Item 1. Business
Recent Development - Sale of Windows-based Terminal Product
Line
On March 26, 2002, Network Computing Devices, Inc. (“NCD”), completed the disposition of its ThinSTAR Windows-based Terminal product line to Neoware Systems, Inc. (“Neoware”) in accordance with an Asset Purchase Agreement dated March 22, 2002, between NCD and Neoware. The assets disposed of consisted principally of customer records, the ThinSTAR trademark and other intellectual property, and contract rights used in the business of designing, developing, manufacturing, distributing and selling the Windows-based Terminals marketed under the ThinSTAR brand name.
The ThinSTAR product line will continue to be available from NCD in Europe, the Middle East and Africa (“EMEA”) under an OEM agreement with Neoware. In the Americas, Asia-Pacific and the rest of the world, the ThinSTAR product will be rebranded as “ThinSTAR by Neoware” and will continue to be available through the existing channel of ThinSTAR authorized distributors and resellers. A group of NCD’s sales and support employees joined Neoware following the closing. NCD continues to provide worldwide service and support for the ThinSTAR product line.
The purchase price was $4.25 million, $300,000 of which is being held in an escrow account for a minimum of 120 days from the date of the closing to satisfy indemnification claims and certain obligations of NCD, and $250,000 of which is payable in accordance with an earn-out provision requiring NCD’s satisfaction of certain sales targets in the EMEA. Neoware's purchase price included an option to acquire additional assets relating to NCD’s European operations.
Worldwide
net revenues and gross profit from the ThinSTAR product line for the year ended
December 31, 2001 were approximately $16.5 million and $1.6 million,
respectively. NCD will continue to sell
the ThinSTAR product line in the EMEA until such time that Neoware exercises
its option to acquire additional assets relating to NCD’s European
operations. In the year ended December
31, 2001, EMEA net revenues and standard gross profit for the ThinSTAR product
line were approximately $8.9 million and $.2 million, respectively.
At
December 31, 2001, NCD had ThinSTAR inventory and accounts receivable and trade
accounts payable relating to its North American sales of the ThinSTAR product
line approximating $4.5 million and $2.5 million, respectively. Neoware’s purchase of the ThinSTAR product
line did not include these accounts payable or accounts receivable, which we
expect will be liquidated in the normal course of business. NCD believes that the carrying value of
these assets at December 31, 2001 is not in excess of their liquidation value.
General
Historically, NCD has
provided thin client hardware and software delivering simultaneous,
high-performance, easy-to-manage and cost effective access to all of the
information on enterprise intranets and the Internet from thin client, UNIX and
PC desktops. Our hardware product lines have included the NCD NC900 network computers
and, until recently, NCD ThinSTAR line of Windows-based
Terminals. On the software side we offered the NCD ThinPATH family of
client and server software, developed to enhance the connectivity, management
and features of the NCD thin clients as well as PCs in accessing information
and applications on Windows servers. Our thin clients, NCD ThinPATH software, and
installation and support services have been a combination delivering a fully
integrated desktop solution to companies seeking a low-cost, easy to manage,
simple to use, high performance user experience. Since introducing our first
product in 1989, we have installed over 1,000,000 thin clients worldwide.
Going forward, NCD will
focus on its worldwide NCD ThinPATH software business while
continuing to market its NCD NC900 network computer product line
worldwide. In addition, and as
mentioned above, the ThinSTAR product line will continue to be available from
NCD in the EMEA under an OEM agreement with Neoware. As a result, NCD’s
European operations serving those markets will be essentially unchanged.
Network Computing
Devices, Inc. is a Delaware corporation. We were originally incorporated in
California in February 1988 and were reincorporated in Delaware in October
1998. Unless the context otherwise requires, the terms “the Company” and “NCD”
refer to Network Computing Devices, Inc. and its consolidated subsidiaries.
Industry Background
Thin Client Computing
The original development
of thin client computing came in the UNIX environment using the X Windows
System (often simply called X or X11). It was followed in the Microsoft Windows
environment by Citrix’s Independent Computing Architecture (“ICA”) and then by
Microsoft’s Remote Desktop Protocol (“RDP”).
All three technologies allow applications to run on
centrally-administered servers, taking advantage of enterprise-level resources.
The applications’ graphical user interface (“GUI”) is then sent over the
network to the user’s desktop or viewing appliance. This separation of the
display of applications from the computing they require enables organizations
to deploy, manage and upgrade one or a small number of servers instead of
hundreds or thousands of individual personal computers. The result is faster
access to new applications, increased system security, higher productivity,
longer use of both client and server capital investments, and greatly improved
use of information technology staff resources.
Over the last
several years, a number of important developments occurred which expanded the
potential markets for network computing systems. First, the availability of the
powerful Pentium microprocessor enabled the development of complex
Windows-based systems. Second, Microsoft NT Server software, combined with
Microsoft-authorized multi-user software such as Citrix MetaFrame, became
available to support multi-user Windows applications. In September 1998,
Microsoft demonstrated its support of the thin client computing model with its
introduction of Windows NT 4.0 server, Terminal Server Edition (Windows
Terminal Server) and its support of the development of Windows-based Terminals
to access these servers. Third, the rapid growth of the Internet and
Internet-based computing has popularized the concept of remote computing and
created new interest in the thin client computing model.
Information Access and Infrastructure Management Software
Software is key to
information access and infrastructure management. The physical connection to
the intranet or Internet is relatively easy; but the simple, well managed,
cost-effective operation of network-wide computing resources requires
sophisticated software.
The market for enterprise
information access and infrastructure management software is large and
comprised of a number of segments, many of which are expanding rapidly. There are three key market segments, which
NCD is addressing:
• Software for managing thin clients: One of the key benefits of a thin
client is the ability to manage the device remotely without having to visit the
desktop for configuration or software updates.
NCD offers two different software products for managing two different
types of thin clients. NCD ThinPATH
Manager allows the system administrator to manage Windows-based
Terminals from a Windows 2000 server, such that a terminal’s software may be
upgraded and configured remotely. NCD
also offers similar functionality for its NC900 product line using NCD NCBridge
software.
• PC software for accessing remote UNIX systems: UNIX systems continue to be employed
even though most users have PCs for accessing information systems. NCD offers NCD PC-Xware software for
accessing UNIX applications from a PC.
• PC software for managing PCs: One of the biggest costs associated with
PCs is the technical infrastructure required to support them. Software that can simplify the PC interface
and make it easier to support is in high demand. NCD ThinPATH PC client
software is designed to manage PCs as thin clients. The dedicated user interface
makes it simple for users to access applications, but it also protects the PC
from unapproved desktop changes. NCD ThinPATH
PC is intended to provide a cost effective migration strategy for
using existing PCs as a transition toward server-based computing with
applications that are available from Microsoft Terminal Services, Citrix
MetaFrame or a web server.
These NCD software
offerings provide the tools that allow easy access and management of enterprise
information systems.
Markets and Applications
Many
companies employ multiple operating environments on their corporate network,
including intranet and Internet connectivity. This capability facilitates
employee collaboration and allows access to the enormous information resources
that exist across the enterprise and around the world. NCD thin clients and NCD ThinPATH
software were developed as a means of providing cost-effective, easy to
maintain access to all of these resources. The NCD ThinSTAR Windows-based
Terminals, the product line sold to Neoware, are optimized to access all
resources through Microsoft Windows Terminal Services, while the NCD NC900
network computers are optimized for accessing X11 applications residing on UNIX
servers. The NCD ThinPATH family of software provides tools
for managing both the ThinSTAR and the PC as well as emulators to permit
Windows-based Terminals to access virtually any server on the network. Also, NCD ThinPATH
Plus provides support for local peripheral devices on Windows-based
Terminals and desktop PCs. We believe
that our ongoing relationship with Neoware will enable us to continue to sell NCD ThinPATH
software to support Neoware’s product family.
The
NCD network computer products, which were originally called X terminals were
developed to allow multiple users to access UNIX applications on servers
without the burden of expensive UNIX workstations on their desktop. When
Windows applications became a requirement, these users were required to add a
bulky and expensive PC to their desk space. In order to maintain a single
desktop device we introduced Citrix ICA on our NCD network computer products
for accessing Windows NT applications from the already existing X terminal of
the UNIX users. With Microsoft Windows NT Server 4.0, Terminal Server Edition
(“TSE”), UNIX users could still access Windows applications through the Citrix
ICA client. We continue to serve this
legacy NCD or X terminal market with our NCD NC900 product line,
which offers the only device still marketed as an X terminal.
The market for our new NCD ThinPATH PC software results from the
coming together of three domains: the
increased use of server-based applications, the installed base of PCs, and the
multiplicity of desktop management systems. NCD’s comprehensive understanding
of thin client management along with its ten-year history of employing
technologies to solve real customer problems, positions NCD to create a unique
system that is dependable, cost effective, and has minimal impact on existing
customer systems. Many corporations use
advanced desktop management systems by Microsoft, IBM, Computer Associates and
Hewlett-Packard Company, or HP to meet multiple objectives, such as inventory
equipment tracking, hardware failure notification, software distribution, and
desktop management. However, given the enterprise level architectures required
by advanced desktop management systems and the ongoing software and training
costs associated with them, many companies never realize the full benefit of
these products. While companies may be able to achieve a subset of NCD ThinPATH
PC functionality with specialized low-level tools (typically
Microsoft or other minimal-cost network tools and technologies), these tools
will not accommodate the wide range of desktop hardware suppliers and operating
systems deployed in corporate networks.
To implement such an approach also requires that companies have advanced
Microsoft-certified support engineers available for the design, implementation,
and support of the service. In
contrast, NCD’s vision for NCD ThinPATH PC allows it to seamlessly
integrate into corporate networks and improve on the ability to centralize the
configuration and management of the installed PCs. Future expansion of this product also includes support for
additional desktop classes, including other manufacturer’s thin client
appliances as well as the growing mobile thin client market, which will be
accelerated by Microsoft’s “Mira” standard.
Software Products
NCD ThinPATH Software. We offer a family of client-based and server-based
software products that deliver capabilities that are important to enterprises
deploying the emerging server-based computing model. The series of software
modules allows Windows-based Terminals and PCs to emulate virtually any desktop
device so that they can access any server on the network, regardless of its
operating system. This software is designed to make centralized management and
support of the network easier, and to permit support of local printers and
other peripheral devices on Windows-based Terminals and PCs without adding
protocol software to Microsoft’s Terminal Services.
NCD NCBridge Software. Our NCD NC900 products run NCD NCBridge,
which runs on the WindRiver VXWorks
operating system. The NCD NC900 incorporates extensive
enhancements to the basic X server software to improve performance, system
manageability and robustness.
NCD PC-Xware. NCD PC-Xware is software for Windows PCs
that provides connectivity to X Windows applications running on UNIX host systems.
We offer versions of NCD PC-Xware for the full range of
Microsoft Windows corporate desktops.
On March 27, 2002, we
announced our newest software product, NCD ThinPATH PC client software, which is
designed to manage PCs as thin clients. The dedicated user interface makes it
simple for users to access applications, but it also protects the PC from
unapproved desktop changes. NCD ThinPATH
PC is intended to provide a cost effective migration strategy for
using existing PCs as a transition toward server-based computing with
applications that are available from Microsoft Terminal Services, Citrix
MetaFrame or a web server.
Hardware Products
Historically, we have
offered a broad line of thin client products to provide businesses and other
enterprises with an open systems approach to network computing based on our
Network Computing Architecture. Our thin client devices included NCD ThinSTAR
Windows-based Terminals and NCD NC900 network computers.
Windows-based Terminals. Our thin client products are desktop devices that are
used to access information and applications residing on computer servers in a
local area network or wide area network. As discussed above, the thin clients
were initially introduced to access UNIX applications; later the software was
added to allow these same devices to access mainframes and other non-UNIX
servers. With the growing popularity of Windows environments, we introduced the
NCD
ThinSTAR Windows-based Terminals and NCD ThinPATH software to
optimize access to networked Windows NT servers. As mentioned above, although
we sold this product line to Neoware, we are continuing to sell these products
in the EMEA pursuant to an OEM agreement with Neoware.
Our NCD NC900 is a high-performance
network computer that is targeted at customers who want browser access to the
network or who have requirements to access X11 applications on UNIX servers. In
June 2000, we introduced the NC900 to be a replacement and upgrade for
our earlier X terminal and NC products. This new product is intended to
consolidate and simplify our NC product offering while providing improved
performance to the user. The NCD NC900 is based on powerful MIPS
processors.
Product Development
We believe that we must
enhance our existing line of NCD ThinPATH software products and
continue developing new software products that incorporate the latest
improvements in technology in order to migrate our business from predominantly
a hardware business to a software business.
Our current development
programs include:
• Server and client software for making
thin client devices and PCs easy to deploy and manage in server-based computing
environments including Microsoft Terminal Services and Microsoft .NET;
• Server and client software for connecting
thin client devices and PCs to a broad range of applications running on Windows
XP and legacy systems; and
• Continued feature enhancements of network
computer platforms.
There can be no assurance
that any of these development efforts will result in the introduction of new
products or that any such products will be commercially successful. See “Item
7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations-Future Performance and Risk Factors-New Product Development and
Timely Introduction of New and Enhanced Products.”
During 2001, 2000 and
1999, the Company’s research and development expenditures were $2,625,000,
$8,393,000 and $12,935,000, respectively. The significant decrease in R&D
expenses resulted from our reduction in R&D personnel. We expect to spend
approximately $1.5 million in R&D in 2002.
