial position, results of operations or cash flows. In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections". This statement is effective for fiscal years beginning after May 15, 2002. For certain provisions, including the rescission of Statement 4, early application is encouraged. MRV anticipates applying this statement for the six months ended June 30, 2002 and expects the immediate impact of its application to be the reclassification of the gains on the extinguishment of debt from an extraordinary item to other income. 11. SUPPLEMENTAL STATEMENT OF CASH FLOW INFORMATION
Three Months Ended -------------------------- March 31, March 31, 2002 2001 --------- --------- SUPPLEMENTAL STATEMENT OF CASH FLOW INFORMATION (IN THOUSANDS): Cash paid during period for interest $ 982 $1,197 ------ ------ Cash paid during period for taxes $ 287 $4,540 ====== ======
During the three months ended March 31, 2002, MRV exchanged $24.3 million in convertible subordinated notes for 6.3 million shares of its common stock. This non-cash transaction has been excluded from the accompanying statements of cash flows. 12. RECLASSIFICATIONS Certain prior year amounts have been reclassified to conform to the current year presentation. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our financial condition and results of operations should be read in conjunction with Consolidated Condensed Financial Statements and Notes thereto included elsewhere in this Report. In addition to historical information, the discussion in this Report contains certain forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated by these forward-looking statements due to factors, including but not limited to, those set forth in the following and elsewhere in this Report. We assume no obligation to update any of the forward-looking statements after the date of this Report. OVERVIEW We create, acquire, finance and operate companies, and through them, design, develop, manufacture and market products, which enable high-speed broadband communications. We concentrate on companies and products devoted to optical components and network infrastructure systems. We have leveraged our early experience in fiber optic technology into a number of well-focused operating units specializing in advanced fiber optic components, switching, routing, and wireless optical transmission systems which we have created, financed or acquired. Revenues for the three months ended March 31, 2002 were $62.4 million, compared to $100.1 million for the three months ended March 31, 2001, a decrease of 38%. We reported a net loss of $32.5 million and $54.3 million for the three months ended March 31, 2002 and 2001, respectively. A significant portion of these losses were due to the amortization of goodwill and other intangibles and deferred stock compensation related to our acquisitions in 2000 and our employment arrangements with Luminent's former President and its Chief Financial Officer. We will continue to record deferred stock compensation through 2004 relating to these acquisitions and Luminent's employment arrangements with its executives. Effective January 1, 2002, we adopted Statement of Financial Accounting Standards (SFAS) No. 142, and we no longer amortize goodwill, however, it may require us to record impairment charges (see Recently Issued Accounting Standards, below). We are currently undergoing the first step in the transitional goodwill impairment test prescribed in SFAS No. 142. We will complete the transitional goodwill impairment test and expect to report any potential impairment in the second quarter ending June 30, 2002. For the three months ended March 31, 2002, we recorded impairment charges of $7.6 million in connection with certain equity method investments as the fair value of these assets was less than their carrying value. As a consequence of these deferred stock compensation and potential impairment charges, we do not expect to report net income in the foreseeable future. TRANSACTIONS WITH STOCK OF SUBSIDIARIES In November 2000, Luminent completed the initial public offering of its common stock, selling 12.0 million shares at $12.00 per share for net proceeds of approximately $132.3 million. Luminent designs, manufactures and sells a comprehensive line of fiber optic components that enable communications equipment manufacturers to provide optical networking equipment for the rapidly growing metropolitan and access segments of the communications networks. While we had planned to distribute all of our shares of Luminent common stock to our stockholders, unfavorable business and economic conditions in the fiber optic, data networking and telecommunications industries and the resulting adverse effects on the market prices of our common stock and Luminent common stock, caused us to determine to abandon the distribution and effect a short-form merger of Luminent into one of our wholly-owned subsidiaries, thereby eliminating public ownership of Luminent. This merger was completed on December 28, 2001. In July 2000, we and Luminent, entered into employment agreements with Luminent's former President and Chief Executive Officer and its Vice President of Finance and Chief Financial Officer. The agreements provide for annual salaries, performance bonuses and combinations of stock options to purchase shares of our common stock and Luminent's common stock. The stock options were granted to Luminent's executives at exercise prices below market value, resulting in deferred stock compensation. Deferred stock compensation expense from these stock option grants reported for the years ended December 31, 2001 and 2000, were $35.8 million and $54.2 million, respectively. We will incur additional deferred stock compensation expense of approximately $2.1 million through 2004. Luminent's President and Chief Executive Officer, Dr. Spivey, resigned in September 2001. Dr. Spivey's resignation was considered by the parties to be a termination other than for cause under his employment agreement entitling him to the severance benefits of his employment agreement, including payment over a one year period of an amount equal to two times the sum of his annual salary plus bonus and the vesting of all of his unvested Luminent options. Dr. Spivey's MRV and Luminent stock options are now exercisable through September 11, 2003. RESTRUCTURING CHARGES In the second quarter of 2001, when Luminent's common stock was still publicly traded, Luminent's management approved and implemented a restructuring plan and other actions in order to adjust operations and administration as a result of the dramatic slowdown in the communications equipment industry generally and the optical components sector in particular. Major actions primarily involved the reduction of facilities in the U.S. and in Taiwan, the reduction of workforce, the abandonment of certain assets and the cancellation and termination of purchase commitments. These actions are expected to realign Luminent's business based on current and near term growth rates. All of these actions are expected to be completed in 2002. During the year ended December 31, 2001, Luminent recorded restructuring charges totaling $20.3 million. Costs for restructuring activities are limited to either incremental costs that directly result from the restructuring activities and provide no future revenue generating benefit, or costs incurred under contractual obligations that existed before the restructuring plan and will continue with either no future revenue generating benefit or become a penalty incurred for termination of the obligation. Employee severance costs and related benefits of $1.3 million were associated with 671 layoffs through March 31, 2002, bringing Luminent's total workforce to 1,029 employees as of March 31, 2002. Affected employees came from all divisions and areas of Luminent. The majority of affected employees were in the manufacturing group. Luminent identified a number of assets, including leased facilities and equipment that are no longer required due to current market conditions, operations and expected growth rates. The net facility costs related to closed and abandoned facilities of approximately $2.4 million for the year ended December 31, 2001, are primarily related to future obligations under operating leases. The total lease charge is net of approximately $3.7 million in expected sublease revenue on leases that Luminent cannot terminate. As of March 31, 2002, $2.3 million in estimated future obligation remains. In connection with these closed and abandoned facilities, Luminent recorded asset impairment charges of $10.4 million for the year ended December 31, 2001 to write-down the value of equipment, consisting of leasehold improvements and certain manufacturing equipment. There were no additional asset impairment charges recorded during the three months ended March 31, 2002. Due to the specialized nature of these assets, Luminent determined that they have minimal or no future benefit and recorded a provision reflecting the net book value relating to these assets. Purchase commitments of $3.7 million still remain as of March 31, 2002, are to cancel or renegotiate outstanding contracts for materials and capital assets that are no longer required due to Luminent's significantly reduced orders for optical components and sales projections over the next twelve months. During the three months ended March 31, 2002, $1.1 million of the original purchase commitment provision has been reversed to Cost of Goods Sold. Of this amount, $457,000 reflects a reduction in the estimated future liability due to vendors based on current negotiations, and $637,000 represents inventory and equipment, which will ultimately be utilized. As of December 31, 2001, the restructuring provision has been reduced by cash payments of $910,000 for the three months ended March 31, 2002 and non-cash related charges of $1.1 million for the three months ended March 31, 2002, resulting in an ending liability balance of $6.6 million. Luminent expects to utilize the remaining balance in the year ending December 31, 2002. Luminent expects that it will spend approximately $6.6 million through the year ending December 31, 2002, to carry out the plan, which will be paid through cash and cash equivalents and through operating cash flows. Luminent began to realize savings related to the workforce reductions in late 2001 with estimated ongoing quarterly net savings of $2.4 million. In addition, Luminent anticipates that it will realize reduced depreciation charges of approximately $384,000 per quarter through December 2004 and $163,000 per quarter through December 2005 for facility costs. These savings are expected to be realized as reductions in cost of goods sold, product development and engineering and selling, general and administrative expenses. MARKET CONDITIONS AND CURRENT OUTLOOK Macroeconomic factors, such as an economic slowdown in the U.S. and abroad, have detrimentally impacted demand for optical components and network infrastructure products and services. The unfavorable economic conditions and reduced capital spending has detrimentally affected sales to service providers, network equipment companies, e-commerce and Internet businesses, and the manufacturing industry in the United States during 2002 to date, and may continue to affect them for the remainder of 2002 and thereafter. Announcements by industry participants and observers indicate there is a slowdown in industry spending and participants are seeking to reduce existing inventories. RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, our statements of operations data expressed as a percentage of net revenues.
