-----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, Fm/jbLyqpH2wb2+jeH5XQkXA5CQZjmWpHeaoW5oggtul6tDgUcwDU4eaoRD7mbyE GZzdEpCNRnvKFQzjc9nKnw== 0000929624-99-000303.txt : 19990217 0000929624-99-000303.hdr.sgml : 19990217 ACCESSION NUMBER: 0000929624-99-000303 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990216 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SONIC SOLUTIONS/CA/ CENTRAL INDEX KEY: 0000916235 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER INTEGRATED SYSTEMS DESIGN [7373] IRS NUMBER: 930925818 STATE OF INCORPORATION: CA FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-23190 FILM NUMBER: 99541596 BUSINESS ADDRESS: STREET 1: 101 ROWLAND WAY STE 110 CITY: NOVATO STATE: CA ZIP: 94945 BUSINESS PHONE: 4158938000 MAIL ADDRESS: STREET 1: 101 ROWLAND WAY STREET 2: STE 110 CITY: NOVATO STATE: CA ZIP: 94945 10-Q 1 SONIC SOLUTIONS - FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 Form 10-Q (Mark one) [x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended December 31, 1998 or [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ____________ to ___________ Commission File Number: 72870 SONIC SOLUTIONS (Exact name of registrant as specified in its charter) California 93-0925818 (State or other jurisdiction of (I.R.S.Employer incorporation or organization) Identification No.) 101 Rowland Way, Suite 110 Novato, CA 94945 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (415) 893-8000 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No______ ----- The number of outstanding shares of the registrant's Common Stock on January 31, 1999, was 9,366,326. ================================================================================ SONIC SOLUTIONS FORM 10-Q For the quarterly period ended December 31, 1998 Table of Contents
Page PART I. FINANCIAL INFORMATION ITEM 1. Condensed Balance Sheets as of March 31, 1998 and December 31, 1998.....................................3 Condensed Statements of Operations for the three and nine months ended December 31, 1997 and 1998....4 Condensed Statements of Cash Flows for the nine months ended December 31, 1997 and 1998..............5 Notes to Condensed Financial Statements...................6 ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.............9 PART II. OTHER INFORMATION ITEM 3. Defaults upon Senior Securities..........................16 ITEM 6. Exhibits and Reports on Form 8-K.........................16 Signatures..........................................................17
2 PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS SONIC SOLUTIONS CONDENSED BALANCE SHEETS (in thousands, except share amounts)
1998 -------------------------- ASSETS March 31, December 31, ---------- ------------- (unaudited) Current Assets: Cash and cash equivalents................................................................. $ 2,479 3,081 Accounts receivable, net of allowance for returns and doubtful accounts of $617 and $567 at March 31, 1998 and December 31, 1998, respectively............................. 3,198 4,442 Inventory................................................................................. 634 962 Prepaid expenses and other current assets................................................. 317 99 Refundable income taxes................................................................... 148 148 -------- -------- Total current assets................................................................. 6,776 8,732 Fixed assets, net............................................................................ 2,766 2,221 Purchased and internally developed software costs, net....................................... 2,944 2,557 Other assets................................................................................. 144 175 -------- -------- Total assets......................................................................... $ 12,630 13,685 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY ------------------------------------ Current Liabilities: Accounts payable and accrued liabilities.................................................. $ 3,315 4,093 Bank note payable......................................................................... 500 500 Deferred revenue and deposits............................................................. 1,036 1,270 Subordinated debt, current portion........................................................ 623 369 Current portion of obligations under capital leases....................................... 138 146 -------- -------- Total current liabilities............................................................ 5,612 6,378 -------- -------- Subordinated debt, net of current portion.................................................... 1,364 1,433 Obligations under capital leases, net of current portion..................................... 236 126 -------- -------- Total liabilities.................................................................... 7,212 7,937 -------- -------- Commitments and contingencies Shareholders' Equity: Preferred stock, no par value, 10,000,000 shares authorized; 461,538 and 336,538 shares issued and outstanding at March 31, 1998 and December 31, 1998, respectively..................... 1,500 1,092 Common stock, no par value, 30,000,000 shares authorized; 8,302,230 and 9,366,326 shares issued and outstanding at March 31, 1998 and December 31, 1998, respectively......... 15,204 17,877 Accumulated deficit.......................................................................... (11,286) (13,221) -------- -------- Total shareholders' equity................................................................. 5,418 5,748 -------- -------- Total liabilities and shareholders' equity................................................. $ 12,630 13,685 ======== ========