The foregoing discussion concerning our product development
program includes forward-looking statements. Actual product development results
may differ substantially depending upon a variety of factors, including those
described under “Item 7. Management’s Discussion and Analysis of Financial
Condition and Results of Operations - Future Performance and Risk Factors.”
Marketing and Sales
We have several marketing and sales objectives.
The first is to expand our customer base by using our NCD ThinPATH PC
software to better manage PC’s being used as thin clients. Currently, only about 15% of the devices
used to access server-based computing are thin clients; the vast majority are
PCs. These PCs require an ongoing and
costly technical support infrastructure.
However, many users still hesitate to replace them with simpler,
dedicated thin clients. We believe that
these users represent a very good market for our new PC software that will
enable them to capture the economic benefits of remotely managed thin clients
without a large investment in equipment, infrastructure and training.
Our second objective is to continue to sell the NCD NC900 as the X terminal of
choice to those customers who need to expand their current operation where they
have standardized on X terminals or need replacement products for the over 1
million X terminals that have been sold worldwide during the past ten years by
various vendors. Third, with the sale of the ThinSTAR Product Line to Neoware,
we will begin migrating our NCD ThinPATH software product line from
its captive NCD market to users of thin client products offered by Neoware.
International sales
represented approximately 45%, 40% and 40% of our net revenues during 2001,
2000 and 1999, respectively. Well over 90% of our international revenues come
from the EMEA where we will continue to sell the ThinSTAR product line under an
exclusive OEM agreement with Neoware.
Sales to Adtcom
represented 11% and 31% and sales to Tech Data represented 10% and 11%,
respectively, of net revenue for the years ended December 31, 2001 and 2000,
respectively.
Service and Support
We believe that our
ability to provide service and support is and will continue to be an important
element in the marketing of our products. We maintain in-house repair
facilities and also provide telephone and e-mail access to our technical
support staff. Our worldwide technical support engineers not only provide
assistance in diagnosing problems but work closely with customers to address
system integration issues and to assist customers in increasing the efficiency
and productivity of their systems. We provide system level software support at no
charge to the customer through our factory-based technical maintenance
organization and field system engineers, and also offer software update
services that allow customers to purchase subsequent releases of our software
products. GM3, a leading European service organization, provides repair
services for our European customers. Cybersource, a leading Australian service
organization, provides certain repair services for our Australian customers.
Competition
The market for thin
client products and similar products is characterized by rapidly changing
technology and by evolving industry standards. Although we are a major supplier
of thin client computing systems and software, we experience significant
competition from other thin client manufacturers, suppliers of personal
computers and workstations and from software developers.
In the ThinSTAR
Windows-based Terminal market, our major competition has come from Wyse
Technology, Inc., a larger company with well established channels, and, more
recently, Compaq Computer Corp. As a
full-fledged PC and server manufacturer, Compaq has been able to “bundle” its
thin clients with other products and services to gain an advantage in certain
larger sales opportunities. To compete,
we have relied heavily on our integrated hardware and software offerings, our
networking core competency and our recognized product reliability. We also formed marketing partnerships with
other important desktop vendors. As competition in this market has intensified,
we have responded by narrowing our focus and selling our Windows-based Terminal
product line to Neoware.
Our NCD ThinPATH family of
products faces competition primarily from other terminal vendors that
continually strive to enhance their
management offerings. While we believe that our product features give us
a competitive advantage, we believe the gap is narrowing and thus are seeking
to add capabilities to our products to maintain our competitive edge.
NCD PC-Xware software products face direct competition from
several software companies that offer similar products, including Hummingbird
Communications, Ltd., a Canadian company, Visionware, a subsidiary of The Santa
Cruz Operation, Inc., NetManage, Inc., and Walker, Ritchie, Quinn, a
privately-held company.
NCD NC900 family of products face direct competition from PCs
that run a local X server, such as from Hummingbird Communications, Ltd.
In general, competition
in the thin client computing market has intensified over the past few years,
resulting in price reductions, reduced profit margins and increased efforts to
maintain market share, which have adversely affected our operating results. In
addition, intense competition from alternative desktop computing products,
particularly personal computers, has slowed the growth of the thin client
computing market. We expect this intense competition to continue. There can be
no assurance that we will be able to continue to compete successfully against
current and future competitors as the desktop computer market evolves and
competition increases.
Manufacturing and Supplies
We conduct certain
production activities at our Mountain View, California facility. These
operations consist primarily of final reconfiguration of systems and shipping
consolidation and logistics. With respect to products that we sell to European
customers, we currently ship our product to a third party logistics center
located in The Netherlands who in turn ships to our European distributors;
however, we are in the process of moving to a different third party logistic
center that will be located in Germany.
We currently obtain
substantially all of our thin client products from a single supplier located in
Thailand. That manufacturer tests our thin clients in a network environment
using a NCD internally developed, computer integrated manufacturing (“CIM”)
system. In addition, they employ a statistical process control system (“SPC”)
to maintain quality control. Going forward, the same supplier will continue to
manufacture our remaining network computer products.
Our products incorporate
memory components, such as video random access memory chips (“VRAMs”) that are
available from multiple sources but have been subject to substantial
fluctuations in availability and price. Certain other components, including
microprocessors and ASICs, though generally available from multiple sources,
are subject to industry-wide demand that could result in limited availability
or significant fluctuations in pricing. To date, these fluctuations have not
had a material effect on our operating results and we have been able to obtain
an adequate supply of such components.
We are currently moving
to a model utilizing electronic distribution of our software products,
including all documentation. This operation
will be coordinated at our Oregon facility.
Backlog
We schedule the
manufacture of our thin client products based upon our projections of near-term
demand. Orders from large end-users and OEMs are generally placed by the
customer on an as-needed basis, and we typically ship products within 45 days
after receipt of a firm purchase order. We do not generally have a significant
backlog, and our backlog at any particular time, or fluctuations in backlog
from time to time, may not be representative of actual sales for any succeeding
period.
Because of the ease of
manufacturing software products, we are able to effect the manufacture and
shipment of these products quickly in response to customer orders without
maintaining significant inventories, and, as a result, have historically had
little, if any, backlog at any particular time. We do not, therefore, consider
backlog for these products to be a significant measure of actual sales for any
succeeding period.
Inventory
We sell our products
primarily through channels and thus have placed inventory of our products into
distribution. Efforts are made to have the inventory in distribution reflect
the expected pattern of near-term demand from reseller partners. We provide our
distributors with certain programs including stock rotation and price
protection. Under these programs, the distributor, for a limited time may
return a limited amount of inventory to us for replacement or obtain credits
for inventory still on hand in the event of a price change. In addition, it is
possible that the inventory mix will not be correct, causing a delay in the
shipment of products to end user customers and possible loss of orders.
Proprietary Rights and Licenses
We rely primarily on a
combination of copyright, trademark and trade secret laws, employee and
third-party non-disclosure agreements and other intellectual property
protection methods to protect our proprietary technology. We hold ten U.S.
patents. Although we intend to pursue a policy of obtaining patents for
appropriate inventions, we believe that our success will depend primarily on
the innovative skills, technical competence and marketing abilities of our
personnel rather than upon the ownership of patents. There can be no assurance
that patents will issue from any pending or future patent applications or that
any claims allowed will be sufficiently broad to protect our technology. In
addition, there can be no assurance that any patents issued to us will not be
challenged, invalidated or circumvented, or that any rights granted thereunder
will provide adequate protection to us.
Certain technology used
in our product is licensed from third parties on a royalty-bearing basis. The
costs associated with such royalties were a significant component of total
software cost of sales through 1998 and have been minimal since that time. See
“Item 7. Management’s Discussion and Analysis of Financial Condition and
Results of Operations.” Generally, such licenses grant to us non-exclusive,
worldwide rights with respect to the subject technology and terminate only in
the event of material breach.
Our software products are
generally licensed on a right-to-use basis. We rely primarily on “shrink wrap”
or “break the seal” licenses. Certain provisions of such licenses, including
provisions protecting against unauthorized copying and reverse engineering, may
not be enforceable under the laws of some jurisdictions. In addition, the laws
of some foreign countries in which our software products are distributed do not
protect our intellectual property rights to the same extent as U.S. law.
There can be no assurance
that third parties will not assert infringement claims against us or our
suppliers with respect to current or future products. Although we have
historically been able to resolve all asserted claims on terms which have not
had a material effect on our operations, there is no assurance that any future
claims may not require us to enter into unfavorable royalty arrangements or
result in costly litigation.
Employees
As of December 31, 2001,
we had 112 full-time employees, of whom 13 were primarily engaged in research
and development, 14 in service and technical support, 48 in marketing and
sales, 18 in operations and 19 in administration and finance. None of our
employees are represented by a collective bargaining agent. We have experienced
no work stoppages and believe that our employee relations are good.
In connection with the
sale of our Windows-based Terminal product line on March 26, 2002, a total of
eleven NCD sales and technical support employees became employees of Neoware.
Competition for employees
in the computer and software industries is intense. We believe that our future
success will depend, in part, on our ability to continue to attract and retain
highly skilled technical, marketing and management personnel.
Executive Officers of the Company
The following sets forth
certain information with respect to our executive officers, and their ages as
of March 31, 2002:
Dr. Pfaff has
served as President and Chief Executive Officer since December 2001 and as a
member of our Board of Directors since January 2001. In 1984, Dr. Pfaff co-founded GTS-GRAL AG, a privately-held
company based in Darmstadt, Germany that focuses on system integration for both
server and web-based computing architectures for customers throughout Europe. Dr. Pfaff has served as CEO of GTS-GRAL from
its inception until November 2001, when he gave up day-to-day management of the
company, after which he has stayed on as Chairman of the Board. Dr. Pfaff was also the founder of
ADTCOM Network Computing AG, a Swiss based distributor for thin-client
products, and served as its CEO until June 2000. From 1979 to 1983, Dr. Pfaff held several scientific
research positions. Dr. Pfaff
holds a Ph.D. in computer science from the University in Darmstadt, Germany.
Mr. Morin has served as
our Chief Financial Officer since April 1, 2002 and as a member of our Board of
Directors since May 1996. From August
1999 to December 2001, Mr. Morin served as President and Chief Executive
Officer. Prior to that Mr. Morin had served as Executive Vice President,
Operations & Finance and Chief Financial Officer since joining us in May
1996. Prior to joining us, Mr. Morin served as Senior Vice President, Finance
and Administration for Memorex Telex Corporation from 1993 to 1996. Prior
thereto, he worked at Data Switch, where he was Executive Vice President. Mr.
Morin’s background also includes more than ten years with Thyssen Bornemisza
Inc. as head of corporate development and general manager of several of its
subsidiaries. Mr. Morin holds MBAs from INSEAD and Harvard.
Risk Factors
Our future business, operating results and financial
condition are subject to various risks and uncertainties, including those
described below.
Liquidity
At December 31, 2001, we
had a deficit working capital of $2.4 million and we incurred a loss from
operations of $8.5 million and used cash in operating activities of $2.7
million for the year then ended.
On March 26, 2002, as
previously mentioned, we sold our ThinSTAR product line to Neoware. We received an initial $3.7 million in cash,
of which $1.6 million was used to repay and close our line of credit with
SVB. An additional $1.5 million was
paid to SCI as the initial payment in a debt restructuring agreement which is
currently being finalized.
Going forward, we will be
required to seek additional financing during the next three to six months
before we achieve positive cash flow and so we are diligently pursuing both
bank financing and potential investors.
However, no assurance can be given that additional financing will be
available, or that if available, it will be available on the terms acceptable
to us or our shareholders. If adequate
funds are not available to satisfy our short-term or long-term capital
requirements we may be required to limit our operations significantly. In light of the foregoing, our auditors have
included a paragraph in their report indicating that substantial doubt exists
as to our ability to continue as a going concern. Our financial statements do not include any adjustments relating
to the recoverability and classification of reported asset amounts or the
amount and classification of liabilities that might be necessary should we be
unable to continue as a going concern.
Competition
The market for thin
client products and similar products that facilitate access to data over
networks are characterized by rapidly changing technology and evolving industry
standards. We experience significant competition from other network computer
manufacturers, suppliers of personal computers and workstations and software
developers. Competition within the thin client computing market has intensified
over the past several years, particularly as the prices of name brand PCs have
fallen well below $1,000 which has offset some of the cost advantages that thin
client devices had over PCs, resulting in price reductions and reduced profit
margins. We expect this intense competition and pricing pressure to continue,
and there can be no assurance that we will be able to compete successfully against
current and future competitors as the thin client computing market evolves and
competition increases. There is the possibility that competition in the future
could come from companies not currently in the market or with greater resources
than ours which would adversely affect our operating results.
Fluctuations in Operating Results
Our operating results have varied significantly,
particularly on a quarterly basis, as a result of a number of factors,
including general economic conditions affecting industry demand for computer
products, the timing and market acceptance of new product introductions by us
and our competitors, the timing of significant orders from and shipments to
large customers, periodic changes in product pricing and discounting due to competitive
factors. Our operating results may fluctuate in the future as a result of these
and other factors, including our success in developing and introducing new
products, our product and customer mix, licensing costs, the level of
competition which we experience and our ability to develop and maintain
strategic business alliances.
We operate with a
relatively small backlog. Revenues and operating results therefore generally
depend on the volume and timing of orders received, which are difficult to
forecast and which may occur disproportionately during any given quarter or
year. Our expense levels are based in part on our forecast of future revenues.