Three Months Ended -------------------------- MARCH 31, March 31, 2002 2001 ------------------------------------------------------------------------------------------------ (Unaudited) NET REVENUES 100% 100% Cost of goods sold 69 66 GROSS PROFIT 31 34 OPERATING COSTS AND EXPENSES - Product development and engineering 25 25 Selling, general and administrative 38 38 Amortization of intangibles 4 28 Total operating costs and expenses 67 91 OPERATING LOSS (36) (58) Other expense, net 21 1 LOSS BEFORE MINORITY INTEREST, PROVISION (BENEFIT) FOR TAXES AND EXTRAORDINARY ITEM (57) (58) Minority interest -- (1) Provision (benefit) for taxes -- (3) LOSS BEFORE EXTRAORDINARY GAIN (57) (54) Extraordinary gain on extinguishment of debt, net of tax 5 -- NET LOSS (52)% (54)%
The following management discussion and analysis refers to and analyzes our results of operations into two segments as defined by our management. These two segments are Operating Enterprises and Development Stage Enterprises, which includes all start-up activities. THREE MONTHS ENDED MARCH 31, 2002 AND 2001 NET REVENUES We generally recognize product revenue, net of sales discounts and allowances, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered probable. Products are generally shipped "FOB shipping point" with no right of return. Sales with contingencies, such as right of return, rotation rights, conditional acceptance provisions and price protection are rare and insignificant and are deferred until the contingencies have been satisfied or the contingent period has lapsed. We generally warrant our products against defects in materials and workmanship for one year. The estimated costs of warranty obligations and sales returns and other allowances are recognized at the time of revenue recognition based on contract terms and prior claims experience. Our major revenue-generating products consist of: optical passive and active components; switches and routers; remote device management; and network physical infrastructure equipment. Revenue generated through the sales of services and systems support has been insignificant. Operating Enterprises. Revenues for the three months ended March 31, 2002 decreased $37.7 million, or 38%, to $62.4 million from $100.1 million for the three months ended March 31, 2001. Overall, the communications equipment industry was extremely depressed, as was the end markets that we serve. Historically, the first quarter has been seasonally our weakest quarter. Revenues generated from our optical passive and active components represented the most significant impact on revenues, decreasing $25.6 million during the three months ended March 31, 2002 to $22.3 million from $47.9 million for the same period last year. The decrease in our optical passive and active components was primarily the result of the dramatic downturn in the communications equipment industry and specifically the optical components sector. Revenues generated from our switches and routers decreased $6.6 million, or 34%, to $12.7 million for the three months ended March 31, 2002 as compared to $19.3 million for the three months ended March 31, 2001. Network physical infrastructure equipment revenues decreased $3.7 million, or 20%, to $14.4 million for the three months ended March 31, 2002 as compared to $18.1 million for the three months ended March 31, 2001. Revenues to the United States decreased $23.7 million, or 57%, for the three months ended March 31, 2002, to $18.2 million as compared to $41.9 million for the three months ended March 31, 2001. Revenues to the Asia Pacific decreased $8.2 million, or 55%, for the three months ended March 31, 2002 to $6.6 million as compared to $14.8 million for the three months ended March 31, 2001. Revenue to Europe decreased $4.1 million, or 10%, for the three months ended March 31, 2002 to $37.2 million as compared to $41.3 million for the three months ended March 31, 2001. Development Stage Enterprises. No significant revenues were generated by these entities for the three months ended March 31, 2002 and 2001. GROSS PROFIT Gross profit is equal to our net revenues less our cost of goods sold. Our cost of goods sold includes materials, direct labor and overhead. Cost of inventory is determined by the first-in, first-out method. Operating Enterprises. Gross profit for the three months ended March 31, 2002 was $19.3 million, compared to gross profit of $33.7 million for the three months ended March 31, 2001. Gross profit decreased $14.4 million, or 43%, for the three months ended March 31, 2002 as compared to the three months ended March 31, 2001. Our gross margins (defined as gross profit as a percentage of net revenues) are generally affected by price changes over the life of the products and the overall mix of products sold. Higher gross margins are generally expected from new products and improved production efficiencies as a result of increased utilization. Conversely, prices for existing products generally will continue to decrease over their respective life cycles. Our gross margin decreased to 31% for the three months ended March 31, 2002, compared to gross margin of 34% for the three months ended March 31, 2001. The decrease in gross margin was primarily attributed to increased market pressures resulting in lower revenue volumes with fixed overhead. Also, we realized lower margins as we decreased inventories at lower average sales prices. Prior to deferred stock compensation amortization of $1.1 million and $2.3 million for the three months ended March 31, 2002 and 2001, respectively, gross margins would have been $20.4 million, or 33% of net revenues and $36.0 million, or 36% of net revenues, respectively. Development Stage Enterprises. No significant gross margins were produced by these entities for the three months ended March 31, 2002 and 2001. PRODUCT DEVELOPMENT AND ENGINEERING Product development and engineering expenses decreased 38%, to $15.6 million for the three months ended March 31, 2002 as compared to $25.0 million for the three months ended March 31, 2001. Operating Enterprises. Product development and engineering expenses from our operating enterprises were $10.2 million, or 16% of net revenues, for the three months ended March 31, 2002, as compared to $13.9 million, or 14% of net revenues, for the three months ended March 31, 2001. This represents a decrease of $3.7 million, or 27%, for the three months ended March 31, 2002. Prior to deferred stock compensation amortization charges of $2.5 million and $4.1 million for the three months ended March 31, 2002 and 2001, respectively, product development and engineering expenses would have decreased by 21% to $7.7 million, or 12% of net revenues, from $9.8 million, or 10% of net revenues, for the three months ended March 31, 2002 and 2001, respectively. Development Stage Enterprises. Product development and engineering expenses of the development stage enterprises were $5.4 million, or 9% of net revenues, for the three months ended March 31, 2002, as compared to $11.1 million, or 11% of net revenues, for the three months ended March 31, 2001. This represents a decrease of $5.7 million, or 51%, for the three months ended March 31, 2002. SELLING, GENERAL AND ADMINISTRATIVE (SG&A) SG&A expenses decreased $14.9 million to $23.5 million for the three months ended March 31, 2002, compared to $38.4 million for the three months ended March 31, 2001. SG&A expenses were 38% of net revenues for each of the three months ended March 31, 2002 and 2001. Prior to deferred stock compensation amortization charges of $2.2 million for the three months ended March 31, 2002 and deferred stock compensation amortization charges of $12.5 million for the three months ended March 31, 2001, SG&A would have decreased 18% to $21.3 million from $25.9 million for the three months ended March 31, 2002, respectively. As a percentage of net revenue, SG&A prior to deferred stock compensation amortization expenses would have been 34% for the three months ended March 31, 2002 and 26% for the three months ended March 31, 2001. Operating Enterprises. SG&A expenses decreased 39% over the prior period to $21.6 million for the three months ended March 31, 2002. SG&A expenses were 35% and 36% of our net revenue for the three months ended March 31, 2002 and 2001, respectively. Prior to deferred stock compensation amortization charges of $2.2 million and $12.5 million for the three months ended March 31, 2002 and 2001, respectively, SG&A would have decreased 16% to $19.4 million for the three months ended March 31, 2002, as compared to $23.0 million for the three months ended March 31, 2001. As a percentage of net revenues, SG&A prior to deferred stock compensation charges would have been 31% for the three months ended March 31, 2002, as compared to 23% for the three months ended March 31, 2001. These decreases are mainly due to the reduction of overhead expenses to align operations with current revenue levels. Development Stage Enterprises. SG&A expenses decreased 34% over the prior period to $1.9 million for the three months ended March 31, 2002, as compared to $2.9 million for the three months ended March 31, 2002. SG&A expenses for these entities also decreased due to reductions in overhead expenses. AMORTIZATION OF INTANGIBLES Operating Enterprises. Amortization of intangibles decreased to $2.5 million for the three months ended March 31, 2002, as compared to $28.1 million for the three months ended March 31, 2001. The decrease of approximately $25.6 million was the result of the adoption of SFAS No. 142 (see Recently Issued Accounting Standards, below). In accordance with SFAS No. 142, the amortization of goodwill and certain other intangibles was discontinued effective on January 1, 2002. However, instead of amortization, an annual impairment analysis is to be performed. We are undergoing the first step in the transitional goodwill impairment test prescribed in SFAS No. 142. We will complete the transitional goodwill impairment test and expect to report any potential impairment when we report our financial results for the second quarter ending June 30, 2002. Development Stage Enterprises. No significant amortization of intangibles was recorded for these entities for the three months ended March 31, 2002 and 2001. OTHER EXPENSE, NET; EXTRAORDINARY GAIN ON EXTINGUISHMENT OF DEBT In June 1998, we issued $100.0 million principal amount of 5% convertible subordinated notes (the Notes) due in June 2003. The Notes were offered in a 144A private placement to qualified institutional investors at the stated amount, less a selling discount of 3%. During the three months ended March 31, 2002, we acquired $24.3 million in Notes in exchange for our issuance of 6.3 million shares of our common stock to the holders of the Notes. In connection with the acquisition and retirement of these Notes, we recognized an extraordinary gain of $3.2 million net of associated taxes. In late 1998, we repurchased $10.0 million principal amount of these notes for cash at a discount from the stated amount. We incurred $1.4 million and $1.2 million in interest expense relating to the Notes for the three months ended March 31, 2002 and 2001, respectively. We account for certain unconsolidated subsidiaries using the equity method. The increase in other expense from $520,000 to $13.1 million for the three months ended March 31, 2002 is primarily attributable to our share of losses from our unconsolidated subsidiaries of $1.3 million and impairment charges of $7.6 million on our investments in these subsidiaries, partially offset by interest income. As part of our asset realization evaluation, we determined that the carrying value of certain investments were impaired. Our share of losses from our unconsolidated subsidiaries was $1.3 million for the three months ended March 31, 