See accompanying Notes to Condensed Financial Statements. 3 SONIC SOLUTIONS CONDENSED STATEMENTS OF OPERATIONS (in thousands, except per share amounts -- unaudited)
Three Months Ended Nine Months Ended -------------------- ------------------- December 31, December 31, ------------ ------------ 1997 1998 1997 1998 ---- ---- ---- ---- Net revenue......................................................... $4,692 5,795 $15,330 15,404 Cost of revenue..................................................... 2,452 2,277 7,123 6,796 ------- ------ ------- ------ Gross profit.................................................... 2,240 3,518 8,207 8,608 ------- ------ ------- ------ Operating expenses: Marketing and sales............................................. 1,786 1,837 5,658 5,345 Research and development........................................ 1,319 1,269 4,286 3,798 General and administrative...................................... 378 376 1,124 1,151 ------- ------ ------- ------ Total operating expenses........................................ 3,483 3,482 11,068 10,294 ------- ------ ------- ------ Operating income (loss)......................................... (1,243) 36 (2,861) (1,686) Other expense....................................................... (133) (79) (373) (249) ------- ------ ------- ------ Loss before income taxes........................................ (1,376) (43) (3,234) (1,935) Provision for income taxes.......................................... - - - - ------- ------ ------- ------ Net loss........................................................ ($1,376) (43) ($3,234) (1,935) ======= ====== ======= ====== Basic and diluted loss per share................................ ($0.18) (0.01) ($0.42) (0.23) ======= ====== ======= ====== Weighted average shares used in computing per share amounts..... 7,634 9,127 7,615 8,720 ======= ====== ======= ======
See accompanying Notes to Condensed Financial Statements. 4 SONIC SOLUTIONS CONDENSED STATEMENTS OF CASH FLOWS (in thousands, -- unaudited)
Nine Months Ended ----------------- December 31, ----------- 1997 1998 ---- ---- Cash flows from operating activities: Net loss.............................................................................. ($3,234) (1,935) Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization....................................................... 1,888 1,940 Provision for returns and doubtful accounts......................................... - (50) Changes in operating assets and liabilities: Accounts receivable.............................................................. 133 (1,194) Inventory........................................................................ (417) (328) Prepaid expenses and other current assets........................................ 527 218 Other assets..................................................................... 36 (31) Accounts payable and accrued liabilities......................................... 440 778 Deferred revenue and deposits.................................................... 187 234 -------- ------ Net cash used in operating activities.......................................... (440) (368) -------- ------ Cash flows from investing activities: Purchase of fixed assets.............................................................. (775) (485) Additions to purchased and internally developed software.............................. (1,856) (523) -------- ------ Net cash used in investing activities............................................... (2,631) (1,008) -------- ------ Cash flows from financing activities: Proceeds from exercise of common stock options........................................ 73 35 Borrowings on line of credit.......................................................... 500 420 Repayments on line of credit.......................................................... - (420) Proceeds from equity line of financing................................................ - 2,358 Redemption of warrants................................................................ - (83) Payment of dividends.................................................................. - (45) Repayments of subordinated debt....................................................... - (185) Principal payments on capital leases.................................................. (82) (102) -------- ------ Net cash provided by financing activities........................................... 491 1,978 -------- ------ Net increase (decrease) in cash and cash equivalents.................................... (2,580) 602 Cash and cash equivalents, beginning of period.......................................... 4,806 2,479 -------- ------ Cash and cash equivalents, end of period................................................ $ 2,226 3,081 ======== ====== Supplemental disclosure of cash flow information: Interest paid during period........................................................... $ 200 56 ======== ====== Income taxes paid during period....................................................... $ 13 9 ======== ====== Noncash financing and investing activities: Assets acquired through capital lease............................................. $ 161 - ======== ====== Conversion of preferred stock to common stock..................................... $ - 408 ======== ======