If revenues are below expectations, our
operating results
may be adversely affected. Like others in our industry, we experience a
disproportionate amount of shipments occurring in the last month of our fiscal
quarters. This increases the risk of material quarter-to-quarter fluctuations
in our revenues and operating results.
New Product Development and Timely
Introduction of New and Enhanced Products
The markets for our
products are characterized by rapidly changing technologies, evolving industry
standards, frequent new product introductions and short product life cycles.
Our future results will depend to a considerable extent on our ability to
continuously develop, introduce and deliver in quantity new products that offer
our customers enhanced performance at competitive prices. The development and
introduction of new products is a complex and uncertain process requiring
substantial financial resources and high levels of innovation, accurate
anticipation of technological and market trends and the successful and timely
completion of product development. The introduction of new or enhanced products
also requires us to manage the transition from older, displaced products in
order to minimize disruption to customer ordering patterns, avoid excessive
levels of older product inventories and ensure that adequate supplies of new
products can be delivered to meet customer demand. As we are continuously
engaged in this product development and transition process, our operating
results may be subject to considerable fluctuation, particularly when measured
on a quarterly basis. The inability to finance important research and
development projects, delays in the introduction of new and enhanced products,
the failure of such products to gain market acceptance, or problems associated
with new product transitions could adversely affect our operating results.
Reliance on Independent Distributors and Resellers
We rely significantly on
independent distributors and resellers for the distribution of our products.
There can be no assurance that our distributors and resellers will continue
their current relationships with us, not return some products, or not give
higher priority to the sale of other competitive products. A reduction in sales
effort or discontinuance of sales of our products by our distributors and
resellers could lead to reduced sales and could adversely affect our operating
results. In addition, there can be no assurance as to the continued viability
and financial stability of our distributors and resellers or our ability to add
distributors and resellers in the future.
Reliance on Independent Contractors
We rely on independent
contractors for virtually all of the manufacture of our thin client computing
products and accessories. Our reliance on these independent contractors limits
our control over delivery schedules, quality assurance and product costs. In
addition, a number of our independent suppliers are located abroad. Our
reliance on these foreign suppliers subjects us to risks such as the imposition
of unfavorable governmental controls or other trade restrictions, changes in
tariffs and political instability. We currently obtain all of our thin client
computing products from a single supplier located in Thailand. Any significant
interruption in the supply of products from this contractor would have a
material, adverse effect on our business and operating results. Disruptions in
the provision of components by our other suppliers, or other events that would
require us to seek alternate sources of supply, could also lead to supply
constraints or delays in delivery of our products and adversely affect our
operating results. However, the manufacturing process could be relocated to one
of their other factories if necessary within a few weeks. The operations of
certain of our foreign suppliers were briefly disrupted during 1992 due to
political instability in Thailand.
A number of components
and parts used in our products, including certain semiconductor components,
also are currently available from single or limited sources of supply. We have
no long-term purchase agreements or other guaranteed supply arrangements with
suppliers of these single or limited source components. We have generally been
able to obtain adequate supplies of parts and components in a timely manner
from existing sources under purchase orders and endeavor to maintain inventory
levels adequate to guard against interruptions in supplies. However, our
inability to obtain sufficient supplies of these parts and components from
existing suppliers or to develop alternate supply sources would adversely
affect our operating results.
International Sales
Beginning in 2001, all of
our international sales have been denominated in U.S. dollars. Prior to this date, substantially all of our
international sales were denominated in Euros. These sales were subject to
exchange rate fluctuations, which adversely affected our operating results.
International sales and operations may also be subject to risks such as the
imposition of governmental controls, export license requirements, restrictions
on the export of technology, political instability, trade
restrictions, changes in
tariffs and difficulties in staffing and managing international operations and
managing accounts receivable. In addition, the laws of certain countries do not
protect our products and intellectual property rights to the same extent as the
laws of the United States. There can be no assurance that these factors will
not have an adverse effect on our future international sales and, consequently,
on our operating results.
The following represents
international sales, through our international distribution channels to
end-users in each of the following countries:
Volatility of Stock Price
On March 20, 2001, our
Common Stock was delisted from the Nasdaq National Market due to the failure to
maintain a minimum bid price of $1.00 per share. Our Common Stock is now
trading on the OTC Bulletin Board, which is considered to be less liquid and
more volatile than the Nasdaq National Market.
The market price of our
common stock has fluctuated significantly over the past several years and is
subject to material fluctuations in the future in response to announcements
concerning us or our competitors or customers, quarterly variations in
operating results, announcements of technological innovations, the introduction
of new products or changes in product pricing policies by us or our
competitors, general conditions in the computer industry, developments in the
financial markets and other factors. In addition, the stock market has, from time
to time, experienced extreme price and volume fluctuations that have
particularly affected the market prices for technology companies and which have
been unrelated to the operating performance of the affected companies. Broad
market fluctuations of this type may adversely affect the future market price
of our common stock.
Item 2.
Item 2. Properties.
During the second quarter
of 2000 we consolidated our principal administrative, marketing, manufacturing
and research and development operations to a single location in Mountain View,
California. The facility, which comprises 67,000 square feet, is under a lease
which provides for an annual gross rent of approximately $651,000 and expires
February 2003. During the second quarter of 2000 we also consolidated our software
operations to a single location in Portland, Oregon. The facility, which
comprises 16,817 square feet, is under a lease which provides for an annual
gross rent of approximately $164,000 and expires in October 2003. We believe
that our existing facilities are adequate for our present requirements and that
suitable additional space will be available as needed.
We are currently in the
process of consolidating all of our U.S. operations into the Portland, Oregon
facility. We are also attempting to
sublet our Mountain View, California facility.
We have not yet identified a subtenant for that facility, and until we
can do so, we will continue to be obligated for the rent payments under our
lease for that facility.
Item 3.
Item 3. Legal Proceedings
In March 2001, one of our customers, Pencom Systems, Inc.,
filed a lawsuit against us in the Superior Court of the State of California,
County of Santa Clara, alleging among other things, that the products we
delivered pursuant to our sales contract did not perform as required by the
contract. The complaint sought monetary damages in excess of $250,000. In January 2002, we entered into a
settlement agreement pursuant to which we will pay Pencom $90,000 in the form
of a promissory note, payable over 18 months beginning in April 2002. The note bears no interest. As part of the settlement, we also agreed to
issue to Pencom 75,000 shares of our Common Stock.
Item 4.
Item 4. Submission of Matters to a Vote of Security
Holders
None.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity and
Related Shareholder Matters
Market Price Data
Our Common Stock was
traded on the Nasdaq National Market under the symbol “NCDI” from our initial
public offering in June 1992 through March 20, 2001. Our Common Stock is
currently traded over-the-counter and is listed on the OTC Bulletin Board. The
following table sets forth, for the periods indicated, the high and low sale
prices for the Common Stock on such market:
The closing sale price
for the Common Stock on March 29, 2002 was $0.34.
As of March 29, 2002, we
had 204 holders of record and approximately 4,500 beneficial holders of our
Common Stock and 17,613,237 shares of Common Stock were outstanding.
On March 20, 2001, our
Common Stock was delisted from the Nasdaq National Market due to the failure to
maintain a minimum bid price of $1.00 per share. Our Common Stock is now
trading on the OTC Bulletin Board, which is considered to be less liquid and
more volatile than the Nasdaq National Market.
The market price of our
Common Stock has fluctuated significantly and is subject to significant
fluctuations in the future. See “Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operations-Future Performance and Risk
Factors.”
Recent Sales of Unregistered Securities
In October 2001, we
completed the sale of 530,000 shares of Series C Convertible Preferred Stock
("Series C Preferred") and a warrant to purchase up to 1,200,000
shares of Common Stock to a private investor for $2,000,000. Each share of
Series C Preferred is convertible into 10 shares of our Common Stock at any
time upon the election of the holder, subject to the amendment of our
Certificate of Incorporation to increase our authorized shares of Common Stock.
The Series C Preferred is entitled to cumulative dividends of $.23 per share
and are payable upon declaration of the board. The warrant has an exercise
price of $.50 per share and expires on August 29, 2006. It has no significant
fair value relative to the purchase price of the Series C Preferred. This
transaction resulted from an introduction made by Dr. Guenther Pfaff, a large
stockholder of NCD and a member of its Board of Directors. In connection with
this transaction, we have agreed to issue to Dr. Pfaff 220,000 shares of Series
B1 Preferred Stock in exchange for a like number of shares of Series B
Preferred, resulting in an increase in the annual dividend from $.51 per share
to $.55 per share. We have also agreed to amend the warrant currently held by
Dr. Pfaff, such that the corresponding exercise price will be reduced from $.75
per share to $.50 per share and the number of shares of Common Stock issuable pursuant
to the warrant will be increased from 600,000 shares to 900,000 shares.
Also, in October 2001, in
connection with the line of credit we obtained from Silicon Valley Bank
(“SVB”), we issued a warrant to SVB to purchase up to 650,000 shares of our Common
Stock at a price of $.50 per share. The warrant expires on October 29, 2006 and
had no significant fair value at the time of issuance.
All of the foregoing
issuances were deemed exempt from registration under the Securities Act in
reliance on Section 4(2) of the Securities Act as transactions by an issuer not
involving a public offering. No underwriters were involved in any of the
foregoing transactions.
Dividend Policy
We have never paid cash
dividends on our Common Stock. We currently expect that we will retain our
future earnings for use in the operation and expansion of our business and do
not anticipate paying any cash dividends in the foreseeable future on Common
Stock.
We have issued 220,000 shares
of Series B Preferred Stock which call for an annual cumulative dividend of
$.41 per share. In exchange for those shares, we have agreed to issue 220,000
shares of Series B1 Preferred Stock, which will call for an annual cumulative
dividend of $.55 per share. We have also issued 530,000 shares of Series C
Preferred Stock which call for an annual cumulative dividend of $.23 per share.
Dividends are payable when and as declared by the Board of Directors. At December 31, 2001, dividends in arrears
totaled approximately $111,000.
Item 6.
Item 6. Selected Financial Data.
The following selected
consolidated financial data should be read in conjunction with “Item 7.
Item 7. Managements Discussion and Analysis of
Financial Condition and Results of Operations
Overview
This discussion includes forward-looking statements,
including but not limited to statements with respect to our future financial
performance, operating results, plans and objectives. Actual results may differ
materially from those currently anticipated depending upon a variety of
factors, including those described below under the sub-heading, “Future
Performance and Risk Factors.”
Historically, NCD has
provided thin client hardware and software delivering simultaneous,
high-performance, easy-to-manage and cost effective access to all of the
information on enterprise intranets and the Internet from thin client, UNIX and
PC desktops. Our hardware product lines have included the NCD ThinSTAR line of
Windows-based Terminals and the NCD NC900 network computers. On the
software side we offered the NCD ThinPATH family of client and server
software, developed to enhance the connectivity, management and features of the
NCD thin clients as well as PCs in accessing information and applications on
Windows servers. Our thin clients, NCD ThinPATH software, and installation
and support services have been a combination delivering a fully integrated
desktop solution to companies seeking a low-cost, easy to manage, simple to
use, high performance user experience. Since introducing our first product in
1989, we have installed over 1,000,000 thin clients worldwide.
As a result of our asset
sale to Neoware, going forward, NCD will focus on its worldwide NCD ThinPATH
software business while continuing to market its NCD NC900 network computer product line worldwide. In
addition, and as mentioned above, the ThinSTAR product line will continue to be
available from NCD in Europe, the Middle East and Africa ("EMEA'') under
an OEM agreement with Neoware.
Acquisitions and Dispositions
In March 2002, we
sold our Windows-based Terminal product line to Neoware. The assets sold consisted principally of
customer records, the ThinSTAR trademark and other intellectual property and
contract rights used in the business of designing, developing manufacturing,
distributing and selling the Windows-based Terminals marketed under the
ThinSTAR brand name. The purchase price was $4.25 million, $300,000 of which is
being held in an escrow account for a minimum of 120 days from the date of the
closing to satisfy indemnification claims and certain obligations of NCD, and
$250,000 of which is payable in accordance with an earn-out provision requiring
NCD's satisfaction of certain sales targets in the EMEA. In connection with the
acquisition, Neoware acquired an option to acquire additional assets relating
to NCD's European operations which serve these markets. Furthermore, eleven NCD
sales and support personnel joined Neoware following the closing of the
agreement.
In January 2000, we acquired the assets of Multiplicity LLC, a
privately held developer of advanced server management software for Microsoft’s
Windows NT and Windows 2000 operating systems. The acquisition was accounted
for using the purchase method. The purchase price was approximately
$2.2 million plus a stream of future payments based on revenue for the
four-year period following the acquisition. No future payments have been made
to date and no future payments are expected to be paid. $1.8 million of the purchase price was allocated
to purchased in-progress research and development and $.4 million was allocated
to other intangible assets.
Debt Financing Activities
In October 2001, we obtained a line of credit from Silicon Valley Bank
("SVB"). This line of credit
entitled us to borrow amounts up to 60% of our domestic accounts receivable and
up to 60% of our foreign accounts receivable from which we had secured credit
insurance, in each case subject to certain eligibility requirements and
compliance with specified financial covenants. The line of credit was secured
by substantially by all of our assets and bore interest at the rate of prime
plus 2%. In connection with the line of credit, we issued warrants to SVB to
purchase 650,000 shares of our Common Stock at a price of $.50 per share,
expiring on October 31, 2006. The line
of credit was terminated in March 2002, and all amounts outstanding thereunder
were repaid, in connection with the sale of our Windows-based Terminal product
line. As of the date of termination, the total amount outstanding was
approximately $1,606,160, including interest and all other fees due at the time
of payoff. As of December 31, 2001, the total amount available and outstanding
under the line of credit was $2,116,000.