2001. PROVISION (BENEFIT) FOR TAXES The provision for taxes for the three months ended March 31, 2002 was $186,000, compared to a benefit for taxes of $2.7 million for the three months ended March 31, 2001. Our tax expense fluctuates primarily due to the tax jurisdictions where we currently have operating facilities and the varying tax rates in those jurisdictions. CRITICAL ACCOUNTING POLICIES In response to the SEC's Release No. 33-8040, "Cautionary Advice Regarding Disclosure About Critical Accounting Policy," we identified the most critical accounting principles upon which our financial status depends. We determined the critical principles considering accounting principles to be related to revenue recognition, inventory valuation and impairment of intangibles and other long-lived assets. We state these accounting policies in the Footnotes to our Consolidated Financial Statements and in relevant sections in this management's discussion and analysis, including the Recently Issued Accounting Standards discussed below. RECENTLY ISSUED ACCOUNTING STANDARDS The FASB recently approved two pronouncements: SFAS No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other Intangible Assets," which provide guidance on the accounting for business combinations, requires all future business combinations to be accounted for using the purchase method, discontinues amortization of goodwill, defines when and how intangible assets are amortized and requires an annual impairment test for goodwill. We adopted these statements effective January 1, 2002. We are currently undergoing the first step in the transitional goodwill impairment test prescribed in SFAS No. 142. We will complete the transitional goodwill impairment test and expect to report any potential impairment in the second quarter ended June 30, 2002. SFAS No. 142 represents a change in the methodology used to determine impairment in that it is more market-focused. As of March 31, 2002, our common stock was trading at amounts significantly lower than our book value. As such, we anticipate recording, in the second quarter of 2002, impairment charges as a result of our depressed market valuation. Should market values dramatically improve during the first half of 2002, impairment losses, if any, could be reduced or eliminated. Furthermore, as we continue to engage in strategic acquisitions, we may record additional goodwill and other intangibles. In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations". SFAS No. 143 requires entities to record the fair value of a liability for an asset retirement obligation in the period in which the obligation is incurred. When the liability is initially recorded, the entity capitalizes the cost by increasing the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized costs are depreciated over the useful life of the related asset. This statement is effective on January 1, 2003 with earlier application encouraged. We have reviewed this statement and have determined that there will not be a material impact on our financial position, results of operations or cash flows. In October 2001, the FASB issues SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS No. 144 requires that long-lived assets be measured at the lower of carrying amount or fair value less cost to sell, whether reported in continuing operations or in discontinued operations. We adopted this statement on January 1, 2002, and have determined that there will not be a material impact on our financial position, results of operations or cash flows. In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." This statement is effective for fiscal years beginning after May 15, 2002. For certain provisions, including the rescission of Statement 4, early application is encouraged. We anticipate applying this statement for the six months ended June 30, 2002 and expect the immediate impact of its application to be the reclassification of our gain on the extinguishment of debt from an extraordinary item to other income. LIQUIDITY AND CAPITAL RESOURCES Cash and cash equivalents were $90.7 million as of March 31, 2002, a decrease of $74.0 million from cash and cash equivalents of $164.7 million as of December 31, 2001. Working capital as of March 31, 2002 was $165.0 million compared to $175.4 million as of December 31, 2001. Our ratio of current assets to current liabilities as of March 31, 2002 was 2.5 to 1.0 compared to 2.0 to 1.0 as of December 31, 2001. The decrease in working capital is substantially attributed to the cash requirements of our development stage enterprises and our consolidated net operating losses. As of March 31, 2002 and December 31, 2001, we did not have any "off-balance sheet" financing arrangements. Cash used in operating activities was $7.8 million for the three months ended March 31, 2002, as compared to cash used in operating activities of $25.7 million for the three months ended March 31, 2001. Cash used in operating activities is a result of our net operating loss of $32.5 million, adjusted for non-cash items such as depreciation and amortization and deferred stock compensation charges, and offset by cash generated from operating assets and liabilities. Cash used in operating activities were positively affected by decreased accounts receivables, inventories and other assets partially offset by decreases in accounts payable, accrued liabilities and other current liabilities, during the period. The decrease in accounts receivable is due to lower revenue volumes coupled with increased collection efforts, while the decrease in inventory is primarily the result of the utilization of inventories on-hand. Decreases in accounts payable and accrued liabilities are the result of dramatic slowdown in the communications equipment industry and reductions in overhead expenses. Cash flows used in investing activities were $11.0 million for the three months ended March 31, 2002, compared to cash provided by investing activities of $358,000 for the three months ended March 31, 2001. Cash flows used in investing activities for the three months ended March 31, 2002 were the result of capital expenditures of $2.9 million, purchases of short-term marketable securities of $7.5 million and investments in unconsolidated equity method subsidiaries of $605,000. Cash flows provided by investing activities for the prior period resulted from the net cash provided by the maturity of investments, offset by net cash used in for capital expenditures. Cash flows from financing activities were $53.1 million for the three months ended March 31, 2002, as compared to cash provided in financing activities of $4.8 million for the three months ended March 31, 2001. Cash used in financing activities was primarily the result of paying off $50.0 million of long-term debt and terminating our interest rate swap for $3.2 million, offset by proceeds received from the exercise of stock options of $76,000 and short-term borrowing of 568,000. Cash flows provided by financing activities in the prior period represent the cash received through borrowings on our short-term obligations and the exercise of stock options, offset by payments on our short-term and long-term obligations. On November 10, 2000, Luminent completed the initial public offering of its common stock, selling 12.0 million shares at $12 per share. Their initial public offering raised net proceeds of approximately $132.3 million. In December 2001, we reacquired, through a short-form merger, the minority interest of Luminent representing approximately 8% of Luminent's outstanding common stock (see the discussion above). Following this merger, we increased our liquidity based on Luminent's cash, cash equivalents, restricted cash and cash equivalents and short-term investments on hand as of the consummation of the merger, or $107.7 million at December 31, 2001. In June 1998, we issued $100.0 million principal amount of 5% Convertible Subordinated Notes (the Notes) due in June 2003, in a private placement raising net proceeds of $96.4 million. The share (equivalent to a conversion rate of approximately 73.94 share per $1,000 principal amount of notes), representing an initial conversion premium of 24% for a total of approximately 7.4 million shares of our common stock. The notes bear interest at 5% per annum, which is payable semi-annually on June 15 and December 15 of each year. The notes have a five-year term and have been callable by us since June 15, 2001. The premiums payable to call these notes are 102% of the outstanding principal amount during the 12 months ending June 14, 2002 and 101% during the 12 months ending June 14, 2003, plus accrued interest through the date of redemption. During the three months ended March 31, 2002, we acquired $24.3 million in Notes in exchange for the issuance of 6.3 million shares of our common stock. In connection with the acquisition and retirement of these Notes, we recognized an extraordinary gain of $3.2 million net of associated taxes. The following table illustrates our total contractual cash obligations as of March 31, 2002 (in thousands):
Less than 1 Cash Obligations TOTAL Year 1 - 3 Years 4 - 5 Years After 5 Years - ------------------------------ -------- ----------- ----------- ----------- ------------- Long-term obligations $ 10,518 $ 2,521 $ 4,421 $ 3,088 $ 488 Convertible subordinated notes 65,346 -- 65,346 -- -- Unconditional purchase obligations 16,191 13,915 1,860 357 59 Operating leases 28,288 7,791 11,614 5,240 3,643 Investments 9,450 3,820 1,920 1,920 1,790 -------- ------- ------- ------- ------ Total contractual cash obligations $129,793 $28,047 $85,161 $10,605 $5,980 ======== ======= ======= ======= ======
Our total contractual cash obligations as of March 31, 2002, were $129.8 million, of which, $28.0 million are due during within the next 12 months. These total contractual cash obligations primarily consist of long-term financing obligations including our convertible subordinated notes, operating leases for our equipment and facilities, unconditional purchase obligations for necessary raw materials and funding commitments for certain development stage enterprises. Historically, these obligations have been satisfied through cash generated from our operations or other avenues (see discussion below), and we expect that this will continue to be the case. Our remaining short-term obligations of $28.0 million consist primarily of $7.8 million for operating leases, $13.9 million for unconditional purchase obligations and $3.8 million for funding commitments for our development stage enterprises. Our unconditional purchase obligations are to secure the necessary raw goods for production of our products. As part of Luminent's restructure plan (see our discussion above and the Footnotes to our Consolidated Condensed Financial Statements), $3.7 million in unconditional purchase obligations have been recorded as a liability and Luminent is in negotiations to cancel or renegotiate contracts that are no longer required due to its significantly reduced orders for optical components and sales projections. The remaining purchase commitments are part of our ordinary course of business. Finally, we will continue to fund start-up activities, which are complementary to our business strategy. Our remaining long-term obligations as of March 31, 2002 of $101.8 million consist primarily of $73.3 million of long-term financing obligations including our $65.3 million in remaining convertible subordinated notes, $20.5 million in operating leases for our equipment and facilities, $2.3 million on unconditional purchase obligations and $5.6 million for funding commitments for certain development stage enterprises. Our remaining long-term financing obligations consist of financing obtained for capital expenditures and produce expansion. Our operating leases