See accompanying Notes to Condensed Financial Statements. 5 Sonic Solutions Notes to Condensed Financial Statements (unaudited) (1) Basis of Presentation The accompanying unaudited condensed financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. However, in the opinion of management, the condensed financial statements include all adjustments (consisting of only normal, recurring adjustments) necessary for their fair presentation. The interim results are not necessarily indicative of results expected for a full year. These unaudited condensed financial statements should be read in conjunction with the financial statements and related notes included in the Company's Form 10-K for the year ended March 31, 1998, filed with the Securities and Exchange Commission. (2) Basic and diluted loss per share The Financial Accounting Standards Board issued Statement of Financial Accounting Standard (SFAS) No. 128, Earnings Per Share. SFAS No. 128 requires the presentation of basic net income per share, and for companies with complex capital structures, diluted net income per share. Excluded from the computation of diluted loss per share for the quarter ended December 31, 1997 and 1998 are options to acquire 404,151 and 935,775 shares of common stock because their effects would be anti-dilutive. The following table sets forth the computations of shares and net loss used in the calculation of basic and diluted net loss per share for the periods ended December 31, 1997 and 1998 (in thousands, except per share date):
Three Months Ended Nine Months Ended --------------------------- --------------------------- December 31, December 31, --------------------------- --------------------------- 1997 1998 1997 1998 ------------ ------------ ------------ ------------ Net loss..................................................... ($1,376) (43) ($3,234) (1,935) Dividends paid to preferred stockholders..................... - 15 - 45 ------- ----- ------- ------ Net loss applicable to common stockholders................... ($1,376) (58) ($3,234) (1,980) ======= ===== ======= ====== Weighted average number of common shares outstanding......... 7,634 9,127 7,615 8,720 ======= ===== ======= ====== Basic and diluted net loss per common share.................. ($0.18) (0.01) ($0.42) (0.23) ======= ===== ======= ======
6 (3) Inventory The components of inventory, net of obsolescence, consist of (in thousands):
March 31, December 31, -------- ----------- 1998 1998 ----- ---- Raw materials........................................................... $ 468 846 Work-in-process......................................................... 130 81 Original equipment manufacturers goods.................................. 36 35 ----- ---- $ 634 962 ===== ==== (4) Industry and Geographic Information The Company markets its products in the United States and in foreign countries through its sales personnel, dealers, and distributors. Export sales account for a significant portion of the Company's net revenues and are summarized by geographic area as follows (in thousands): Three Months Ended Nine Months Ended ------------------ ----------------- December 31, December 31, ----------- ----------- 1997 1998 1997 1998 ---- ---- ---- ---- North America (substantially all United States)........ $2,544 3,276 $7,193 8,062 Export: Europe............................................. 1,196 1,396 3,699 3,923 Pacific Rim........................................ 951 963 3,379 3,212 Other international................................ 1 160 1,059 207 ------ ----- ------- ------ $4,692 5,795 $15,330 15,404 Total net revenue ====== ===== ======= ======
Foreign based assets were insignificant as of March 31, 1998 and December 31, 1998. 7 (5) Recently Issued Accounting Pronouncements SFAS 131 "Disclosures About Segments of an Enterprise and Related Information", is effective for years beginning after December 15, 1997. This statement establishes standards for the way companies report information about operating segments in annual financial statements. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. The Company has not determined what separately reportable business segments, if any, it may have under SFAS 131. In June 1998, the Financial Accounting Standards Board issued SFAS 133, "Accounting for Derivative Instruments and Hedging Activities." This statement establishes standards for derivative instruments and hedging activities. The Company is required to adopt SFAS 133 in the first quarter of fiscal year 2001. The Company does not anticipate that SFAS 133 will have a material impact on its financial statements. SFAS No. 130 establishes standards for reporting and disclosure of comprehensive income and its components which will be presented in association with a Company's financial statements. Comprehensive income is defined as the change in a business enterprise's equity during a period arising from transactions, events or circumstances relating to nonowner sources, such