In March 2000 we obtained
a line of credit from Foothill Capital. This line of credit provided us with up
to $15 million in credit, subject to certain conditions related to our accounts
receivable from time to time. As a result of these conditions, the actual
amount that was available under the line ranged from $.20 million to $6.0
million. Borrowings under the line of
credit were secured by substantially all of our assets and initially bore interest at a rate of prime plus 0.75%. The
line of credit was amended several times prior to its termination. In May 2001,
the line of credit was amended to establish new financial
covenants and eliminate
the maximum ratio of borrowings against foreign accounts receivable. Additionally, in May 2001, the line of
credit was amended to modify the maturity date of the loan from March 30, 2003
to August 15, 2001, raise the interest rate from prime plus 0.75% to prime plus
2.75% and waive the early termination fee. As of June 30, 2001, we were in default
of the minimum EBITDA (Earnings Before Income Taxes, Depreciation and
Amortization) covenant of $38,000 for the three-month period ended June 30,
2001. In July 2001, the line of credit was further amended to reduce the
maximum amount of the credit line from $15.0 million to $3.5 million. In August
2001, the maximum credit line was further reduced to $3.25 million and the
maturity date was extended to September 15, 2001 to provide additional time for
SVB to complete its due diligence work and make a final determination regarding
its preliminary proposal to extend a new revolving credit facility to us.
Our
line of credit with Foothill Capital was terminated when we obtained our line
of credit from SVB. As
of the date of termination, the total amount outstanding under the line of
credit was approximately $0.8 million. Prior to its termination, borrowings
during the third quarter of 2001 bore interest at a rate of prime plus 6.75%,
which included a covenant default rate of 4% for a total of 12.75% at September
30, 2001.
In August 2000, we
concluded an agreement with SCI to convert $3.3 million of our accounts payable
to SCI into a 13-month convertible note (the “Convertible Note”). The
Convertible Note bore interest at 6.5% per annum and each $1.00 of the outstanding
principal was convertible into one share of our Common Stock at any time during
the term of the Convertible Note. In
August 2001, the Convertible Note was extended for an additional year with an
increase in the interest rate to 8% per annum, computed on the unpaid balance
beginning October 1, 2001, and the conversion price was reduced to $.62 per
share.
In October 2001,
we concluded an agreement with SCI to convert an additional $1.0 million of our
accounts payable to them into a note, which matures on September 29, 2002 and
bears interest at a rate of 8% per annum.
Equity Financing Activities
In October 2001,
we received $2,000,000 in capital through a private placement of 530,000 shares
of Series C Convertible Preferred Stock (“Series C Preferred”). The Series C
Preferred shares were issued on November 13, 2001. The Series C Preferred
shares are entitled to dividends of $.23 per annum, and are payable upon
declaration by the board. Each share of
the Series C Preferred is convertible into 10 shares of Common Stock at the
election of the holder, subject to the amendment of the Company’s Certificate
of Incorporation to increase the number of authorized shares of Common Stock by
not less than 5,300,000 shares. In
connection with this private placement, the purchaser also received a warrant
to purchase up to 1,200,000 shares of Common Stock at $.50 per share. The warrant expires on August 29, 2006 and
has no significant fair value relative to the purchase price of the Series C
Preferred shares.
In December 2000,
we raised $1,500,000 in capital through a private placement of 220,000 shares
of Series B Convertible Preferred Stock (“Series B Preferred”) with Dr.
Guenther Pfaff who was elected a member of the Company’s board of directors on
January 11, 2001 and then appointed acting President and Chief Executive
Officer on December 5, 2001. The Series B Preferred shares are entitled to
dividends of $.41 per annum, and are payable upon declaration by the board.
Each share of Series B Preferred is convertible into 10 shares of Common Stock
at the election of the holder. In connection with this private placement, Dr.
Pfaff also received a warrant to purchase up to 600,000 shares of Common Stock
at $.75 per share. The warrant expires on December 28, 2005 and has no
significant fair value relative to the purchase price of the Series B Preferred
shares. We have since agreed to modify the terms of securities held by Dr.
Pfaff in consideration of his having introduced us to the investor who
purchased the Series C Preferred. Such modification will include our issuance
of 220,000 shares of Series B1 Preferred Stock to Dr. Pfaff in exchange for the
220,000 shares of Series B Preferred Stock he currently holds, resulting in an
increase in the annual dividend accruing on Dr. Pfaff's shares from $.41 per
share to $.55 per share, and our amendment of the warrant currently held by Dr.
Pfaff, such that the corresponding exercise price would be reduced from $.75
per share to $.50 per share and the number of shares of Common Stock issuable
pursuant to the warrant would be increased from 600,000 shares to 900,000
shares.
Restructuring Activities
During the third
quarter of 2000 we undertook restructuring actions involving a general
reduction in workforce affecting all classes of employees, the exiting of
certain leased facilities and the discontinuation of development activities
related to several product lines. In connection with these actions, we recorded
restructuring charges of $1.6 million consisting of cash charges of $1.0 million
for employee separation costs and $0.2 million for facility exit costs, and non
cash charges of $0.4 million related to the discontinued product lines,
including the recognition of an impairment loss of $0.3 million on certain
intangibles attributable to our purchase of Multiplicity LLC. During the year
ended December 31, 2000 we paid $2.9 million of the accrued restructuring
liability, leaving unpaid cash charges of $0.4 million included in accrued
liabilities as of December 31, 2000. After a revaluation of the remaining cash
liability, a credit to restructuring expense of $0.5 million was recorded in
the fourth quarter of 2000. The
remaining $0.4 million balance at December 31, 2000 was utilized throughout
2001 to pay severance of terminated employees.
In March 2000 we
announced a restructuring plan involving a general reduction in workforce
affecting all classes of employees and exiting certain leased facilities. In
connection with the plan, we recorded a restructuring charge of $2.6 million
consisting of $2.4 million for employee separation costs and $0.2 million for
facility exit costs.
Other
Recent Developments
In March 2001, one of our
customers, Pencom Systems, Inc., filed a lawsuit against us in the Superior
Court of the State of California, County of Santa Clara, alleging among other
things, that the products we delivered pursuant to our sales contract did not
perform as required by the contract. The complaint sought monetary damages in
excess of $250,000. In January 2002, we entered into a Settlement Agreement
pursuant to which we will pay Pencom $90,000 in the form of a promissory note,
payable to over 18 months beginning in April 2002. The note bears no interest. As part of the settlement, we also
agreed to issue Pencom 75,000 shares of our Common Stock.
In December 2000, we
entered into a mutual settlement of all claims with Tektronix. The claims
represented unpaid commitments for both parties. As part of the settlement, we
issued 750,000 shares of Common Stock to Tektronix (as a vendor). A gain on the
settlement of $821,000 was recorded in December 2000.
In April 2000, we finalized an alliance agreement with HP whereby HP
would sell our products through its indirect sales channel and direct sales
force worldwide as well as market our network computers and Windows-based
terminal products and related software.
Results of Operations
The following table sets forth certain items in our consolidated
statements of operations as a percentage of net revenues for the periods
indicated. Figures are rounded to the nearest whole percentage, and line items
presenting subtotal and total percentages may therefore differ, due to
rounding, from the sum of the percentages for each line item.
Total Net Revenues
Total net revenues for
2001were $36.5 million, which was a decrease of 26% from 2000 net revenues of
$49.3 million. Net revenues for 2000 decreased by 55% compared to 1999 net
revenues of $109.0 million. The decline
in net revenues is discussed below.
Hardware Revenues
Hardware
revenues consist primarily of revenues from the sale of thin client products
and related peripheral equipment. In 2001, hardware revenues declined 23% from
the prior year, from $41.2 million to $31.7 million due to a 26% reduction in
the volume of units shipped because of reduced demand, offset partially by a
slight improvement in pricing. Unit volumes were adversely affected by a
significant drop in the demand for our network computers, reduced sales of
Windows-based Terminals to distributors, and continued decline in sales to IBM
under an agreement that terminated in the first quarter of 2000. In 2000, hardware revenues declined by 55%
from the prior year, from $93.5 million to $41.2 million, as a result of a 47%
reduction in unit volume and a price reduction to meet increased competition.
Furthermore, sales of peripheral equipment declined by $5.1 million offset by a
$4.0 million improvement in revenue attributable to an improved product mix. We
expect hardware revenues to decline significantly in future periods as a result
of the sale our NCD ThinSTAR product line to Neoware in March 2002.
See
Note 1. “Description of Business and Significant Accounting Policies,” for a
discussion of the impact on hardware revenues from the sale of our ThinSTAR
product line.
Software Revenues
Software revenues consist
of revenues from the sale of software products. Revenues from software products
were $2.8 million, $3.9 million and $8.9 million for the years ended 2001, 2000
and 1999, respectively, representing a decrease of 28% and 55% for 2001 and
2000, respectively. The decline in 2001
resulted from the drop in demand for our related thin client hardware
products. The decline in 2000 reflected
the impact of lower sales of thin client devices and the termination of our OEM
relationship with Citrix.
Service Revenues
Services revenues are
generated from the sale of hardware service contracts. Service revenues were
$2.0 million, $4.1 million and $6.7 million for the years ended 2001, 2000 and
1999, respectively, representing decreases of 52% and 38% for 2001 and 2000,
respectively. Service revenues have
declined as a result of the decline in the purchase and/or renewal of long-term
service contracts, as more customers are opting to purchase spare units with
their initial orders to serve as replacements while damaged units are returned
to us for repair under warranty.
Gross Margin on Hardware Revenues
Gross margin on hardware revenues represents revenues less
cost of revenues related to hardware products. Our gross margins on hardware
revenues were $7.7 million, $5.5 million and $34.2 million for the years ended
2001, 2000 and 1999, respectively and represented 24%, 13% and 37% respectively
of hardware revenues for these same years.
Comparing 2000 to 1999, the
substantial reduction in shipment volume reduced margins by $19.7 million.
Unfavorable variances and period costs reduced margins further by $5.9 million,
and pricing pressures plus a modest change in product mix reduced margins by
another $3.3 million.
Comparing 2001 to 2000, hardware
margins improved slightly as a $3.3 million reduction in unfavorable variances
plus a $1.8 million improvement in price and product mix were only partially
offset by a $1.8 million reduction in margins due to lower volume.
See
Note 1. “Description of Business and Significant Accounting Policies,” for the
discussion and pro forma information, which includes a summary of the impact on
hardware revenues due to the sale of our ThinSTAR product line to Neoware.
Gross Margin on Software Revenues
Gross margin on software
revenues represents revenues less cost of revenues related to software
products. Our gross margins on software revenues were $1.8 million, $2.8
million and $6.0 million for the years ended 2001, 2000 and 1999,
respectively. This decrease was across
all product lines and resulted primarily from lower sales volumes. Our gross
margin percentages on software revenues were 64%, 72% and 67% for years ended
2001, 2000 and 1999, respectively. The variances in gross margin percentage
resulted from the varying level of discounting required to meet competition.
Gross Margin on Service Revenues
Gross margin on
service revenues represents revenues less cost of revenues related to services.
Our gross margins on service revenues were $1.2 million, $1.3 million and $2.9
million for the years ended 2001, 2000 and 1999, respectively. Our gross margin percentages were 58%, 33%
and 43% for these same periods, respectively.
The improvement in gross margin percentages is due primarily to the
expiration of lower margin long-term service contracts.
Research
and Development Expenses
Research and development (“R&D”) expenses were
$2.6 million, $8.4 million and $12.9 million for the years ended 2001, 2000 and
1999, respectively, and consisted almost exclusively of personnel expenses. The
decrease in R&D spending was the result of reduced salary and employee
benefit expenses associated with the reduction in our R&D personnel as part
of our restructuring and cost containment programs.
Marketing
and Selling Expenses
Marketing and selling expenses consist principally of
personnel expenses associated with our U.S. and European sales force, as well
as a limited amount of marketing and promotional materials. Marketing and selling expenses were $11.6
million, $21.2 million and $33.0 million for the years ended 2001, 2000 and
1999, respectively, representing a decrease of 45% in 2001 and an increase of
4% in 2000. The decreases resulted from the implementation of cost reduction
plans and a significant reduction in our marketing programs.
General
and Administrative Expenses
General and administrative expenses (“G&A”)
consist of executive, financing, human resources personnel expenses and
expenses associated with outside professional services. G&A expenses were $4.9 million, $7.2
million and $6.9 million for the years ended 2001, 2000 and 1999, respectively,
representing decreases of 29% in 2001 and
an increase of 4% in 2000. The decreases during 2001 are due primarily
to a reduction in our workforce, associated costs of benefit plans and cost
reduction programs. The increase during 2000 was primarily related to the
losses on the disposition of equipment of approximately $0.2 million.
G&A expenses include the amortization of goodwill
and other intangible assets of $.4 million and $.5 million for the years ended
December 2001 and 2000, respectively. The amortization of goodwill and other
intangible assets resulted from the acquisition of Network Display Business
unit of Tektronix on December 31, 1998.
Charge
For Acquired In-Process Research and Development
During 2000, we incurred a charge of $1.8 million of
in-process research and development associated with the acquisition of
Multiplicity in January 2000. Subsequent to the acquisition, research and
development for this business was discontinued. The amount allocated to
in-process research and development was determined by an outside consulting
firm using established techniques for the high-technology industry. No such expenses were incurred during 2001.