expire at various dates through 2049. We believe that our cash on-hand and cash flows from operations will be sufficient to satisfy our working capital, capital expenditures and research and development requirements for at least the next 12 months. However, we may choose to obtain additional debt or equity financing if we believe it appropriate. Our future capital requirements will depend on many factors, including acquisitions, our rate of revenue growth, the timing and extent of spending to support development of new products and expansion of sales and marketing, the timing of new product introductions and enhancements to existing products and market acceptance of our products. MARKET RISKS Market risk represents the risk of loss that may impact our Consolidated Financial Statements through adverse changes in financial market prices and rates and inflation. Our market risk exposure results primarily from fluctuations in interest rates and foreign exchange rates. We manage our exposure to these market risks through our regular operating and financing activities and have not historically hedged these risks through the use of derivative financial instruments. The term hedge is used to mean a strategy designed to manage risks of volatility in prices or interest and foreign exchange rate movements on certain assets, liabilities or anticipated transactions and creates a relationship in which gains or losses on derivative instruments are expected to counter-balance the losses or gains on the assets, liabilities or anticipated transactions exposed to such market risks. Interest Rates. We are exposed to interest rate fluctuations on our investments, short-term borrowings and long-term obligations. Our cash and short-term investments are subject to limited interest rate risk, and are primarily maintained in money market funds and bank deposits. Our variable-rate short-term borrowings are also subject to limited interest rate risk due to their short-term maturities. Our long-term obligations were entered into with fixed and variable interest rates. In connection with our $50.0 million variable-rate term loan due in 2003, we entered into a specific hedge, an interest rate swap, to modify the interest characteristics of this instrument. The interest rate swap was used to reduce our cost of financing and the fluctuations in the aggregate interest expense. The notional amount, interest payment and maturity dates of the swap match the principal, interest payment and maturity dates of the related debt. Accordingly, any market risk or opportunity associated with this swap is offset by the opposite market impact on the related debt. In February 2002, we paid off our $50.0 million term loan and terminated our interest rate swap for $3.2 million. To date, we have not entered into any other derivative instruments, however, as we continue to monitor our risk profile, we may enter into additional hedging instruments in the future. Foreign Exchange Rates. We operate on an international basis with a portion of our revenues and expenses being incurred in currencies other than the U.S. dollar. Fluctuation in the value of these foreign currencies in which we conduct our business relative to the U.S. dollar will cause U.S. dollar translation of such currencies to vary from one period to another. We cannot predict the effect of exchange rate fluctuations upon future operating results. However, because we have expenses and revenues in each of the principal functional currencies, the exposure to our financial results to currency fluctuations is reduced. We have not historically attempted to reduce our currency risks through hedging instruments; however, we may do so in the future. Inflation. We believe that the relatively moderate rate of inflation in the United States over the past few years has not had a significant impact on our sales or operating results or on the prices of raw materials. However, in view of our recent expansion of operations in Taiwan, Israel and other countries, which have experienced greater inflation than the United States, there can be no assurance that inflation will not have a material adverse effect on our operating results in the future. CERTAIN RISK FACTORS THAT COULD AFFECT FUTURE RESULTS From time to time we may make written or oral forward-looking statements. Written forward-looking statements may appear in documents filed with the Securities and Exchange Commission, in press releases, and in reports to stockholders. The Private Securities Reform Act of 1995 contains a safe harbor for forward-looking statements on which the Company relies in making such disclosures. In connection with this "safe harbor" we are hereby identifying important factors that could cause actual results to differ materially from those contained in any forward-looking statements made by or on behalf of the Company. Any such statement is qualified by reference to the following cautionary statements: WE INCURRED A NET LOSS IN THE THREE MONTHS ENDED MARCH 31, 2002 AND 2001, YEARS ENDED DECEMBER 31, 2001 AND 2002, PRIMARILY AS A RESULT OF THE AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES AND DEFERRED COMPENSATION CHARGES FROM RECENT ACQUISITIONS. WE EXPECT TO CONTINUE TO INCUR NET LOSSES FOR THE FORESEEABLE FUTURE. We reported a net loss of $32.5 million and $54.3 million for the three months ended March 31, 2002 and 2001, respectively, $326.4 million for the year ended December 31, 2001 and $153.0 million for the year ended December 31, 2000. A major contributing factor to the net losses was the amortization of goodwill and intangibles and deferred stock compensation related to our acquisitions of Fiber Optic Communications, Jolt, Quantum Optech, AstroTerra and Optronics and our employment arrangements with Luminent's former President and Luminent's Chief Financial Officer. We will continue to record deferred stock compensation relating to these acquisitions and the employment arrangements with these executives going forward. Effective January 1, 2002, we adopted SFAS No. 142 and no longer amortize goodwill. However, we may be required to record goodwill impairment charges if the fair value of the assets acquired is less than their carrying value (see Recently Issued Accounting Standards). As a consequence of deferred stock compensation charges and potential impairment charges, we do not expect to report net income in the foreseeable future. OUR BUSINESS HAS BEEN ADVERSELY IMPACTED BY THE WORLDWIDE ECONOMIC SLOWDOWN AND RELATED UNCERTAINTIES. Weaker economic conditions worldwide, particularly in the U.S. and Europe, have contributed to the current technology industry slowdown and impacted our business resulting in: - reduced demand for our products, particularly Luminent's fiber optic components; - increased risk of excess and obsolete inventories; - increased price competition for our products; - excess manufacturing capacity under current market conditions; and - higher overhead costs, as a percentage of revenues. These unfavorable economic conditions and reduced capital spending in the telecommunications industry detrimentally affected sales to service providers, network equipment companies, e-commerce and Internet businesses, and the manufacturing industry in the United States, during 2001 and the first quarter of 2002, appear to continue to affect these industries in the second quarter of 2002 and may affect them for the balance of 2002 and thereafter. Announcements by industry participants and observers indicate there is a slowdown in industry spending and participants are seeking to reduce existing inventories and we are experiencing these reductions in our business. As a result of these factors, we recorded, during the year ended December 31, 2001, consolidated charges from our subsidiary, Luminent, which include the write-off of inventory, purchase commitments, asset impairment, workforce reduction, restructuring costs and other unusual items. The aggregate charges recorded during the year ended December 31, 2001 were $49.5 million. These charges are the result of the lower demand for Luminent's products and pricing pressures stemming from the continuing downturn in the communications equipment industry generally and the optical components sector in particular. Additionally, these economic conditions are making it very difficult for MRV and our other companies, our customers and our vendors to forecast and plan future business activities. This level of uncertainty severely challenges our ability to operate profitably or to grow our businesses. In particular, it is difficult to develop and implement strategy, sustainable business models and efficient operations, and effectively manage manufacturing and supply chain relationships. We lost a key member of our management team in the terrorists attacks on the World Trade Center of September 11, 2001 and thus the attacks have already had adverse consequences on our business. However, we do not know how the consequences of these attacks will additionally affect our business. It is possible that a decrease in business and consumer confidence in the economy and the stability of financial markets may lead to delays or reductions in capital expenditures by our customers and potential customers. Concerns over accounting practices of service providers and faltering growth prospects among equipment manufactures could delay the economic recovery in the telecommunications industry beyond 2002. In addition, further disruptions of the air transport system in the United States and abroad may negatively impact our ability to deliver products to customers, visit potential customers, to provide support and service to our existing customers and to obtain components in a timely fashion. If the economic or market conditions continue or further deteriorate, or if the economic downturn is exacerbated as a result of political, economic or military conditions associated with current domestic and world events, our businesses, financial condition and results of operations could be further impaired. OUR MARKETS ARE SUBJECT TO RAPID TECHNOLOGICAL CHANGE, AND TO COMPETE EFFECTIVELY, WE MUST CONTINUALLY INTRODUCE NEW PRODUCTS THAT ACHIEVE MARKET ACCEPTANCE. The markets for our products are characterized by rapid technological change, frequent new product introductions, changes in customer requirements and evolving industry standards. We expect that new technologies will emerge as competition and the need for higher and more cost effective transmission capacity, or bandwidth, increases. Our future performance will depend on the successful development, introduction and market acceptance of new and enhanced products that address these changes as well as current and potential customer requirements. The introduction of new and enhanced products may cause our customers to defer or cancel orders for existing products. We have in the past experienced delays in product development and these delays may occur in the future. Therefore, to the extent customers defer or cancel orders in the expectation of a new product release or there is any delay in development or introduction of our new products or enhancements of our products, our operating results would suffer. We also may not be able to develop the underlying core technologies necessary to create new products and enhancements, or to license these technologies from third parties. Product development delays may result from numerous factors, including: - changing product specifications and customer requirements; - difficulties in hiring and retaining necessary technical personnel; - difficulties in reallocating engineering resources and overcoming resource limitations; - difficulties with contract manufacturers; - - changing market or competitive product requirements; and - unanticipated engineering complexities. The