as foreign currency translation adjustments and unrealized gains or losses on available-for-sale securities. It includes all changes in equity during a period except those resulting from investments by or distributions to owners. It is expected that the effects of this standard did not have a material effect on the operations of the Company. In October 1997, the American Institute of Certified Public Accountants issued SOP 97-2, "Software Revenue Recognition". The statement provides specific industry guidance and stipulates that revenue recognized from software arrangements is to be allocated to each element of the arrangement based on the relative fair values of the elements, such as software products, upgrades, enhancements, post contract customer support, installation, or training. Under SOP 97-2, the determination of fair value is based on objective evidence which is specific to the vendor. If such evidence of fair value for each element of the arrangement does not exist, all revenue from the arrangement is generally deferred until such time that evidence of fair value does exist or until all elements of the arrangement are delivered. Revenue allocated to software products, specified upgrades and enhancements is generally recognized upon delivery of the related products, upgrades and enhancements. Revenue allocated to post contract customer support is generally recognized ratably over the term of the support, and revenue allocated to service elements is generally recognized as the services are performed. SOP 97-2 has been adopted by the Company effective April 1, 1998 and did not have any material effect on revenue recognition. 8 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview; Certain Factors that May Impact Future Results The Company commenced shipments of SonicStudio/1/, a line of professional digital audio workstations, in the first calendar quarter of 1989. Sales of the SonicStudio product line including Sonic developed software and Sonic manufactured hardware, third party developed software and hardware peripheral devices and associated maintenance fees, together with sales of Sonic MediaNet accounted for virtually all of the Company's net revenue during the three fiscal years ended March 31, 1996, approximately 50% of the Company's net revenue during the fiscal year ended March 31, 1997 and approximately 40% of the Company's net revenue during the fiscal year ended March 31, 1998. The Company believes there is little growth in the overall market for professional audio equipment. Sales of products by Sonic have depended upon the substitution of digital audio workstations for other existing technologies, and Sonic's ability to maintain or increase sales will continue to depend in large part on the continued substitution of digital audio workstations for other technologies. In June, 1996, the Company began shipments of its DVD Creator system. The Company's future success will also depend primarily on sales of the DVD Creator system and related products which accounted for approximately 50% of the Company's net revenue in the fiscal year ended March 31, 1997, and approximately 60% of the Company's net revenue in the fiscal year ended March 31, 1998. In June 1998, the Company began shipments of its DesktopDVD system. Sales of DVD Creator systems, DesktopDVD systems and related products accounted for slightly more than 60% of the Company's net revenue in the quarter and nine months ended December 31, 1998. SonicStudio is an integrated assembly of software and manufactured hardware including signal processing plug-in cards and interface "boxes". The SonicStudio hardware and software is installed on a Macintosh personal computer, and used together with peripheral devices such as disk drives and CD recorders, all of which are purchased as complete or largely complete devices from other manufacturers ("OEM hardware"). The Company does not typically provide the Macintosh computer or other OEM hardware to customers, and instead has de- emphasized the sale of OEM hardware in recent years. For the fiscal years ended March 31, 1996, 1997 and 1998, the percentage of net revenue derived from sale of OEM hardware by the Company has declined from approximately 20% to 2% to 0% as the Company de-emphasized the sale of OEM hardware. In February of 1994, the Company began shipments of Sonic MediaNet, a high performance, fully distributed networking system designed specifically to handle digital audio, digital video, high resolution graphics and other multimedia data types for use with applications other than SonicStudio. In the fiscal years ended March 31, 1996, 1997 and 1998, Sonic MediaNet net revenue constituted approximately 16%, 9% and 4% of Company net revenue. DVD Creator is a premastering system for DVD discs incorporating the three functions necessary to produce a finished DVD premaster image: video encoding, audio encoding and authoring. DVD Creator is sold both as a single workstation or as a workgroup with separate subsystems linked together via the Company's Sonic MediaNet networking system. During June, 1996, the Company began shipping the first installation phase of the DVD Creator system. In June, 1998, the Company introduced and began shipments of its DesktopDVD system which is an "all-in-one" DVD premastering system available at lower entry price than the DVD Creator System. DesktopDVD is designed to meet the needs of customers who wish to create DVD-based client presentations, merchandising and promotions materials, advertising comps, consumer kiosks, interactive training and multimedia productions. Sonic DesktopDVD is a single workstation which includes MPEG variable bit-rate and constant bit-rate video encoding and Dolby Digital stereo audio encoding as well as DVD-Video format authoring. /1/ The Company's digital audio workstation product line was called "The Sonic System" until 1996 when the name was changed to "SonicStudio". 