Interest
Expense, Net
Interest expense, net, was $1.2 million and $501,000
for 2001 and 2000, respectively. During
1999 we had net interest income of $564,000.
The increased expense during 2001 reflects a substantial increase in the
interest rates charged by our lenders due to increased risk, substantial loan
amendment fees charged due to debt covenant violations, the write off of
prepaid loan fees related to the terminated loan and the interest charges on
the issuance of a $3.3 million convertible note in September 2000. Included in interest expense for 2001 is
approximately $416,000 of loan amendment and other fees charged by Foothill.
Consequently, our effective annual interest rate for 2001 was 18.0% as compared
to an effective annual interest rate of 8.2% for 2000. Further, all short-term investments were
liquidated in 2001 to fund operations.
Income Taxes
The provision for income
taxes for 2001 is primarily for foreign income taxes. We continue to generate
tax net operating loss carry forwards for the United States federal and state
jurisdictions. However, no deferred tax assets have been recognized in respect
of these carry forwards due to the uncertainty continuing losses create
regarding our ability to generate sufficient taxable income to realize the
related benefits.
Related
Party Transactions
See Note 12 to
Consolidated Financial Statements for a discussion of related party
transactions.
Liquidity and Capital Resources
At December 31, 2001, we
had a deficit working capital of $2.4 million and we incurred a loss from
operations of $8.5 million and used cash in operating activities of $2.7
million for the year then ended.
As of December 31, 2001,
we had $0.5 million in cash and $6.5 million in notes payable, consisting of
$2.1 million drawn under a line of credit with Silicon Valley Bank
("SVB"), $3.3 million in a convertible note held by SCI, and $1.0
million in an additional note payable to SCI, both due on September 29, 2002
and $90,000 payable to Pencom over 18 months beginning in April 2002.
Under operating leases
for our facilities, we are committed to make lease payments of $1,134,000,
$470,000, $42,000 and $9,000 for the years ended December 31, 2002, 2003, 2004
and 2005, respectively. We anticipate that the 2002 and 2003 commitments will
be partially offset by sublease rental income of $150,000 and $130,000,
respectively.
In January 2002, we
violated a covenant with SVB, which stopped further advances under our line of
credit.
On March 26, 2002, as
previously mentioned, we sold our ThinSTAR product line to Neoware. We received an initial $3.7 million in cash,
of which $1.6 million was used to repay and close our line of credit with SVB. An additional $1.5 million was paid to SCI
as the initial payment in a debt restructuring agreement which is currently
being finalized. The proposed agreement
is expected to extend the maturity date of the $3.3 million convertible note to
September 2003 to finance our projected working capital requirements.
Going forward, we will be
required to seek additional financing during the next three to six months and
we are diligently pursuing both bank financing and potential investors. We believe that we will require additional
financing of approximately $1.0 million in order to fund our operations during
the next 12 months. However, no
assurance can be given that additional financing will be available, or that if
available, it will be available on the terms acceptable to us or our
shareholders. If adequate funds are not
available to satisfy our short-term or long-term capital requirements we may be
required to limit our operations significantly. In light of the foregoing, our auditors have included a paragraph
in their report indicating that substantial doubt exists as to our ability to
continue as a going concern. Our
financial statements do not include any adjustments relating to the
recoverability and classification of reported asset amounts or the amount and
classification of liabilities that might be necessary should we be unable to
continue as a going concern.
Cash used in
operations was $2.7 million for the year ended December 31, 2001 compared to
cash used in operations of $11.3 million for the year ended December 31, 2000.
Our reported net loss of $9.7 million in 2001 included non-cash charges
for depreciation and amortization of $1.4 million, reducing the negative cash
impact of our loss to $8.3 million. We
used additional cash to reduce accrued expenses by $1.7 million and deferred
revenue by $1.1 million. However, these
cash requirements were partially offset by management’s cash management
initiatives which resulted in reductions in inventory of $2.7 million, accounts
receivable of $2.1 million, and prepaid expenses of $1.7 million, plus an
increase in accounts payable of $2.3 million. Our net loss of $32.7 million in
2000 included non-cash charges of $4.7 million for depreciation, amortization
and acquired in-process research and development. We used additional cash to reduce accounts payable by $2.3
million, deferred revenue by $2.1 million and accrued expenses by $1.1
million. The combined total of these
cash requirements was partially offset by reductions in accounts receivable of
$12.5 million, inventories of $7.4 million and prepaid expenses of $1.9
million.
Cash provided by investing activities of $0.7 million
during 2001 resulted from the maturity of short-term investments of $0.3
million and a reduction in other assets of $0.4 million. Cash provided by investing
activities of $2.5 million in 2000 resulted from net sales and maturities of
short-term investments of totaling $3.2 million less property and equipment
purchases of $0.7 million.
Cash provided by financing activities of $1.1 million for the year ended
December 31, 2001 resulted from the receipt of $3.5 million for the sale of
convertible preferred stock and a conversion of $1.0 million of accounts
payable into a note payable offset by the net reduction of the outstanding
balance under our lines of credit of $2.4 million. Cash provided by financing activities of $5.4 million for the
year ended December 31, 2000 reflects the proceeds of $4.6 million from
borrowings under the line of credit and proceeds of $0.8 million from the
issuance of common stock offset by principal payments on capital lease
obligations of $0.1 million.
Critical Accounting Policies and Estimates
The discussion of our financial condition and results of operations
reflect our recognition of generally accepted accounting principles in the
United States. In preparing these
financial statements, we are required to make certain estimates which will
affect amounts reported. We base our estimates on historical experience as well
as other assumptions that we believe are reasonable under the
circumstances. These assumptions may
vary from actual results incurred as a result of the passage of time and
changing circumstances and conditions.
We believe the following critical accounting policies affect the most
significant estimates used in its preparation of our financial statements.
Revenue Recognition
Hardware revenues are
recognized when the products are shipped following receipt of a valid purchase
order. With respect to sales through certain international distributors,
revenue is recognized when the shipment is made available at a third party
logistics center and the buyer is notified of the availability. We warrant our hardware products for defects
in materials for a period of three years. During this warranty period, the
customer may return defective product to us and at our option we will either
repair or replace the defective product.
In the event we are unable to accomplish the repair or replacement of
the defective product, we may refund customer the corresponding purchase price.
We reduce revenues and cost of sales by an amount representing estimated
returns, which we estimate, based upon historical experience factors. Warranty costs are accrued based upon actual
units sold based upon estimates derived from historical experience.
Software revenues are recognized when the software license is sold and
the software is delivered. We do not
offer free software upgrades and because we provide 30-day complimentary
telephone support for software, there is no undelivered element related to
software sales. Software products that
are included in revenue for the periods presented are (i) NCD ThinPATH, (ii) NCD
Wincenter, our multi-user Windows NT application server software,
(iii) NCD PC-Xware,
our thin client software for PCs, and (iv) NCDware, our proprietary thin client
software.
Services revenues are generated from the sale of hardware service
contracts. Our Extended Warranty Program
extends our three- year standard
warranty, and our Express Exchange Program provides for the shipment of a
replacement unit within 24 to 48 hours, upon customer request. Service revenues are recognized ratably over
the term of the hardware service contract.
Our deferred revenue includes all unrecognized service revenue.
Estimated reductions to
revenue are recorded thoughout each period for sales and marketing programs
including special price quotes, price protection, promotions, marketing
development activities, and other volume related incentives. These incentives
are subject to change based on market conditions and can result in additional
revenue reduction. Any adjustments are
charged to income in the period in which the information that gave rise to the
adjustment becomes known.
An allowance for doubtful
accounts is maintained for estimated losses that result from customers’
inability to make payments. Any determination in our customers’ financial
condition would, of course, require additional allowances.
Warranty
Estimated product
warranty costs are recorded at the time revenues are recognized. While we maintain a quality assurance
program to assure delivery of a quality product to our customers, additional
warranty reserves may be required should we experience increased product
failures.
Inventory
Inventory carrying values
are monitored and compared to current market values regularly and any changes
in value due to market conditions, obsolescence or marketability of product are
recognized at that time.
Intangible Assets
Intangibles are evaluated
periodically to determine if any impairment to the carrying value has
occurred. Should such carrying value
decrease as a result of changing market conditions the carrying value of the
intangibles would be adjusted accordingly.
Recent Accounting Pronouncements
In June 2001, the
Financial Accounting Standards Board (“FASB”) finalized Statement of Financial
Accounting Standards (“SFAS”) No. 141, “Business Combinations” (“SFAS 141”),
and No. 142, “Goodwill and Other Intangible Assets” (“SFAS 141”). SFAS 141
requires the use of the purchase method of accounting and prohibits the use of
the pooling-of-interests method of accounting for business combinations
initiated after June 30, 2001. SFAS 141 also requires that we recognize
acquired intangible assets apart from goodwill if the acquired intangible
assets meet certain criteria. SFAS 141 applies to all business combinations
initiated after June 30, 2001 and for purchase business combinations completed
on or after July 1, 2001. It also requires, upon adoption of SFAS 142 that we
reclassify the carrying amounts of intangible assets and goodwill based on the
criteria in SFAS 141.
SFAS 142 requires,
among other things, that companies no longer amortize goodwill, but instead test
goodwill for impairment at least annually. In addition, SFAS 142 requires us to
identify reporting units for the purposes of assessing potential future
impairments of goodwill, reassess the useful lives of other existing recognized
intangible assets, and cease amortization of intangible assets with an
indefinite useful life. An intangible asset with an indefinite useful life
should be tested for impairment in accordance with the guidance in SFAS 142.
SFAS 142 is required to be applied in fiscal years beginning after December 15,
2001 to all goodwill and other intangible assets recognized at that date,
regardless of when those assets were initially recognized. SFAS 142 requires us
to complete a transitional goodwill impairment test six months from the date of
adoption. We are also required to reassess the useful lives of other intangible
assets within the first interim quarter after adoption of SFAS 142. The
implementation of SFAS 142 will not have a material effect on our financial
statements.
In June 2001, FASB
issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” SFAS No. 143 is effective for fiscal years
beginning after June 15, 2002. SFAS No.
143 requires that any legal obligation related to the retirement of long-lived
assets be quantified and recorded as a liability with the associated asset
retirement cost capitalized on the balance sheet in the period it is incurred
when a reasonable estimate of the fair value of the liability can be made.
In August 2001,
FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of
Long-Lived Assets,” (“SFAS 144”). SFAS
No. 144 is effective for fiscal years beginning after December 15, 2001. SFAS No. 144 provides a single,
comprehensive accounting model for impairment and disposal of long-lived assets
and discontinued operations.
We expect that
SFAS Nos. 143 and 144 will be adopted on their effective dates and that the
adoption will not result in any material effects on our financial statements.
As of December 31, 2001, the net carrying amount of
intangibles remaining after the purchase of the Network Displays Business unit
of Tektronix in December 1998 was $1.6 million and there were no intangible
assets relating to the purchase of Multiplicity in January 2000. Amortization
expense during the year ended December 31, 2001 and December 31, 2000 was
$403,000 and $480,000, respectively. We
believe there is no impairment at December 31, 2001 and will continue to
monitor the value.
Item 7A.
Item 7A. Market Risk
Effective January 2001 all of our international sales have been
denominated in US dollars. As of December 31, 2001, a small amount of our
accounts receivable were denominated in Euros, subjecting us to exchange rate
fluctuations. We do not expect the
effect of such fluctuations on our operating results to be material.
We
sometimes use bank borrowings to finance operations. Although we have no bank borrowings at this time, we are subject
to interest rate risk on changes in interest rates for future borrowings.
Item 8.
Item 8. Financial Statements and Supplementary Data.
Index to Consolidated Financial Statements
Reports
of Independent Certified Public Accountants
Consolidated Balance Sheets
as of December 31, 2001 and 2000
Consolidated
Statements of Operations for the Years Ended December 31, 2001, 2000 and 1999
Consolidated
Statements of Shareholders’ Equity for the Years Ended December 31, 2001,
2000 and 1999
Consolidated
Statements of Cash Flows for the Years Ended December 31, 2001, 2000 and 1999
Notes to
Consolidated Financial Statements
Supplementary
Data: Quarterly Financial Data (Unaudited)
Report of Independent Certified Public
Accountants
To the Board of Directors
and Stockholders of
Network Computing Devices, Inc. and Subsidiaries
Mountain View, California
We have audited the
accompanying consolidated balance sheets of Network Computing Devices, Inc. and
subsidiaries as of December 31, 2001 and 2000, and the related consolidated
statements of operations, shareholders’ equity and cash flows for the years
then ended. We have also audited the Schedule of Valuation and Qualifying
Accounts and Reserves, as listed in Item 14 of Form 10-K. These consolidated
financial statements and the Schedule are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these consolidated
financial statements and the Schedule based on our audits.
We conducted our audits
in accordance with auditing standards generally accepted in the United States
of America. These standards require that we plan and perform the audits to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements and
Schedule. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
presentation of the financial statements and Schedule. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the
consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Network Computing
Devices, Inc. and subsidiaries at December 31, 2001 and 2000, and the results
of their operations and their cash flows for the years then ended in conformity
with accounting principles generally accepted in the United States of America.
Also, in our opinion, the Schedule presents fairly in all material respects the
information set forth therein.
As discussed in Note 9 in
the consolidated financial statements, the Company has one significant vendor
that manufacturers a substantial majority of the Company’s inventory.