development of new, technologically advanced products is a complex and uncertain process requiring high levels of innovation and highly skilled engineering and development personnel, as well as the accurate anticipation of technological and market trends. In order to compete, we must be able to deliver products to customers that are highly reliable, operate with its existing equipment, lower the customer's costs of acquisition, installation and maintenance, and provide an overall cost-effective solution. We cannot assure you that we will be able to identify, develop, manufacture, market or support new or enhanced products successfully, if at all, or on a timely basis. Further, we cannot assure you that our new products will gain market acceptance or that we will be able to respond effectively to product announcements by competitors, technological changes or emerging industry standards. Any failure to respond to technological changes would significantly harm our business. DEFECTS IN OUR PRODUCTS RESULTING FROM THEIR COMPLEXITY OR OTHERWISE COULD HURT OUR FINANCIAL PERFORMANCE. Complex products, such as those our companies and we offer, may contain undetected software or hardware errors when we first introduce them or when we release new versions. The occurrence of these errors in the future, and our inability to correct these errors quickly or at all, could result in the delay or loss of market acceptance of our products. It could also result in material warranty expense, diversion of engineering and other resources from our product development efforts and the loss of credibility with, and legal actions by, our customers, system integrators and end users. For instance, during late 2000, we were informed that certain Luminent transceivers sold to Cisco were experiencing field failures. Through discussions with Cisco through September 2001, Luminent's management agreed to replace the failed units, which we believe resolves this issue. We expect the ultimate replacement of these failed transceivers will cost approximately $2.9 million which has been fully reserved. Any of these or other eventualities resulting from defects in our products could cause our sales to decline and have a material adverse effect on our business, operating results and financial condition. OUR OPERATING RESULTS COULD FLUCTUATE SIGNIFICANTLY FROM QUARTER TO QUARTER. Our operating results for a particular quarter are extremely difficult to predict. Our revenue and operating results could fluctuate substantially from quarter to quarter and from year to year. This could result from any one or a combination of factors such as: - the cancellation or postponement of orders, - the timing and amount of significant orders from our largest customers, - our success in developing, introducing and shipping product enhancements and new products, - the mix of products we sell, - software, hardware or other errors in the products we sell requiring replacements or increased warranty reserves, - adverse effects to our financial statements resulting from, or necessitated by, past and future acquisitions or deferred compensation charges, - new product introductions by our competitors, - pricing actions by our competitors or us, - the timing of delivery and availability of components from suppliers, - changes in material costs, and - general economic conditions. Moreover, the volume and timing of orders we receive during a quarter are difficult to forecast. From time to time, our customers encounter uncertain and changing demand for their products. Customers generally order based on their forecasts. If demand falls below these forecasts or if customers do not control inventories effectively, they may cancel or reschedule shipments previously ordered from us. Our expense levels during any particular period are based, in part, on expectations of future sales. If sales in a particular quarter do not meet expectations, our operating results could be materially adversely affected. Our success is dependent, in part, on the overall growth rate of the fiber optic components and networking industry. We can give no assurance that the Internet or the industries that serve it will continue to grow or that we will achieve higher growth rates. Our business, operating results or financial condition may be adversely affected by any decreases in industry growth rates. In addition, we can give no assurance that our results in any particular period will fall within the ranges for growth forecast by market researchers. Because of these and other factors, you should not rely on quarter-to-quarter comparisons of our results of operations as an indication of our future performance. It is possible that, in future periods, our results of operations may be below the expectations of public market analysts and investors. This failure to meet expectations could cause the trading price of our common stock to decline. Similarly, the failure by our competitors or customers to meet or exceed the results expected by their analysts or investors could have a ripple effect on us and cause our stock price to decline. THE LONG SALES CYCLES FOR OUR PRODUCTS MAY CAUSE REVENUES AND OPERATING RESULTS TO VARY FROM QUARTER TO QUARTER, WHICH COULD CAUSE VOLATILITY IN OUR STOCK PRICE. The timing of our revenue is difficult to predict because of the length and variability of the sales and implementation cycles for our products. We do not recognize revenue until a product has been shipped to a customer, all significant vendor obligations have been performed and collection is considered probable. Customers often view the purchase of our products as a significant and strategic decision. As a result, customers typically expend significant effort in evaluating, testing and qualifying our products and our manufacturing process. This customer evaluation and qualification process frequently results in a lengthy initial sales cycle of, depending on the products, many months or more. In addition, some of our customers require that our products be subjected to lifetime and reliability testing, which also can take months or more. While our customers are evaluating our products and before they place an order with us, we may incur substantial sales and marketing and research and development expenses to customize our products to the customer's needs. We may also expend significant management efforts, increase manufacturing capacity and order long lead-time components or materials prior to receiving an order. Even after this evaluation process, a potential customer may not purchase our products. Even after acceptance of orders, our customers often change the scheduled delivery dates of their orders. Because of the evolving nature of the optical networking and network infrastructure markets, we cannot predict the length of these sales, development or delivery cycles. As a result, these long sales cycles may cause our net sales and operating results to vary significantly and unexpectedly from quarter-to-quarter, which could cause volatility in our stock price. THE PRICES OF OUR SHARES MAY CONTINUE TO BE HIGHLY VOLATILE. Historically, the market price of our shares has been extremely volatile. The market price of our common stock is likely to continue to be highly volatile and could be significantly affected by factors such as: - actual or anticipated fluctuations in our operating results, - announcements of technological innovations or new product introductions by us or our competitors, - changes of estimates of our future operating results by securities analysts, - developments with respect to patents, copyrights or proprietary rights, and - general market conditions and other factors. In addition, the stock market has experienced extreme price and volume fluctuations that have particularly affected the market prices for the common stocks of technology companies in particular, and that have been unrelated to the operating performance of these companies. These factors, as well as general economic and political conditions, may materially adversely affect the market price of our common stock in the future. Similarly, the failure by our competitors or customers to meet or exceed the results expected by their analysts or investors could have a ripple effect on us and cause our stock price to decline. Additionally, volatility or a lack of positive performance in our stock price may adversely affect our ability to retain key employees, all of whom have been granted stock options. OUR STOCK PRICE MIGHT SUFFER AS A CONSEQUENCE OF OUR INVESTMENTS IN AFFILIATES. We have created several start-up companies and formed independent business units in the optical technology and Internet infrastructure areas. We account for these investments in affiliates according to the equity or cost methods as required by accounting principles generally accepted in the United States. The market value of these investments may vary materially from the amounts shown as a result of business events specific to these entities or their competitors or market conditions. Actual or perceived changes in the market value of these investments could have a material impact on our share price and in addition could contribute significantly to volatility of our share price. OUR BUSINESS IS INTENSELY COMPETITIVE AND THE EVIDENT TREND OF CONSOLIDATIONS IN OUR INDUSTRY COULD MAKE IT MORE SO. The markets for fiber optic components and networking products are intensely competitive and subject to frequent product introductions with improved price/performance characteristics, rapid technological change and the continual emergence of new industry standards. We compete and will compete with numerous types of companies including companies that have been established for many years and have considerably greater financial, marketing, technical, human and other resources, as well as greater name recognition and a larger installed customer base, than we do. This may give these competitors certain advantages, including the ability to negotiate lower prices on raw materials and components than those available to us. In addition, many of our large competitors offer customers broader product lines, which provide more comprehensive solutions than our current offerings. We expect that other companies will also enter markets in which we compete. Increased competition could result in significant price competition, reduced profit margins or loss of market share. We can give no assurance that we will be able to compete successfully with existing or future competitors or that the competitive pressures we face will not materially and adversely affect our business, operating results and financial condition. In particular, we expect that prices on many of our products will continue to decrease in the future and that the pace and magnitude of these price decreases may have an adverse impact on our results of operations or financial condition. There has been a trend toward industry consolidation for several years. We expect this trend toward industry consolidation to continue as companies attempt to strengthen or hold their market positions in an evolving industry. We believe that industry consolidation may provide stronger competitors that are better able to compete. This could have a material adverse effect on our business, operating results and financial condition. WE MAY HAVE DIFFICULTY MANAGING OUR BUSINESSES. Our growth in recent years, both internally and through the acquisitions we have made has placed a significant strain on our financial and management personnel and information systems and controls. As a consequence, we must continually implement new and enhance existing financial and management information systems and controls and must add and train personnel to operate these systems effectively. Our delay or failure to implement new and enhance existing systems and controls as needed could have a material adverse effect on our results of operations and financial condition in the future. Our intention to continue to pursue a growth strategy can be expected to place even greater pressure on our existing personnel and to compound the need for increased personnel, expanded information systems, and additional financial and administrative control procedures. We can give no assurance that we will be able to successfully manage operations if they continue to expand. WE FACE RISKS FROM OUR INTERNATIONAL OPERATIONS. International sales have become an increasingly important segment of our operations. The following table sets forth the percentage of our total net revenues from sales to customers in foreign countries for the periods indicated below:
Three Months Ended Year Ended ------------------------ -------------------------------------------------- March 31, March 31, December 31, December 31, December 31, 2002 2001 2001 2000 1999 --------- --------- ------------ ------------ ------------ Percent of total revenue from foreign sales 71% 58% 67% 63% 58%
We have companies and offices in, and conduct a significant portion of our operations in and from, Israel. We are, therefore, directly influenced by the political and economic conditions affecting Israel. Any major hostilities involving Israel, the interruption or curtailment of trade between Israel and its trading partners or a substantial downturn in the economic or financial condition of Israel could have a material adverse effect on our operations. In addition, the recent acquisition of operations in Taiwan and People's Republic of China has increased both the administrative complications we must manage and our exposure to political, economic and other conditions affecting Taiwan and People's Republic of China. Luminent has a large manufacturing facility in the People's Republic of China in which it manufactures passive fiber optic components and both Luminent and we make sales of our products in the People's Republic of China. Our total sales in the People's Republic of China amounted to approximately $10.4 million during the year ended December 31, 2001 and $2.7 million during the year ended December 31, 2000. Currently there is significant political tension between Taiwan and People's Republic of China, which could lead to hostilities. Risks we face due to international sales and the use of overseas manufacturing include: - greater difficulty in accounts receivable collection and longer collection periods; - the impact of recessions in economies outside the United States; - unexpected changes in regulatory requirements; - seasonal reductions in business activities in some parts of the world, such as during the summer months in Europe or in the winter months in Asia when the Chinese New Year is celebrated; - certification requirements; - potentially adverse tax consequences; - unanticipated cost increases; - unavailability or late delivery of equipment; - trade restrictions; - limited protection of intellectual property rights; - unforeseen environmental or engineering problems; and - personnel recruitment delays. The majority of our sales are currently denominated in U.S. dollars and to date our business has not been significantly affected by currency fluctuations or inflation. However, as we conduct business in several different countries, fluctuations in currency exchange rates could cause our products to become relatively more expensive in particular countries, leading to a reduction in sales in that country. In addition, inflation or fluctuations in currency exchange rates in these countries could increase our expenses. To date, we have not hedged against currency exchange risks. In the future, we may engage in foreign currency denominated sales or pay material amounts of expenses in foreign currencies and, in that event, may experience gains and losses due to currency fluctuations. Our operating results could be adversely affected by currency fluctuations or as a result of inflation in particular countries where material expenses are incurred. WE DEPEND ON THIRD-PARTY CONTRACT MANUFACTURERS FOR NEEDED COMPONENTS AND THEREFORE COULD FACE DELAYS HARMING OUR SALES. We outsource the board-level assembly, test and quality control of material, components, subassemblies and systems relating to our networking products to third-party contract manufacturers. Though there are a large number of contract manufacturers that we can use for outsourcing, we have elected to use a limited number of vendors for a significant portion of our board assembly requirements in order to foster consistency in quality of the products and to achieve economies of scale. These independent third-party manufacturers also provide the same services to other companies. Risks associated with the use of independent manufacturers include unavailability of or delays in obtaining adequate supplies of products and reduced control of manufacturing quality and production costs. If our contract manufacturers failed to deliver needed components timely, we could face difficulty in obtaining adequate supplies of products from other sources in the near term. We can give no assurance that our third party manufacturers will provide us with adequate supplies of quality products on a timely basis, or at all. While we could outsource with other vendors, a change in vendors may require significant lead-time and may result in shipment delays and expenses. Our inability to obtain these products on a timely basis, the loss of a vendor or a change in the terms and conditions of the outsourcing would have a material adverse effect on our business, operating results and financial condition. WE MAY LOSE SALES IF SUPPLIERS OF OTHER CRITICAL COMPONENTS FAIL TO MEET OUR NEEDS. Our companies currently purchase several key components used in the manufacture of our products from single or limited sources. We depend on these sources to meet our needs. Moreover, we depend on the quality of the products supplied to us over which we have limited control. We have encountered shortages and delays in obtaining components in the past and expect to encounter shortages and delays in the future. If we cannot supply products due to a lack of components, or are unable to redesign products with other components in a timely manner, our business will be significantly harmed. We have no long-term or short-term contracts for any of our components. As a result, a supplier can discontinue supplying components to us without penalty. If a supplier discontinued supplying a component, our business may be harmed by the resulting product manufacturing and delivery delays. OUR INABILITY TO ACHIEVE ADEQUATE PRODUCTION YIELDS FOR CERTAIN COMPONENTS WE MANUFACTURE INTERNALLY COULD RESULT IN A LOSS OF SALES AND CUSTOMERS. We rely heavily on our own production capability for critical semiconductor lasers and light emitting diodes used in our products. Because we manufacture these and other key components at our own facilities and these components are not readily available from other sources, any interruption of our manufacturing processes could have a material adverse effect on our operations. Furthermore, we have a limited number of employees dedicated to the operation and maintenance of our wafer fabrication equipment, the loss of any of whom could result in our inability to effectively operate and service this equipment. Wafer fabrication is sensitive to many factors, including variations and impurities in the raw materials, the fabrication process, performance of the manufacturing equipment, defects in the masks used to print circuits on the wafer and the level of contaminants in the manufacturing environment. We can give no assurance that we will be able to maintain acceptable production yields and avoid product shipment delays. In the event adequate production yields are not achieved, resulting in product shipment delays, our business, operating results and financial condition could be materially adversely affected. WE MAY BE HARMED BY OUR FAILURE TO PURSUE ACQUISITIONS AND IF WE DO PURSUE ACQUISITIONS HARM COULD RESULT. An important element of our strategy has been to review acquisition prospects that would complement our existing companies and products, augment our market coverage and distribution ability or enhance our technological capabilities. We expect that our acquisitions of businesses or product lines will decrease in comparison to historical levels. The networking business is highly competitive and our failure to pursue future acquisitions could hamper our ability to enhance existing products and introduce new products on a timely basis. If we do choose to pursue acquisitions, they could have a material adverse effect on our business, financial condition and results of operations because of the following: - possible charges to operations for purchased technology and restructuring similar to those incurred in connection with our acquisition of Xyplex in 1998; - potentially dilutive issuances of equity securities; - incurrence of debt and contingent liabilities; - incurrence of amortization expenses and impairment charges related to goodwill and other intangible assets and deferred compensation charges similar to those arising with the acquisitions of Fiber Optic Communications, Optronics, Quantum Optech, Jolt and AstroTerra in 2000 (see Recently Issued Accounting Standards); - difficulties assimilating the acquired operations, technologies and products; - diversion of management's attention to other business concerns; - risks of entering markets in which we have no or limited prior experience; - potential loss of key employees of acquired organizations; and - difficulties in honoring commitments made to customers by management of the acquired entity prior to the acquisition. - We can give no assurance as to whether we can successfully integrate the companies, products, technologies or personnel of any business that we might acquire in the future. IF WE FAIL TO ADEQUATELY PROTECT OUR INTELLECTUAL PROPERTY, WE MAY NOT BE ABLE TO COMPETE. We rely on a combination of trade secret laws and restrictions on disclosure and patents, copyrights and trademarks to protect our intellectual property rights. We cannot assure you that our pending patent applications will be approved, that any patents that may be issued will protect our intellectual property or that third parties will not challenge any issued patents. Other parties may independently develop similar or competing technology or design around any patents that may be issued to us. We cannot be certain that the steps we have taken will prevent the misappropriation of our intellectual property, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. Any of this kind of litigation, regardless of outcome, could be expensive and time consuming, and adverse determinations in any of this kind of litigation could seriously harm our business. WE ARE CURRENTLY, AND COULD IN THE FUTURE BECOME, SUBJECT TO LITIGATION REGARDING INTELLECTUAL PROPERTY RIGHTS, WHICH COULD BE COSTLY AND SUBJECT US TO SIGNIFICANT LIABILITY. From time to time, third parties, including our competitors, may assert patent, copyright and other intellectual property rights to technologies that are important to us. We expect we will increasingly be subject to license offers and infringement claims as the number of products and competitors in our market grows and the functioning of products overlaps. In this regard: - In March 1999, we received a written notice from Lemelson Foundation Partnership in which Lemelson claimed to have patent rights in our vision and automatic identification operations, which are widely used in the manufacture of electronic assemblies. - In April 1999, we received a written notice from Rockwell