9 In September, 1998, the Company introduced and began shipments of preliminary versions of Sonic Lightspeed. When fully relased, Sonic Lightspeed will be a Fibre Channel networking solution for sharing video and audio files at high speeds between Macintosh and Windows NT systems. The Company plans to release other versions of Sonic Lightspeed throughout calendar year 1999. As with any new high-technology product, there can be no assurance that, despite testing by the Company, customers will not find errors or "bugs" in the application software after systems have been installed in the field. These errors or bugs could cause delays in future shipment of Sonic products or require design modifications which could adversely affect the Company's competitive position and results of operations. The Company's quarterly operating results vary significantly depending on the timing of new product introductions and enhancements by the Company and its competitors and on the volume and timing of orders, which are difficult to forecast. Customers generally order on an as-needed basis, and the Company normally ships products within one week after receipt of an order. The results of operations for any quarter are not necessarily indicative of the results to be expected for any future period A disproportionate percentage of the Company's quarterly net revenue is typically generated in the last few weeks of the quarter. A significant portion of the Company's operating expenses is relatively fixed, and planned expenditures are based primarily on sales forecasts. As a result, if revenue generated in the last few weeks of a quarter do not meet with the Company's forecast, operating results may be materially adversely affected. The Company capitalizes a portion of its software development costs in accordance with Statement of Financial Accounting Standard No. 86. Such costs are amortized to cost of revenue over the estimated economic life of the product, which is generally three years. 10 Results of Operations The following table sets forth certain items from the Company's statements of operations as a percentage of net revenue for the three and nine months ended December 31, 1997 and 1998:
Three Months Ended Nine Months Ended --------------------- ----------------- December 31, December 31, ------------ ------------ 1997 1998 1997 1998 ---- ---- ---- ---- Net revenue............................ 100.0% 100.0% 100.0% 100.0% Cost of revenue........................ 52.3 39.3 46.5 44.1 ------ ------ ----- ----- Gross profit........................... 47.7 60.7 53.5 55.9 Operating expenses: Marketing and sales................. 38.1 31.7 36.9 34.7 Research and development............ 28.1 21.9 28.0 24.7 General and administrative.......... 8.0 6.4 7.3 7.5 Total operating expenses............... 74.2 60.0 72.2 66.9 ------ ------ ----- ----- Operating loss......................... (26.5) 0.7 (18.7) (11.0) Other expense.......................... (2.8) (1.4) (2.4) (1.6) Provision for income taxes............. - - - - ------ ------ ----- ----- Net loss............................... (29.3)% (0.7)% (21.1)% (12.6)% ====== ====== ===== =====
Comparison of three and nine months ended December 31 NET REVENUE. Net revenue increased from $4,692,000 for the quarter ended December 31, 1997 to $5,795,000 for the quarter ended December 31, 1998, representing an increase of 23.5%. For the nine months ended December 31, 1998, net revenue increased less than 1% from $15,330,000 to $15,404,000 compared to the same period in the prior fiscal year. The increase in net revenue for the quarter ended December 31, 1998 is primarily due to the increase in sales of Sonic's DVD Creator systems and DesktopDVD systems. International sales accounted for 45.7% and 43.5% of net revenue for the quarters ended December 31, 1997 and 1998, respectively. International sales accounted for 53.1% and 47.7% of net revenue for the nine months ended December 31, 1997, and 1998, respectively. See Note 4 of Notes to Condensed Financial Statements. International sales as a percentage of net revenue decreased primarily due to the increase in sales of Sonic's DVD Creator and DesktopDVD systems in the U.S. markets. The Company expects that international sales will continue to represent a significant percentage of future revenue. COST OF REVENUE. Cost of revenue, as a percentage of net revenue, decreased from 52.3% for the quarter ended December 31, 1997 to 39.3% for the quarter ended December 31, 1998, primarily due to a shift in sales product mix toward DVD system sales as well to efficiencies inherent in a higher level of sales. Cost of revenue, as a percentage of net revenue, decreased from 46.5% for the nine months ended December 31, 1997 to 44.1% for the nine months ended December 31, 1998. Cost of