The accompanying
consolidated financial statements have been prepared assuming that the Company
will continue as a going concern. As discussed in Note 1 to the financial
statements, the Company has sustained recurring losses from operations and net
working capital deficiency at December 31, 2001. These conditions raise
substantial doubt about the ability of the Company to continue as a going
concern. Management’s plans as to these matters are also discussed in Note 1.
The consolidated financial statements do not include any adjustments related to
the recoverability and classification of reported asset amounts or the amount
and classification of liabilities that might result from the outcome of this
uncertainty.
/s/ BDO
Seidman, LLP
San Francisco, California
March 26, 2002
Independent Auditors’ Report
To The Board of Directors and Shareholders
Network Computing Devices, Inc.
We have audited the accompanying consolidated statements of operations, shareholders’ equity, and cash flows for the year ended December 31, 1999. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of Network Computing Devices, Inc. and subsidiaries for the year ended December 31, 1999, in conformity with accounting principles generally accepted in the United States of America.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. The Company has suffered recurring losses from operations and has a net working capital deficiency that raise substantial doubt about its ability to continue as a going concern. Management’s plans as to these matters are described in Note 1. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
/s/ KPMG LLP
Mountain View, CA
February 10, 2000
NETWORK COMPUTING DEVICES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per
share amounts)
See accompanying
notes to consolidated financial statements.
NETWORK
COMPUTING DEVICES, INC.
CONSOLIDATED STATEMENTS OF
OPERATIONS
(in
thousands, except share and per share amounts)
See accompanying notes to
consolidated financial statements.
NETWORK COMPUTING DEVICES, INC.
CONSOLIDATED STATEMENTS OF
SHAREHOLDERS’ EQUITY
(in
thousands)
See accompanying notes to consolidated financial
statements.
NETWORK COMPUTING DEVICES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in
thousands)
See accompanying notes to consolidated financial
statements.
Notes to Consolidated Financial Statements
Note 1. Description of Business and Significant
Accounting Policies
Going Concern Uncertainty. Network Computing Devices, Inc. (the “Company”) has
incurred a loss from continuing operations for the year ended December 31, 2001
of approximately $9.7 million and has a working capital deficit of $2.4 million
at December 31, 2001. The Company is working on obtaining additional financing,
which it believes will be necessary to meet its working capital requirements in
2002. There is no assurance that the
Company will be able to obtain the necessary additional financing, resulting in
an adverse effect on the Company’s financial condition. The financial
statements do not include any adjustments relating to the recoverability and
classification of reported asset amounts or the amount and classification of
liabilities that might be necessary should the Company be unable to continue as
a going concern. The Company is actively marketing its existing and new
products, which it believes will ultimately lead to profitable operations.
However, no assurance can be given that these available funds will meet the
Company’s cash requirements in the future.
Sale of Windows-based Terminal Product Line. In March 2002, the Company sold its
ThinSTAR product line to Neoware in exchange for cash. The assets disposed of
consisted principally of customer records, the ThinSTAR trademark and other
intellectual property, and contract rights used in the business of designing,
developing, manufacturing, distributing and selling the Windows-based Terminals
marketed under the ThinSTAR brand name. As part of this transaction, Neoware
also received an option to acquire additional assets relating to the Company's
European operations. Until such time
that Neoware exercises such option, the Company will continue to offer the
ThinSTAR product line in Europe, the Middle East and Africa (“EMEA”) pursuant
to the OEM agreement with Neoware and will continue to provide worldwide
service and support for the ThinSTAR product line. The sale of the ThinSTAR product line and the alliance with
Neoware will allow the Company to focus on
its European operations, worldwide NCD ThinPATH software and NCD NC900
businesses while providing additional cash resources to strengthen its
financial position. Proceeds from the sale were used to repay and conclude the
Company’s line of credit with SVB. An
additional $1.5 million of the proceeds was paid to SCI as the initial payment
in a debt restructuring agreement which is currently being finalized.
Worldwide
net revenues and gross profit from the ThinSTAR product line for the year ended
December 31, 2001 were approximately $16.5 million and $1.6 million,
respectively. In the year ended
December 31, 2001, EMEA net revenues and standard gross profit for the ThinSTAR
product line were approximately $8.9 million and $.2 million, respectively.
At December 31, 2001, the
Company had ThinSTAR inventory and accounts receivable and trade accounts
payable relating to its North American sales of the ThinSTAR product line of
approximating $4.5 million and $2.5 million, respectively. Neoware’s purchase of the ThinSTAR product
line did not include these accounts payable or accounts receivable, which the
Company expects will be liquidated in the normal course of business. The Company believes that the carrying value
of these assets at December 31, 2001 is not in excess of their liquidation
value.
Description of Business Prior to March 26, 2002. The Company was originally incorporated
in the State of California on February 17, 1988 and reincorporated in the State
of Delaware on October 29, 1998. Historically, the Company has provided thin
client hardware and software delivering simultaneous, high-performance,
easy-to-manage and cost effective access to all of the information on
enterprise intranets and the Internet from thin client, UNIX and PC desktops.
The Company's hardware product lines have included the NCD NCD900 network computers, and until
recently, NCD ThinSTAR line of Windows-based Terminals. On the software side,
the Company offered the NCD ThinPATH family
of client and server software, developed to enhance to connectivity, management
and features of NCD thin clients as well as PCs in accessing information and
applications on Windows servers. The Company's thin clients, NCD ThinPATH software, and installation
and support services have been a combination delivering a fully-integrated
desktop solution to companies seeking a low-cost, easy to manage, simple to
use, high performance user experience.
Consolidation. The accompanying consolidated financial statements
include the accounts of the Company and its wholly owned subsidiaries. The
functional currency for the Company and its subsidiaries is the U.S. dollar.
All significant inter company balances and transactions have been eliminated in
consolidation.
Cash Equivalents. The Company considers all highly liquid investments
purchased with an original maturity date of three months or less to be cash
equivalents. Cash equivalents at December 31, 2000 consisted of bank deposits
and commercial paper. At times these deposits may exceed the amounts covered by
the Federal Deposit Insurance Corporation.
There were no cash equivalents at December 31, 2001.
Short-Term Investments. Short-term investments consist of corporate debt
securities. The Company has classified all of its short-term investments as
“available-for-sale” securities. The carrying value of such securities equals
the fair market value. The fair value of all securities equals the cost basis,
consequently, there are no unrealized gains or losses.
Inventories. Inventories are stated at the lower of standard cost,
which approximates actual cost on a first-in, first-out basis, or market (net
realizable value).
Property and Equipment. Property and equipment are stated at cost.
Depreciation and amortization are computed using the straight-line method.
Useful lives of two to five years are used for equipment and furniture;
demonstration equipment is depreciated over an 18-month period. Leasehold
improvements are amortized over the shorter of the lease term or the useful
lives of the respective assets.
Intangible Assets. Intangible assets include customer lists, workforce
in place, non-compete agreements and goodwill associated with acquisitions
accounted for under the purchase method. Through December 31, 2001, intangible
assets were amortized over the economic life of the asset, which was assumed to
be a seven-year period, on a straight-line basis.
The Company commissioned
an independent evaluation of the value of the business remaining after the sale
of the ThinSTAR product line. The
assumptions used in the valuation report were determined through established
valuation techniques in the high technology industry. The results of that evaluation also helped to substantiate the
value of the intangible assets recorded at December 31, 2001.
Revenue Recognition.
Hardware Revenues
As a common practice in
the computer distribution business the Company offers its distributors and
resellers certain sales incentives such as “price protection” and inventory
“stock rotation.” As a result of
changes in price or new model introductions, certain distributors are entitled
to receive certain limited rebates and credits for the inventory held by the
distributor within specified periods of time as defined by distributor
agreements. In general, once requests
for credits are approved the Company decreases the accounts receivable and
sales as well as the corresponding cost of good sold. However, at the end of the reporting period, the Company will
estimate the relevant credits based on the quantity of the inventory on hand at
the distributor and expected future credits.
Actual results could differ from the Company’s estimated amount.
Hardware revenues consist
primarily of revenues from the sale of thin client products and related
hardware. Hardware revenues are recognized when the products are shipped
following receipt of a valid purchase order.
According to contracts with certain international distributors, revenue
is recognized when the shipment is made available at a third party logistics
center and the buyer is notified of the availability. The Company warrants its hardware products for defects in
materials for a period of three years. During this warranty period, the
customer may return defective product to the Company and at the Company’s
option it will either repair or
replace the defective product. In the
event the Company is unable to accomplish the repair or replacement of the defective
product, it may refund customer the corresponding purchase price. The Company
reduces revenues and cost of sales by an amount representing estimated returns,
which is an estimate, based upon historical experience factors. Warranty costs are accrued based upon actual
units sold based upon estimates derived from historical experience.
Software Revenues
Software revenues consist of revenues from the sale of software
products. Software revenues are recognized when the software license is sold
and the software is delivered, provided that no significant vendor obligations
remain outstanding and collection is considered probable. The Company does not offer free software
upgrades and because it provides only a 30-day complimentary telephone support
for software, there is no undelivered element related to software sales. Software products that are included in
revenue for the periods presented are (i) NCD ThinPATH, (ii) NCD PC-Xware, the Company’s thin
client software for PCs, and (iv) NCDware, the Company’s proprietary thin
client operating software.
Service Revenues
Services revenues are generated from the sale of hardware service
contracts. The Company’s Extended
Warranty Program extends the three- year standard warranty, and the Express
Exchange Program provides for the shipment of a replacement unit
within 24 to 48 hours, upon customer request.
Service revenues are recognized ratably over the term of the hardware
service contract. The Company’s
deferred revenue includes all unrecognized service revenue.
Research
and Development Costs. Research and development costs are charged to expense when incurred.
Costs incurred in the development of new software products and enhancements to
existing software products are also expensed as incurred until the
technological feasibility of the product has been established. Technological
feasibility is defined as the establishment of a working model that typically
occurs when the beta testing commences. After technological feasibility has
been established, any additional costs are capitalized in accordance with
Statement of Financial Accounting Standards (“SFAS”) No. 86 “Accounting for the
Cost of Computer Software to be Sold, Leased or Otherwise Marketed.” To date,
the Company has been able to release new software products or software
enhancements within a relatively short period of time after it has achieved
technological feasibility on such software products or software
enhancements. Therefore, software
development costs qualifying for capitalization have been
insignificant. Accordingly, the Company
has not capitalized any software development costs at December 31, 2001.
Income Taxes. Under the asset and liability method of SFAS No. 109,
“Accounting for Income Taxes,” deferred tax assets and liabilities are
established to recognize the future tax consequences attributable to
differences between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. Under SFAS No. 109, the effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period that
includes the enactment date.
Use of
Estimates. The
discussion of the Company’s financial condition and results of operations
reflects the Company’s recognition of accounting principles generally accepted
in the United States. In preparing
these financial statements, management is required to make certain estimates
which will affect amounts reported. Management bases its estimates on
historical experience as well as other assumptions that management believes are
reasonable under the circumstances.
Among the more significant estimates included in these financial
statements are the estimated reserves for sales programs, accounts receivable
allowance for doubtful accounts, reserve for obsolete inventory, valuation of
intangible assets and the deferred income tax asset allowance. These
assumptions may vary from actual results incurred as a result of the passage of
time and changing circumstances and conditions.
Fair
Value of Financial Instruments. The following methods and assumptions were used by
the Company in estimating its fair value disclosures for financial instruments:
Cash and cash equivalents- the carrying amount approximates the fair value;
Accounts receivable- the carrying amount approximates the fair value; Notes
payable- the carrying amount of notes payable approximates fair value due to
the short period until maturity and prevailing market rates. At December 31, 2001 and 2000, the fair
value of the Company’s instruments approximate their historical carrying
amounts.
Impairment of Long-Lived Assets and Long-Lived Assets to Be
Disposed Of. We
evaluate our long-lived assets and certain identifiable intangible assets for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable in accordance with SFAS No.
144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”
Recoverability of assets to be held and used is measured by a comparison of the
carrying amount of an asset to future discounted net cash flows expected to be
generated by the asset. If such assets are considered to be impaired, the
impairment to be recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets. Assets to be
disposed of are reported at the lower of the carrying amount or fair value less
costs to sell with fair value typically measured as estimated sales proceeds
less disposal costs. Fair value is calculated using discounted future cash
flows with a discount rate commensurate with the risks involved with the cash flow
stream.
Net Loss Per Share. Basic net income (loss) per share is computed using
the weighted-average number of common shares outstanding during the period.
Diluted net income (loss) per share is computed using the weighted-average
number of common shares and potential common shares from stock options and
warrants outstanding, when dilutive, using the treasury stock method. At
December 31, 2001, 2000 and 1999 there were 6,026,892, 4,724,498 and 4,676,490
options and warrants outstanding, respectively, that could potentially dilute
earnings per share (“EPS”) in the future that were not included in the
computation of diluted EPS because to do so would have been antidilutive for
those years.
Stock-based Compensation. The Company accounts for its stock-based compensation
plans using the intrinsic value method. As such, compensation expense is
recorded on the date of grant if the current market price of the underlying
stock exceeded the exercise price.
Recent Accounting Pronouncements. In June 2001, the FASB finalized SFAS
No. 141, “Business Combinations”, and No. 142, “Goodwill and Other Intangible
Assets”. SFAS 141 requires the use of the purchase method of accounting and
prohibits the use of the pooling-of-interests method of accounting for business
combinations initiated after June 30, 2001. SFAS 141 also requires that the
Company recognizes acquired intangible assets apart from goodwill if the
acquired intangible assets meet certain criteria. SFAS 141 applies to all
business combinations initiated after June 30, 2001 and for purchase business
combinations completed on or after July 1, 2001. It also requires, upon
adoption of SFAS 142, that the Company reclassifies the carrying amounts of
intangible assets and goodwill based on the criteria in SFAS 141.