Automation Technologies Corporation in which Rockwell claimed to have patent rights in certain technology related to our metal organic chemical vapor deposition, or MOCVD, processes and this claim initially resulted in litigation, which has since been dismissed pending the results of litigation not directly involving us (see "Part II, Item 1. Legal Proceedings"). - In October 1999, we received written notice from Lucent Technologies, Inc. in which Lucent claimed we have violated certain of Lucent's patents falling into the general category of communications technology, with a focus on networking functionality. - In October 1999, we received a written notice from Ortel Corporation, which has since been acquired by Lucent, in which Ortel claimed to have patent rights in certain technology related to our photodiode module products. In January 2001, we were advised that Lucent had assigned certain of its rights and claims to Agere Systems, Inc., including the claim made on the Ortel patent. To date, we have not been contacted by Agere regarding this patent claim. In July 2000, we received written notice from Nortel Networks, which claimed we violated Nortel's patent relating to technology associated with local area networks. - In May 2001, we received written notice from IBM, which claims that several of our optical components and Internet infrastructure products make use of inventions covered by certain patents claimed by IBM. We are evaluating the patents noted in the letters. Aggregate net sales potentially subject to the foregoing claims amounted to approximately 28% of our total sales during the year ended December 31, 2001 and 30% of our total sales during the year ended December 31, 2000. Others' patents, including Lemelson's, Rockwell's, Lucent's, Agere's, Nortel's and IBM's, may be determined to be valid, or some of our products may ultimately be determined to infringe the Lemelson, Rockwell, Lucent, Agere, Nortel or IBM patents, or those of other companies. As was the case with Rockwell, Lemelson, Lucent, Agere, Nortel or IBM, or other companies may pursue litigation with respect to these or other claims. The results of any litigation are inherently uncertain. In the event of an adverse result in any litigation with respect to intellectual property rights relevant to our products that could arise in the future, we could be required to obtain licenses to the infringing technology, to pay substantial damages under applicable law, to cease the manufacture, use and sale of infringing products or to expend significant resources to develop non-infringing technology. Licenses may not be available from third parties, including Lemelson, Rockwell, Lucent, Ortel, Nortel or IBM, either on commercially reasonable terms or at all. In addition, litigation frequently involves substantial expenditures and can require significant management attention, even if we ultimately prevail. Accordingly, any infringement claim or litigation against us could significantly harm our business, operating results and financial condition. IN THE FUTURE, WE MAY INITIATE CLAIMS OR LITIGATION AGAINST THIRD PARTIES FOR INFRINGEMENT OF OUR PROPRIETARY RIGHTS TO PROTECT THESE RIGHTS OR TO DETERMINE THE SCOPE AND VALIDITY OF OUR PROPRIETARY RIGHTS OR THE PROPRIETARY RIGHTS OF COMPETITORS. THESE CLAIMS COULD RESULT IN COSTLY LITIGATION AND THE DIVERSION OF OUR TECHNICAL AND MANAGEMENT PERSONNEL. Necessary licenses of third-party technology may not be available to us or may be very expensive, which could adversely affect our ability to manufacture and sell our products. From time to time we may be required to license technology from third parties to develop new products or product enhancements. We cannot assure you that third-party licenses will be available to us on commercially reasonable terms, if at all. The inability to obtain any third-party license required to develop new products and product enhancements could require us to obtain substitute technology of lower quality or performance standards or at greater cost, either of which could seriously harm our ability to manufacture and sell our products. WE ARE DEPENDENT ON CERTAIN MEMBERS OF OUR SENIOR MANAGEMENT. We are substantially dependent upon Dr. Shlomo Margalit, our Chairman of the Board of Directors and Chief Technical Officer, and Mr. Noam Lotan, our President and Chief Executive Officer. The loss of the services of either of these officers could have a material adverse effect on us. We have entered into employment agreements with Dr. Margalit and Mr. Lotan and are the beneficiary of key man life insurance policies in the amounts of $1.0 million each on their lives. However, we can give no assurance that the proceeds from these policies will be sufficient to compensate us in the event of the death of either of these individuals, and the policies are not applicable in the event that either of them becomes disabled or is otherwise unable to render services to us. OUR BUSINESS REQUIRES US TO ATTRACT AND RETAIN QUALIFIED PERSONNEL. Our ability to develop, manufacture and market our products, run our companies and our ability to compete with our current and future competitors depends, and will depend, in large part, on our ability to attract and retain qualified personnel. Competition for executives and qualified personnel in the networking and fiber optics industries is intense, and we will be required to compete for that personnel with companies having substantially greater financial and other resources than we do. To attract executives, we have had to enter into compensation arrangements, which have resulted in substantial deferred compensation charges and adversely affected our results of operations. We may enter into similar arrangements in the future to attract qualified executives If we should be unable to attract and retain qualified personnel, our business could be materially adversely affected. We can give no assurance that we will be able to attract and retain qualified personnel. ENVIRONMENTAL REGULATIONS APPLICABLE TO OUR MANUFACTURING OPERATIONS COULD LIMIT OUR ABILITY TO EXPAND OR SUBJECT US TO SUBSTANTIAL COSTS. We are subject to a variety of environmental regulations relating to the use, storage, discharge and disposal of hazardous chemicals used during our manufacturing processes. Further, we are subject to other safety, labeling and training regulations as required by local, state and federal law. Any failure by us to comply with present and future regulations could subject us to future liabilities or the suspension of production. In addition, these kinds of regulations could restrict our ability to expand our facilities or could require us to acquire costly equipment or to incur other significant expenses to comply with environmental regulations. We cannot assure you that these legal requirements will not impose on us the need for additional capital expenditures or other requirements. If we fail to obtain required permits or otherwise fail to operate within these or future legal requirements, we may be required to pay substantial penalties, suspend our operations or make costly changes to our manufacturing processes or facilities. IF WE FAIL TO ACCURATELY FORECAST COMPONENT AND MATERIAL REQUIREMENTS FOR OUR MANUFACTURING FACILITIES, WE COULD INCUR ADDITIONAL COSTS OR EXPERIENCE MANUFACTURING DELAYS. We use rolling forecasts based on anticipated product orders to determine our component requirements. It is very important that we accurately predict both the demand for our products and the lead times required to obtain the necessary components and materials. Lead times for components and materials that we order vary significantly and depend on factors such as specific supplier requirements, the size of the order, contract terms and current market demand for the components. For substantial increases in production levels, some suppliers may need six months or more lead-time. If we overestimate our component and material requirements, we may have excess inventory, which would increase our costs. If we underestimate our component and material requirements, we may have inadequate inventory, which could interrupt our manufacturing and delay delivery of our products to our customers. Any of these occurrences would negatively impact our net sales. Current softness in demand and pricing in the communications market have necessitated a review of our inventory, facilities and headcount. As a result, we and Luminent recorded in the year ended December 31, 2001 one-time charges to write down inventory to realizable value and inventory purchase commitments of approximately $35.4 million. WE ARE AT RISK OF SECURITIES CLASS ACTION OR OTHER LITIGATION THAT COULD RESULT IN SUBSTANTIAL COSTS AND DIVERT MANAGEMENT'S ATTENTION AND RESOURCES. In the past, securities class action litigation has been brought against a company following periods of volatility in the market price of its securities. Due to the volatility and potential volatility of our stock price or the volatility of Luminent's stock price following its initial public offering, we may be the target of securities litigation in the future. Additionally, while Luminent and we informed investors that we were under no obligation to, and might not, make the distribution to our stockholders of our Luminent common stock and that we could and might eliminate public ownership of Luminent through a short-form merger with us, our decisions to abandon our distribution of Luminent's common stock to our stockholders or to eliminate public ownership of Luminent's common stock through the merger of Luminent into one of our wholly-owned subsidiaries may result in securities or other litigation. Securities or other litigation could result in substantial costs and divert management's attention and resources. DEPENDING ON OUR FUTURE ACTIVITIES OR AS A RESULT OF THE POSSIBLE SALE OF ONE OR MORE OF OUR PORTFOLIO COMPANIES, WE COULD BE FORCED TO INCUR SIGNIFICANT COSTS TO AVOID INVESTMENT COMPANY STATUS AND MAY SUFFER ADVERSE CONSEQUENCES IF DEEMED TO BE AN INVESTMENT COMPANY. In the past through 2000, we embarked upon a business strategy of creating, acquiring and managing companies in the optical technology and Internet infrastructure areas, with a view toward creating equity growth by operating or investing in these companies and then potentially spinning them off, taking them public or selling them or our interest in them. If this strategy proved successful, we were concerned that we might incur significant costs to avoid investment company status and would suffer other adverse consequences if deemed to be an investment company under the Investment Company Act of 1940. The Investment Company Act of 1940 requires registration for companies that are engaged primarily in the business of investing, reinvesting, owning, holding or trading in securities. A company may be deemed to be an investment company if it owns investment securities with a value exceeding 40% of the value of its total assets (excluding government securities and cash items) on an unconsolidated basis, unless an exemption or safe harbor applies. Securities issued by companies other than majority-owned subsidiaries are generally counted as investment securities for purposes of the Investment Company Act. Investment companies are subject to registration under, and compliance with, the Investment Company Act unless a particular exclusion or safe harbor provision applies. If we were to be deemed an investment company, we would become subject to the requirements of the Investment Company Act. As a consequence, we would be prohibited from engaging in business or issuing our securities as we have in the past and might be subject to civil and criminal penalties for noncompliance. In addition, certain of our contracts might be voidable. As a