revenue for the nine months ended December 31, 1998 also improved primarily due to shift in sales product mix toward DVD system sales. MARKETING AND SALES. Marketing and sales expenses increased from $1,786,000 for the quarter ended December 31, 1997 to $1,837,000 for the quarter ended December 31, 1998 and decreased from $5,658,000 for the nine months ended December 31, 1997 to $5,345,000 for the nine months ended December 31, 1998. Marketing and sales represented 38.1%, 31.7%, 36.9% and 34.7% of net revenue for 11 the quarters ended December 31, 1997 and 1998 and the nine months ended December 31, 1997 and 1998, respectively. The Company's marketing and sales headcount increased from thirty-one at December 31, 1997 to thirty-six at December 31, 1998. Included in the marketing and sales expense is dealer and employee commission expense, which as a percentage of net revenue increased from 2.3% for the quarter ended December 31, 1997 to 5.5% for the quarter ended December 31, 1998. RESEARCH AND DEVELOPMENT. Research and development expenses decreased from $1,319,000 for the quarter ended December 31, 1997 to $1,269,000 for the quarter ended December 31, 1998 and decreased from $4,286,000 for the nine months ended December 31, 1997 to $3,798,000 for the nine months ended December 31, 1998. Research and development represented 28.1%, 21.9%, 28.0% and 24.7% of net revenue for the quarter and nine months ended December 31, 1997 and 1998, respectively. The Company capitalizes a portion of its software development costs in accordance with Statement of Financial Accounting Standard No. 86. Research and development expenses decreased for the quarter and nine months ended December 31, 1998 primarily due to decreases in headcount and consulting and prototype expenses. Headcount for research and development decreased from thirty-six at December 31, 1997 to twenty-nine at December 31, 1998. Consulting and prototype expenses were incurred in association with the development of the DVD Creator system during the quarter and nine months ended December 31, 1997 and in association with the development of the DesktopDVD system during the nine months ended December 31, 1998. Consulting and prototype expenses can fluctuate significantly from period to period depending upon the status of software and hardware development projects. GENERAL AND ADMINISTRATIVE. General and administrative expense decreased from $378,000 for the quarter ended December 31, 1997 to $376,000 for the quarter ended December 31, 1998 and increased from $1,124,000 for the nine months ended December 31, 1997 to $1,151,000 for the nine months ended December 31, 1998. General and administrative expenses represented 8.1%, 6.4%, 7.3% and 7.5% of net revenue for the quarter ended December 31, 1997 and 1998 and the nine months ended December 31, 1997 and 1998, respectively. The Company anticipates that general and administrative expenses will increase in the future as the Company's operations expand. OTHER EXPENSE. Other expense for the quarter and nine months ended December 31, 1998 was primarily due to the interest expense associated with the Company's debt financing agreements with entities associated with Hambrecht & Quist and with borrowings under the Company's bank line of credit, which was partially offset by the interest income received on cash balances. BENEFIT FOR INCOME TAXES. In accordance with Statement of Financial Accounting Standards No. 109, no provision was made for income taxes for the third quarter ended December 31, 1997 and 1998, respectively. A valuation allowance has been provided for deferred tax assets for which recovery would depend upon future taxable income. During the fiscal year ended March 31, 1996, the Company exhausted its loss carryback capabilities, therefore, no benefit was recorded for the third quarter ended December 31, 1997 and 1998. The Company accrues quarterly for income taxes based upon its projection of its full year tax liability. This may result in significant adjustments based on the actual quarterly results. LIQUIDITY AND CAPITAL RESOURCES. In December, 1996, the Company entered into a Loan and Security Agreement with Silicon Valley Bank. The current agreement provides for up to $1,500,000 in available borrowings based upon the Company's eligible accounts receivable balances, and expires in May, 1999. This Agreement provides for a variety of covenants, including among other things, that the Company maintain certain financial ratios and is collateralized by a security interest in substantially all of the Company's assets. Interest on borrowings under this agreement is payable monthly at a rate between three-quarters percent and two and one half percent in excess of the prime rate. On December 31, 1998 $500,000 was outstanding under this agreement. The Company was in compliance with its debt covenants under this agreement at December 31, 1998. 