SFAS 142 requires, among
other things, that companies no longer amortize goodwill, but instead test
goodwill for impairment at least annually. In addition, SFAS 142 requires the
Company to identify reporting units for the purposes of assessing potential
future impairments of goodwill, reassess the useful lives of other existing
recognized intangible assets, and cease amortization of intangible assets with
an indefinite useful life. An intangible asset with an indefinite useful life
should be tested for impairment in accordance with the guidance in SFAS 142.
SFAS 142 is required to be applied in fiscal
years beginning after
December 15, 2001 to all goodwill and other intangible assets recognized at
that date, regardless of when those assets were initially recognized. SFAS 142
requires the Company to complete a transitional goodwill impairment test six
months from the date of adoption. The Company is also required to reassess the
useful lives of other intangible assets within the first interim quarter after
adoption of SFAS 142. The
implementation of SFAS 142 will not have a material effect on the Company’s
financial statements.
In June 2001, FASB
issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” SFAS No. 143 is effective for fiscal years
beginning after June 15, 2002. SFAS No.
143 requires that any legal obligation related to the retirement of long-lived
assets be quantified and recorded as a liability with the associated asset
retirement cost capitalized on the balance sheet in the period it is incurred
when a reasonable estimate of the fair value of the liability can be made.
In August 2001,
FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of
Long-Lived Assets,” (“SFAS 144”). SFAS
No. 144 is effective for fiscal years beginning after December 15, 2001. SFAS No. 144 provides a single,
comprehensive accounting model for impairment and disposal of long-lived assets
and discontinued operations.
The Company
expects that SFAS Nos. 143 and 144 will be adopted on their effective dates and
that the adoption will not result in any material effects on the Company’s
financial statements.
As of December 31, 2001, the net carrying amount of intangible assets
remaining after the purchase of the Network Displays Business unit of Tektronix
in December 1998 was $1.6 million and there were no intangible assets relating
to the purchase of Multiplicity in January 2000. Amortization expense during
the year ended December 31, 2001 and December 31, 2000 was $403,000 and
$480,000, respectively.
Reclassifications. Certain prior year
amounts have been reclassified to conform with current year presentation.
Note 2. Acquisitions
On December 31, 1998, the
Company acquired Tektronix’ Network Displays Business unit (“NWD”) for $3.0
million in cash and warrants to purchase one million shares of the Company’s
common stock over a term of five years at an exercise price of $8.00 per share.
The fair value of the warrants issued in the acquisition was calculated using
the Black-Scholes pricing model. Direct costs of the acquisition totaled
approximately $200,000. The acquisition was accounted for as a purchase
business combination with a total purchase price of $5.9 million. The purchase
price was allocated to $1.7 million of net assets acquired (primarily
inventory), $1.4 million to in-process research and development and $2.8
million to other intangible assets which are being amortized over a 7 year
useful life. In addition to acquiring certain assets of NWD, approximately 83
former NWD employees, primarily in sales, marketing and engineering roles,
joined NCD.
In January 2000, the
Company acquired the assets of Multiplicity LLC, a privately held developer of
advanced server management software for Microsoft’s Windows NT and Windows 2000
operating systems. The acquisition has been accounted for using the purchase
method. The purchase price was $2.2 million plus a stream of future payments
based on revenue for the four-year period following the acquisition. No future
payments have been made to date an no future payments are expected to be paid.
Of the purchase price, $1.8 million was allocated to purchased in-process
research and development and $0.4 million was allocated to other intangible
assets. Multiplicity LLC provided strategic performance analysis and capacity
planning solutions for networked Windows NT and Windows 2000 servers. These
solutions gave customers system measurement and management that enabled
troubleshooting, analysis, administration and planning to help IT organizations
improve end-user service levels. During the third quarter of 2000, due to a
change in strategic direction and cash constraints, the Company discontinued
development efforts on the Multiplicity product line and recorded a related restructuring
charge to write-off all related purchased intangibles.
Note 3. Short-Term Investments
The fair value of
short-term investments consisted of the following as of December 31 (in
thousands):
There were no material
unrealized gains or losses at December 31, 2000.
Note 4: Consolidated
Balance Sheet and Statement of Cash Flows Components
Note 5. Business Restructuring
On December 31, 1998, the
Company acquired the Network Displays Business unit of Tektronix, Inc. (“NWD”).
As a result of this acquisition, the Company reduced its workforce and
discontinued certain activities that were redundant with the acquired business.
As a result of the restructuring action, a charge to operations of $1.0 million
was recorded for 1998. The restructuring plan included the termination of
approximately 40 employees, primarily in sales and engineering roles, and the
closure of four of the Company’s offices in the United States. Total cash
charges amounted to $900,000, none of which had been paid as of December 31,
1998 and are included in accrued expenses. By the end of 1999 it was determined
that the plan was substantially complete, and an operating credit of $138,000
was recorded.
On March 31, 2000, the
Company announced a restructuring plan involving a general reduction in
workforce affecting all classes of employees and exiting certain leased
facilities. Approximately 60 employees were terminated under this plan. In
connection with the plan, the Company recorded a restructuring charge of $2.6
million consisting of $2.4 million for employee separation costs and $0.2
million for facility exit costs.
During the third quarter
of 2000, the Company undertook additional restructuring actions involving a
general reduction in workforce affecting all classes of employees, exiting
certain leased facilities and discontinuing development activities related to
several product lines. This plan was necessitated by the termination of the
Company’s contract with IBM as well as the change in market conditions.
Approximately 40 employees were terminated under this plan. In connection with these actions, the
Company recorded restructuring charges of $1.6 million consisting of cash
charges of $1.0 million for employee separation costs and $0.2 million for
facility exit costs, and non cash charges of $0.4 million related to the
discontinued product lines, including the recognition of an impairment loss of
$0.3 million on the intangibles attributable to the Company’s purchase of
Multiplicity LLC.
During the year ended
December 31, 2000, the Company paid $2.9 million of the accrued restructuring
liability leaving unpaid cash charges of $0.4 million included in accrued
liabilities as of December 31, 2000.
The remaining $0.4 million balance at December 31, 2000 was utilized
throughout 2001 to pay severance of terminated employees. As a result of the
restructuring, the
Company reduced its workforce by over 200 employees and its leased manufacturing
and office space in Mountain View, California by approximately 86,000 square
feet. The restructuring plan was completed in the fourth quarter of 2001 and
there were no remaining restructuring reserves as of December 31, 2001.
Note 6. Notes Payable
Following is a listing of notes payable as of December 31,
2001 and 2000 (in thousands):
In August 2000, the Company concluded an agreement with SCI
Technology, Inc. (“SCI”) to convert $3.3 million of the Company’s accounts
payable to SCI into a 13-month convertible note (the “Convertible Note”). The
Convertible Note bore interest at 6.5% per annum and each $1.00 of the
outstanding principal was convertible into one share of the Company’s Common
Stock at any time during the term of the Convertible Note. In August 2001, the Convertible Note was
extended for an additional year with an increase in the interest rate to 8% per
annum, computed on the unpaid balance beginning October 1, 2001, and the
conversion price was reduced to $.62 per share.
On October 17, 2001, the
Company concluded an agreement with SCI to convert $1.0 million of the
Company’s accounts payable to SCI into a note, which matures on September 29,
2002 and bears interest at a rate of 8% per annum. This note is not
convertible.
On October 29, 2001, the
Company secured a $5.0 million line of credit with Silicon Valley Bank
(“SVB”). The line was secured by
substantially all of the Company’s assets and bore interest at a rate of prime
plus 2%. Based on terms of the financing agreement and assuming that the
Company was in compliance with specified financial covenants, we could borrow
up to 60% of the eligible domestic accounts receivable and up to 60% of the
eligible foreign accounts receivable in which the Company has secured credit
insurance. As of December 31, 2001, the total amount available and outstanding
to SVB was $2,116,000. In January 2002, the Company violated a covenant with
SVB, which stopped further advances until a new agreement was concluded which
reduced the maximum amount available to $2.0 million from the existing $5.0
million and reduced the advance rate on eligible domestic and foreign accounts
receivable to 50% from the original 60%. Also, in connection with this line of
credit, the Company issued a warrant to SVB to purchase up to 650,000 shares of
the Company’s Common Stock at a price of $.50 per share. The warrant expires on
October 29, 2006, and had no significant fair value at the time of issuance.
This note was subsequently paid. See
Note 13. “Subsequent Events.”
Our original line of
credit obtained from Foothill Capital in March 2000 was terminated in October
2001 when we obtained our line of credit from SVB. The Foothill Capital line of credit provided the Company with up
to $15.0 million in credit, subject to certain conditions related to the
Company's accounts receivable from time to time. As a result of these
conditions, the actual amount that was available under the line ranged from
$.20 million to $6.0 million. Borrowings under the line of credit were secured
by substantially all of the Company's assets and initially bore interest at a
rate of prime plus 0.75%. The line of
credit was amended several times prior to its termination. In May 2001, the
line of credit was amended to establish new financial covenants and eliminate
the maximum ratio of borrowings against foreign accounts receivable. Additionally, in May 2001, the line of
credit was amended to modify the maturity date of the loan from March 30, 2003
to August 15, 2001, raise the interest rate from prime plus 0.75% to prime plus
2.75% and waive the early termination fee. As of June 30, 2001, we were in
default of the minimum EBITDA (Earnings Before Income Taxes, Depreciation and
Amortization) covenant of $38,000 for the three-month period ended June 30,
2001. In July 2001, the line of credit was further amended to reduce the
maximum amount of the credit line from $15.0 million to $3.5 million. In August
2001, the maximum credit line was further reduced to $3.25 million and the
maturity date was extended to September 15, 2001 to provide additional time for
SVB to complete its due diligence work and make a final determination regarding
its preliminary proposal to extend a new revolving credit facility to us. As of the date of termination, the total
amount outstanding under the line of credit was approximately $0.8 million.
Prior to its termination, our borrowings during the third quarter of 2001 bore
interest at a rate of prime plus 6.75%, which included a covenant default rate
of 4% for a total of 12.75% at September 30, 2001. Included in interest expense for 2001 is approximately $416,000
of loan amendment and other fees charged by Foothill. Consequently, our
effective annual interest rate for 2001 was 18.0% as compared to an effective
annual interest rate of 8.2% for 2000.
As a result of a
settlement of a dispute with a customer as discussed in “Subsequent Events,”
the Company has agreed to issue the customer a note for $90,000, which calls
for quarterly installment payments over 18 months beginning in April 2002. The note bears no interest and has been
recorded in the Company's financial statements at December 31, 2001.
On March 2002, the
Company repaid and concluded its line of credit with SVB using a portion of the
proceeds from the sale of the Company’s Windows-based terminal product line.
Note 7: Shareholders’
Equity
Convertible Preferred Stock. In December 2000, the Company issued 220,000 shares
of Series B Convertible Preferred Stock (the “Series B Preferred”) to Dr.
Guenther Pfaff in a private placement, in which the Company raised $1,500,000
in the form of a receivable that was paid on January 2, 2001. On January 11,
2001, Dr. Guenther Pfaff was appointed to the Company’s board of directors and
subsequently appointed acting President and Chief Executive Officer on December
5, 2001. The Series B Preferred shares are entitled to cumulative dividends of
$.41 per annum and are payable upon declaration by the board. Each share of Series B Preferred is
convertible into 10 shares of Common Stock at the election of the holder. In
connection with this private placement, a warrant to purchase up to 600,000
shares of Common Stock at $.75 per share was issued to Dr. Pfaff. The warrant
expires on December 28, 2005. The Company has since agreed to modify the terms
of the securities held by Dr. Pfaff in consideration of his having introduced
us to the investor who purchased the Series C Preferred. Such modification will
include our issuance of 220,000 shares of Series B1 Preferred Stock to Dr. Pfaff
in exchange for the 220,000 shares of Series B Preferred Stock he currently
holds, resulting in an increase in the annual dividend accruing on Dr. Pfaff's
shares from $.41 per share to $.55 per share, and our amendment of the warrant
currently held by Dr. Pfaff, such that the corresponding exercise price would
be reduced from $.75 per share to $.50 per share and the number of shares of
Common Stock issuable pursuant to the warrant would be increased from 600,000
shares to 900,000 shares. The warrant
has no significant fair value relative to the purchase price of the Series B
Preferred shares.
In October 2001, the
Company issued 530,000 shares of Series C Convertible Preferred Stock (the
“Series C Preferred”) in a private placement in which the Company raised
$2,000,000 from a private investor. The
Series C Preferred shares are entitled to cumulative dividends of $.23 per
annum and are payable upon declaration by the board. Each share of Series C Preferred is convertible into 10 shares of
Common Stock at the election of the holder, subject to an amendment to the
Company’s Certificate of Incorporation
to increase its authorized Common Stock by at least 5,300,000. In connection
with this private placement, a warrant to purchase up to 1,200,000 shares of
Common Stock at $.50 per share was issued to the investor. The warrant expires
in August 2006 and has no significant fair value relative to the purchase price
of the Series C Preferred shares.
Dividends in arrears on
the Series B Preferred and the Series C Preferred were approximately $111,000
at December 31, 2001.