result of the current economic slowdown in the communications industry generally and the fiber optic components industry particularly, we have abandoned plans to spin-off Luminent, one of our subsidiaries, and withdrawn the initial public offering of Optical Access, another of our subsidiaries. The economic slowdown and its consequences have caused us to reevaluate our strategy and to focus currently on holding and operating our existing businesses. This current focus makes it less likely that we would attain investment company status. However, if economic and market conditions recover to the point at which they existed prior to the fourth quarter of 2000, we may return to our prior strategy which, depending on future events, might again subject us to the potential risks associated with investment company status, including registration as an investment company. Moreover, although our portfolio of investment securities currently comprises substantially less than 40% of our total assets, fluctuations in the value of these securities or of our other assets as a result of future economic conditions or events, or, more likely, the sale of one or more of companies in exchange for the securities of the purchaser, may cause this limit to be exceeded. For example, while we have no plans to sell all or any portion of Luminent to a third party after the merger, we are periodically contacted by third parties regarding potential transactions and, depending on the proposal, could complete a sale if we determine that it would be in our best interest and those of our stockholders. In any case, where our investment securities resulting from a sale of Luminent or another of our companies or otherwise were in excess of the 40% limit unless an exclusion or safe harbor was available to us, in that case, we would have to attempt to reduce our investment securities as a percentage of our total assets. This reduction could be attempted in a number of ways, including the disposition of investment securities and the acquisition of non-investment security assets. If we were required to sell investment securities, we may sell them sooner than we otherwise would. These sales may be at depressed prices and we may never realize anticipated benefits from, or may incur losses on, these investments. We may be unable to sell some investments due to contractual or legal restrictions or the inability to locate a suitable buyer. Moreover, we may incur tax liabilities when we sell assets. We may also be unable to purchase additional investment securities that may be important to our operating strategy. If we decide to acquire non-investment security assets, we may not be able to identify and acquire suitable assets and businesses or the terms on which we are able to acquire these assets may be unfavorable. The mere existence of these issues could cause us to forego a transaction, which might otherwise have been beneficial to us. DELAWARE LAW AND OUR ABILITY TO ISSUE PREFERRED STOCK MAY HAVE ANTI-TAKEOVER EFFECTS THAT COULD PREVENT A CHANGE IN CONTROL, WHICH MAY CAUSE OUR STOCK PRICE TO DECLINE. We are authorized to issue up to 1,000,000 shares of preferred stock. This preferred stock may be issued in one or more series, the terms of which may be determined at the time of issuance by the board of directors without further action by stockholders. The terms of any series of preferred stock may include voting rights (including the right to vote as a series on particular matters), preferences as to dividend, liquidation, conversion and redemption rights and sinking fund provisions. No preferred stock is currently outstanding. The issuance of any preferred stock could materially adversely affect the rights of the holders of our common stock, and therefore, reduce the value of our common stock. In particular, specific rights granted to future holders of preferred stock could be used to restrict our ability to merge with, or sell our assets to, a third party and thereby preserve control by the present management. We are also subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which prohibit us from engaging in a business combination with an interested stockholder for a period of three years after the date of the transaction in which the person became an interested stockholder unless the business combination is approved in the manner prescribed under Section 203. These provisions of Delaware law also may discourage, delay or prevent someone from acquiring or merging with us, which may cause the market price of our common stock to decline. PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS MRV is involved in lawsuits, claims, investigations and proceedings, including patent, commercial and environmental matters, which arise in the ordinary course of business. There are no matters pending that MRV currently expects to be material in relation to MRV's business, consolidated financial condition, results of operations or cash flows. On March 1, 2002, Rockwell Automation Technologies, Inc. filed a patent infringement lawsuit against MRV and two of its affiliated companies, Optronics International Corp. and Luminent, Inc. in U.S. District Court in Delaware. Several other companies that are not related to MRV were also named as defendants in the lawsuit. The lawsuit alleges that in January, 1983, a Rockwell affiliate obtained United States Letters Patent No. 4,368,098 entitled "Epitaxial Composite and Method of Making" from the U.S. Patent and Trademark Office. The patent is directed to an organo-metallic process for producing epitaxial films of Group III-V semiconductor on a single crystal substrate. This process generally is referred to as Metal Organic Chemical Vapor Deposition, or MOCVD. The rights to the patent were ultimately assigned to Rockwell. In the lawsuit, Rockwell alleges that - it gave a company it calls IQE a nonexclusive, nontransferable license to import and sell in the United States MOCVD wafers; - the license prohibited IQE from passing onto others any rights under the patent, including the right to make, use, sell or import into the United States MOCVD devices made from MOCVD wafers; and - the license required IQE to provide its customers of MOCVD wafers with written notice that the customers must obtain a license from Rockwell to use the MOCVD wafers to make, use, sell or import MOCVD devices into the United States. IQE has sued Rockwell in another action seeking declaratory relief that, among other things, IQE has not infringed the patent and that the patent is invalid and unenforceable. That action is pending. Nevertheless, Rockwell has claimed in its patent infringement lawsuit against MRV that the defendants infringed its patent by using at least some of the MOCVD wafers purchased from IQE or others and/or fabricated wafers themselves that were manufactured by a process that infringes one or more claims of Rockwell's patent to make, sell and/or import into the United States MOCVD devices such as laser diodes. In the litigation, Rockwell claims it has been damaged by the defendants in an unspecified amount, and seeks to recover those damages, and also seeks an increase in damages and attorneys' fees for alleged willful infringement. On April 9, 2002, MRV and its affiliates, on the one hand, and Rockwell, on the other, signed a tolling agreement under which, among other things, Rockwell agreed to dismiss its suit against MRV and its affiliates without prejudice, MRV and its affiliates agreed to treat any suit for infringement of the above-mentioned patent filed by Rockwell against them within 90 days after final dismissal of Rockwell's litigation against IQE would be deemed filed on March 1, 2002. In April 2002, shortly following the signing by the parties of this tolling agreement, Rockwell filed with the court its notice of voluntary dismissal other patent litigation against MRV and its affiliates. MRV has received notices from third parties alleging possible infringement of other patents with respect to product features or manufacturing processes. For a discussion of these notices and the claims, see Item 1. Description of Business -- Proprietary Rights in MRV's Annual Report on Form 10-K for the year ended December 31, 2001. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS (a) Not applicable. (b) Not applicable.. (c) During the three months ended March 31, 2002, registrant issued an aggregate of 6,325,742 shares of its common stock to two holders of its 5% Convertible Subordinated Notes due 2003 (the "Notes") in exchange for $24.3 million principal amount of the Notes. Exemption from the registration requirements is claimed under the Securities Act of 1933 (the "Securities Act") in reliance on Section 3(a)(9) of the Securities Act in that the shares were exchanged by registrant with its existing security holders exclusively where no commission or other remuneration was paid or given directly or indirectly for soliciting such exchange. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 11.1 - Computation of per share earnings - See Note 1 of Notes to Unaudited Consolidated Condensed Financial Statements. (b) Reports on Form 8-K Two reports on Form 8-K were filed during the period covered by this Report, as follows: (i) A report on Form 8-K dated January 8, 2002 was filed on January 8, 2002 reporting matters under Item 2 and 7. The financial statements filed as part of that Report were the following: (A) CONSOLIDATED FINANCIAL STATEMENTS OF LUMINENT, INC. Report of Independent Public Accountants Consolidated Balance Sheets at December 31, 1999 and 2000 Consolidated Statements of Operations for the years ended December 31, 1998, 1999 and 2000 Consolidated Statements of Stockholders' Equity for the years ended December 31, 1998, 1999 and 2000 Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1999 and 2000 Notes to Consolidated Financial Statements UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS OF LUMINENT, INC. Condensed Consolidated Balance Sheets at December 31, 2000 and September 30, 2001 (unaudited) Unaudited Condensed Consolidated Statements of Operations the nine months ended September 30, 2000 and 2001 Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2000 and 2001 Notes to Unaudited Condensed Consolidated Financial Statements (B) Pro forma financial information: The following pro forma financial information was also filed as part of that Form 8-K: UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL INFORMATION OF LUMINENT, INC. Unaudited Pro Forma Condensed Consolidated Financial Information Unaudited Pro Forma Condensed Consolidated Statements of Operations for the year ended December 31, 2000 Notes to Unaudited Pro Forma Condensed Consolidated Financial Information UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL INFORMATION OF MRV COMMUNICATIONS, INC. Unaudited Pro Forma Condensed Consolidated Financial Information Unaudited Pro Forma Condensed Consolidated Balance Sheet at September 30, 2001 Unaudited Pro Forma Condensed Consolidated Statement of Operations for the nine months ended September 30, 2001 Unaudited Pro Forma Condensed Consolidated Statement of Operations for the year ended December 31, 2000 Notes to Unaudited Pro Forma Condensed Consolidated Financial Information (ii) A report on Form 8-K dated February 13, 2002 was filed on February 13, 2002 reporting matters under Item 5. SIGNATURE Pursuant to the requirements of the Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant certifies that it has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized on May 13, 2002. MRV COMMUNICATIONS, INC By: /s/ Noam Lotan -------------------------------------- Noam Lotan President and Chief Executive Officer By: /s/ Shay Gonen -------------------------------------- Shay Gonen Chief Financial Officer -----END PRIVACY-ENHANCED MESSAGE-----