12 In December, 1996, the Company also obtained a $5,100,000 financing facility with entities associated with Hambrecht & Quist. The facility included subordinated debt and equipment financing. In December, 1996, the Company received $3,000,000 from Hambrecht & Quist Transition Capital, LLC and $1,100,000 from Hambrecht & Quist Guaranty Finance, LLC, pursuant to the above facility. The remaining $1,000,000 was a master lease line for financing of future capital asset purchases. The facility with the Hambrecht & Quist entities is secured by an interest in the Company's fixed assets and substantially all of the assets of the Company subordinate to the Silicon Valley Bank Agreement. In connection with the financing facility, the Company issued warrants to purchases 260,200 common shares to entities associated with Hambrecht & Quist. Under the original agreement, the Hambrecht & Quist entities could exercise their warrants with respect to 130,100 shares at an exercise price of $10.00 at any time on or before December 24, 2004, and with respect to 130,100 shares at an exercise price of $7.00 at any time on or after December 24, 1997 and before December 24, 2004. In December, 1997, the Hambrecht & Quist entities exercised their warrants with respect to 130,100 shares at an exercise price of $7.00 per share on a "net exercise" basis. Based on the "net exercise" provisions of the warrant, the Hambrecht & Quist entities received 40,266 shares of the Company's Common Stock. The Company recorded $549,000 of deferred interest, which is amortized to interest expense over the term of the financing facility, attributable to the value of the warrants. The value of the warrants was estimated using the following assumptions for fiscal 1998 and 1997: volatility of .75, risk free interest rate of 6.3% and expected life equal to the contractual terms. In December, 1997, the Company secured a $7,000,000 equity-based line of credit. Under this arrangement, the Company has the right to draw up to a total of $7,000,000 in cash in exchange for the Company's common stock. Pricing of the common stock issued will be based on the market price of the Company's common stock at the time of a draw. The timing and amount of individual draws are at the sole discretion of the Company, subject to a number of conditions. The line will remain in place for a period of approximately 24 months. The Company filed a registration statement for the resale of 1,522,000 shares issued under this arrangement in January, 1998. During the fiscal year ended March 31, 1998, the Company drew down $1,450,000 on this equity-based line of credit and issued 606,130 shares of common stock. During the quarter ended December 31, 1998, the Company drew down $1,406,340 on this equity-based line of credit and issued 366,955 shares of common stock. During the nine months ended December 31, 1998, the Company has drawn down $2,456,340 ($2,358,087 net of commissions) on this equity-based line of credit and issued 903,870 shares of common stock. Because of certain limitations on the number of shares which can be issued under the equity-based line of credit, this facility is currently unavailable to the Company. The Company's management is currently negotiating a new equity-based line of credit. While management of the Company anticipates the new equity-based line will become available to the Company in the first or second calendar quarter of 1999, there can be no assurance that the new equity-based line of credit will become available to the Company within that time frame or at any definite point in the future. In March, 1998, the Company renegotiated its financing arrangement with Hambrecht & Quist Guaranty Finance. The agreements reached involve the restructuring of $3,000,000 debt into $1,500,000 of convertible preferred stock and $1,500,000 of lower interest debt due in October 1999. The Company filed a Form S-3 Registration Statement under the Securities Act of 1933 to register the resale of the 461,538 shares of the Company's Common Stock which underlie the Series C Preferred Stock issued to Hambrecht & Quist Guaranty Finance. In connection with the agreement, the exercise price of 90,000 of the $10.00 warrants issued in connection with the original arrangement reached in December 1996 was lowered to $3.25. In June, 1998, 90,000 of the $3.25 warrants were exercised on a "net exercise" basis, and the warrant holder received 29,691 shares of Common Stock. During the quarter ended December 31, 1998, 125,000 shares of the Preferred Stock were converted into common stock. The Company's operating activities have used cash of $440,000 for the nine months ended December 31, 1997 and used cash of $368,000 for the nine months ended December 31, 1998. Cash was used primarily for the purchase of inventory and to support the increase in accounts receivable for the nine months ended December 31, 1997 and 1998. The management of the Company believes that existing cash, cash equivalents and short term investments, cash generated from operations, and cash available from the new equity based line of credit (when and if it becomes available--see discussion above) will be sufficient to meet the Company's cash and investment requirements at least through the third quarter of fiscal 2000. 13 As of December 31, 1998, the Company had cash and cash equivalents of $3,081,000 and net working capital of $2,354,000. IMPACT OF YEAR 2000 ISSUE. The year 2000 issue is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Company's computer programs that have date- sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could potentially result in a system failure or miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send invoices, or engage in other similar normal business activities. The Company is heavily dependent upon the proper functioning of its own computer or data-dependent systems. This includes, but is not limited to, its systems in information, business, finance, operations, manufacturing and customer service. Any failure or malfunctioning on the part of these or other systems could adversely affect the Company in ways that are not currently known, discernable, quantifiable or otherwise anticipated by the Company. The Company has ensured that its internal software and embedded technology is already Year 2000 compliant, as such this issue is not expected to have a material effect on the operations of the Company. The Company believes that all current versions of its product lines are Year 2000 compliant. To date, the Company has not incurred incremental material costs associated with its effort to become Year 2000 compliant, as the majority of the costs have occurred as a result of normal devlopment and upgrade procedures. Furthermore, the Company believes that future costs associated with its Year 2000 compliance efforts will not be material. The Company currently has only limited information on the Year 2000 compliance of its key suppliers and customers. The Company has received confirmation from a primary supplier that it is Year 2000 compliant. The Company is in the process of surveying its key suppliers and customers for Year 2000 compliance and anticipates that the surveys should be completed by fiscal year end. The operations of the Company's key suppliers and customers could be adversely affected in the event they do not successfully and timely achieve Year 2000 compliance. The Company's business and results of operations could experience material adverse effects if its key suppliers were to experience Year 2000 issues that caused them to delay the procurement, manufacturing or shipment of key components to the Company. In addition, the Company's results of operations could be materially adversely affected if any of the Company's key customers encounter Year 2000 issues that cause them to delay or cancel substantial purchase orders or delivery of the Company's product. There can be no assurance that the Company will be able to develop a plan to address any unforeseen Year 2000 issues in a timely manner or to upgrade any or all of its major systems in accordance with such plan. In addition, there can be no assurance that any such product development or upgrades will effectively address the Year 2000 issue. If required development or upgrades are not completed timely or are not successful, the Company may be unable to conduct its business or manufacture its products, which would have a material impact on the operations of the Company. Furthermore, there can be no guarantee that the systems of other companies on which the Company's systems rely will be timely converted, or that a failure to convert by another company, or a conversion that is incompatible with the Company's systems, would not have a material adverse effect on the Company. The Company intends to, but has not yet established a contingency plan detailing actions that will be taken in the event that the assessment of the Year 2000 Issue is not successfully completed on a timely basis. FORWARD LOOKING STATEMENTS. Certain statements in this Form 10-Q, including statements contained herein under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations", constitute "forward- looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward looking statements involve known and 14 unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements express or implied by such forward-looking statements. Such factors include, but are not limited to the following: general economic and business conditions; charges and costs related to acquisitions; and the ability of the Company to develop and market products for the markets in which it operates, to successfully integrate its acquired products and services, to adjust to changes in technology, customer preferences, enhanced competition and new competitors in the markets in which it operates. This Management's discussion and analysis should be read in conjuction with the Management's discussion and analysis that accompanies the Company's report on Form 10-K for the fiscal year ended March 31, 1998. 15 PART II OTHER INFORMATION ITEM 3. DEFAULTS UPON SENIOR SECURITIES No disclosure is required or applicable pursuant to Item 102 of Regulation S-K. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 27.1 Financial Data Schedule. (b) Reports on Form 8-K None. 16 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant, Sonic Solutions, has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized, in the City of Novato, State of California, on the 16th day of February, 1999. SONIC SOLUTIONS Signature Date --------- ---- /s/ Robert J. Doris February 16, 1999 - -------------------- Robert J. Doris President and Director (Principal Executive Officer) /s/ A. Clay Leighton February 16, 1999 - -------------------- A. Clay Leighton Sr. V.P. Worldwide Operations and Chief Financial Officer (Principal Financial Accounting Officer) 17 EX-27.1 2 FINANCIAL DATA SCHEDULE
5 1,000 9-MOS MAR-31-1999 APR-01-1998 DEC-31-1998 3,081 0 5,009 567 962 8,732 7,488 5,267 13,685 6,378 0 0 1,092 17,877 (13,221) 13,685 15,404 15,404 6,796 10,294 0 0 249 (1,935) 0 (1,935) 0 0 0 (1,935) (0.23) 0
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