Tektronix Settlement. In December 2000, the Company entered into a mutual
settlement of all claims with Tektronix. As part of the settlement, the Company
issued 750,000 shares of its Common Stock to Tektronix. A gain on the
settlement of $821,000 was recorded in December 2000. The gain resulted from the difference between the value of the
shares issued to Tektronix of $211,000 (based upon the closing NASDAQ price of
$0.2812 on the date of issuance) and the Company’s previously accrued estimated
liability to Tektronix of $1,032,000.
Stock Purchase Plan. The Employee Stock Purchase Plan (“Employee Purchase
Plan”) was established in 1992 with an initial 150,000 shares of the Company’s
Common Stock reserved for issuance thereunder. To accommodate increasing
enrollment in the Employee Purchase Plan, the Company had to amend the Employee
Purchase Plan numerous times in order to increase the number of shares of
common stock reserved for issuance thereunder.
The Employee Purchase Plan permitted eligible employees to purchase
common stock through payroll deductions of up to 10 percent of their base
earnings. The purchase price of the stock was equal to the lesser of 85% of the
fair market value of such shares at the beginning of each six-month offering
period (or the commencement of the employee’s participation, if later) or the
end of such offering period. As of December 1, 2000, the Board agreed to
suspend the Employee Purchase Plan. As of December 31, 2001, a total of
1,752,507 shares had been issued under this plan from its inception. No shares
were issued in 2001.
No Black-Scholes
calculations were performed for 2001 because the Employee Purchase Plan was
suspended in 2000 and no activity occurred in 2001.
The per share
weighted-average fair value of employee stock purchase rights during 2000 and
1999 was $1.87 and $3.10, respectively, on the date of grant using the
Black-Scholes model with the following weighted-average assumptions: 2000 -
dividend yield of 0%, expected volatility of 124%, risk-free interest rate of
between 5.92% and 6.25%, and an expected life of 1 year; 1999 - dividend yield
of 0%, expected volatility of 83%, risk-free interest rate of between 4.53% and
5.99%, and an expected life of 1 year.
Stock Option Plans. As of December 31, 2001, the Company had reserved
1,098,000 shares, 800,000 shares and 300,000 shares of Common Stock for
issuance under the 1999 Stock Option Plan, the 1999 Non-Qualified Stock Option
Plan and the 1994 Outside Directors’ Stock Option Plan, respectively (“the
Plans”). During 1999 the 1989 Stock Option Plan expired and was replaced by the
1999 Stock Option Plan. A total of 548,000 shares that were still available for
grant at the time the 1989 Stock Option Plan expired were used to fund the 1999
Stock Option Plan. Under the 1999 Stock Option Plan, options are granted to
employees, officers, directors and consultants to purchase shares of the
Company’s Common Stock at not less than the fair market value of the Common
Stock at the grant date (for incentive stock options) or 85% of the fair market
value of such Common Stock (for nonstatutory stock options). Options generally
vest and become exercisable to the extent of 25% one-year from grant date with
the remainder vesting ratably over the 36-month period thereafter. Prior to
August 1994, the options generally expired five years from grant date. Since
August 1994, we have generally granted options that expire 10 years from grant
date. Under the 1994 Outside Directors’ Stock Option Plan, options are granted
to outside directors to purchase shares of the Company’s Common Stock at not
less than the fair market value of the Common Stock at the grant date. Options
vest and become exercisable to the extent of 25% three months from the grant
date, 25% on the first anniversary of the grant date with the remainder vesting
ratably over the 24-month period thereafter. As of December 31, 2001, 2,053,298
options were exercisable under the Plans.
The per share
weighted-average fair value of stock options granted during 2001, 2000 and 1999
was $1.00, $1.64 and $5.91, respectively, on the date of grant using the
Black-Scholes option-pricing model with the following weighted-average
assumptions: 2001 - dividend yield of 0%, expected volatility of 136%,
risk-free interest rate of between 3.66% and 4.94%, and an expected life of 5
years; 2000 - dividend yield of 0%, expected volatility of 124%, risk-free
interest rate of between 5.17% and 6.69%, and an expected life of 5 years; 1999
- dividend yield of 0%, expected volatility of 83%, risk-free interest rate of
between 4.68% and 6.41%, and an expected life of 5 years.
The Company applies
Accounting Principles Board (“APB”) Opinion No. 25 in accounting for its stock
options issued to employees and, accordingly, no compensation cost has been
recognized for the Company’s stock plans in the accompanying consolidated
financial statements. Had the Company determined compensation cost based on the
fair value at the grant dates for the Plans under SFAS No. 123, its net loss
and loss per share would have been changed to the pro forma amounts indicated
below:
The effects of applying
SFAS No. 123 in this pro forma disclosure is not indicative of the effects on
reported results for future years. SFAS No. 123 does not apply to awards prior
to 1995, and additional awards in future years are anticipated.
A summary of option
transactions under the Plans follows:
The following
table summarizes information about options outstanding as of December 31, 2001:
Warrants.
The Company has a
warrant outstanding to purchase up to 1,000,000 shares of the Company's Common
Stock at $8.00 per share. This warrant is exercisable until it expires on
December 31, 2003. On December 28, 2000, in connection with the sale of 220,000
shares of the Company's Series B Preferred, the Company issued a warrant to
purchase up to 600,000 shares of its Common Stock at $.75 per share. As set
forth in Note 7 above, the Company has agreed to amend this warrant such that
the corresponding exercise price would be reduced from $.75 per share to $.50
per share and the number of shares of Common Stock issuable pursuant to this
warrant would be increased from 600,000 to 900,000 shares. This warrant is
exercisable until it expires on December 28, 2005. In October 2001, in
connection with the sale of 530,00 shares of the Company's Series C Preferred,
the Company issued a warrant to purchase up to 530,000 shares of its Common
Stock at $.50 per share. The warrant is exercisable until it expires on August
29, 2006. Also in October 2001, in connection with the Company's securing a
$5.9 million line of credit with Silicon Valley Bank, the Company issued a
warrant to purchase up to 650,000 shares of its Common Stock at $.50 per share.
This warrant is exercisable until it expires in October 2006 and had no
significant fair value at the time of issuance.
Note 8. Income Taxes
The components of the
Company’s provision for income taxes (income tax benefit) for the years ended
December 31 are as follows (in thousands):
Total income tax
expense (benefit) differs from the expected tax expense (benefit) (computed by
applying the U.S. federal income tax rate of 34% to loss before income taxes)
as follows (in thousands):
The tax affects of
temporary differences that give rise to significant portions of deferred tax
assets and liabilities as of December 31 are as follows (in thousands):
In light of the Company’s recent history of operating
losses, the Company continues to provide a valuation allowance for all of its
deferred tax assets as it is unable to conclude that it is more likely than not
that the deferred tax assets will be realized. Accordingly, the deferred tax
valuation allowance increased by $0.7 million from 2000. As of December 31,
2001, the Company has a net operating loss carryover for federal and California
income tax purposes of approximately $57.6 million and $18.6 million,
respectively. In addition, the Company has federal and California research and
development credit carryforwards of $1.7 million and $1.7 million,
respectively. The Company’s federal net operating loss and research and development
credit carryforwards will expire in the years 2015 through 2021 if not
utilized. The Company’s California net operating loss carryovers will expire in
the years 2002 through 2006. The California research and development credit can
be carried forward indefinitely. Pursuant to Federal income tax rules and
regulations, utilization of the tax net operating loss carryovers may also
subject to annual limitation due to any greater than 50% change in ownership of
the Company within a three year period.
Note 9. Credit and Other
Concentrations
Concentrations of credit
risk with respect to trade receivables have increased as the Company has moved
to a two-tier distribution model. Four customers, Adtcom (23%), Alternative
Technology (14%), GTS Gral (10%) and, Ingram Micro (10%) comprise approximately
57% of the Company’s gross trade receivables as of December 31, 2001.
A majority of the
Company’s manufacturing is performed by SCI Inc., Thailand. Under the terms of
the agreement between the Company and SCI, should SCI breach its performance
requirements or otherwise decide to stop manufacturing product for the Company,
the Company could be adversely affected and unable to deliver its products.
Note 10. Commitments and
Contingencies
The Company leases its
principal facilities under noncancellable operating lease agreements that
expire through 2003. The Company also leases office facilities in several
locations in the United States, and in locations in the Netherlands, France, Germany and the United Kingdom, which
are used as sales offices. During 2001, the Company closed its offices in
Australia and Sweden as well as numerous sites in the United States. Rent expense was approximately $1,382,000,
$2,607,000 and $2,440,000 for the years ended December 31, 2001, 2000 and 1999,
respectively.
As of December 31, 2001, minimum lease payments under all
noncancellable lease agreements were as follows (in thousands):
The above future
operating lease payments are anticipated to be offset by the following sublease
contract income:
Note 11. Segment Reporting and
Geographic Information
The Company has adopted
the provisions of SFAS No. 131, “Disclosures About Segments of an Enterprise
and Related Information.” SFAS No. 131 establishes standards for the reporting
by public business enterprises of information about operating segments,
products and services, geographic areas and major customers. The method for
determining what information to report is based on the way management organizes
data for making operating decisions and assessing financial performance. The
Company’s chief operating decision maker is considered to be its executive
staff, consisting of the Chief Executive Officer and the Chief Financial
Officer. Primarily because the Company operates in one industry, thin client
computing, including related hardware and software, the executive staff reviews
financial information presented on a basis consistent with that presented in
the Consolidated Statements of Operations. Accordingly, the Company has only
one segment for financial reporting purposes.
Sales to Adtcom represented
11% and 31% and sales to Tech Data represented 10% and 11%, respectively, of
net revenue for the years ended December 31, 2001 and 2000, respectively.
Original Equipment
Manufacturers (OEM) sales represented approximately 10%, 12% and 9% of the Company’s
net revenues for the years ended December 31, 2001, 2000 and 1999,
respectively.
Export sales to the
Company’s international customers outside North America, primarily Europe,
comprised approximately 45%, 40% and 40% of net revenues for the years ended
December 31, 2001, 2000 and 1999, respectively. International revenues by
country are as follows as a percentage of total international revenues:
*Includes sales to
Adtcom, our largest European distributor.
Net property and
equipment by region are as follows:
Note 12. Related Party Transactions
On December 28, 2000, in
a private placement, Dr. Guenther Pfaff purchased 220,000 shares of the
Company's Series B Preferred for an aggregate price of $1.5 million. Each share
of the Company's Series B Preferred is convertible into 10 shares of Common
Stock and is entitled to cumulative dividends of $.41, which are payable upon
declaration by the board. In connection
with this purchase, Dr. Pfaff was issued a warrant to acquire up to 600,000
shares of the Company's Common Stock at $.75 per share. As noted previously,
the Company has since agreed to modify the terms of the securities held by Dr.
Pfaff in consideration of his having introduced us to the investor who
purchased the Series C Preferred. See Note 7 for additional information. As the
value of the warrant was not significant, the entire proceeds of $1.5 million
were allocated to the Series B Preferred. The warrant expires on December 28,
2005.
Dr. Pfaff was appointed
to the Board of Directors on January 6, 2001.
He served on the Board until May 30, 2001, the date of the Company’s
Annual Shareholders’ Meeting, at which he did not stand for election. On November 6, 2001, he was
re-appointed to the Board, and shortly thereafter, on December 5, 2001, he was
appointed acting President and Chief Executive Officer.
Dr. Pfaff is the
principal owner of GTS Gral which is one of several resellers to which the
Company’s products are sold through its major European distributors. In the
year ended December 31, 2001, sales to GTS Gral accounted for 7.5% of the
Company’s total net revenue. Management believes that all transactions between
the Company and GTS Gral are done on an arms’-length basis.
Note 13. Subsequent
Events
Sale of Windows-based Terminal Product Line. In March 2002, the Company sold its
ThinSTAR product line to Neoware in exchange for cash. The assets disposed of
consisted principally of customer records, the ThinSTAR trademark and other
intellectual property, and contract rights used in the business of designing,
developing, manufacturing, distributing and selling the Windows-based Terminals
marketed under the ThinSTAR brand name. The Company will continue to offer the
ThinSTAR product line in Europe, the Middle East and Africa (“EMEA”) under an
OEM agreement with Neoware. It will also continue to provide worldwide service
and support for the ThinSTAR product line.
The sale of the ThinSTAR product line and the alliance with Neoware will
allow the Company to focus on its European operations, worldwide NCD ThinPATH
software and NCD NC900 businesses while providing additional cash
resources to strengthen its financial position. Proceeds from the sale were
used to repay and conclude the Company’s line of credit with SVB. An additional $1.5 million of the proceeds
was paid to SCI as the initial payment in a debt restructuring agreement, which
is currently being finalized. See Note 6 for additional information.
In March 2001, a
customer, Pencom Systems, Inc., filed a lawsuit against the Company in the
Superior Court of the State of California, County of Santa Clara, alleging
among other things, that the products the Company delivered pursuant to its
sales contract did not perform as required by the contract. Their complaint
sought monetary damages in excess of $250,000.
In January 2002, the Company entered into a settlement agreement
pursuant to which the Company will pay Pencom $90,000 pursuant to a promissory
note, payable over 18 months beginning in April 2002. The note bears no interest and is recorded in the accompanying
consolidated financial statements as of December 31, 2001. As part of the
settlement, the Company also agreed to issue to Pencom 75,000 shares of its
Common Stock.
Quarterly
Financial Data
(Unaudited - in thousands, except per share data)
(1) Loss per share is computed
independently for each quarter presented. The sum of the quarterly loss in 2001
and 2000 do not equal the total computed for the year because the weighted
average shares are specific to each quarter.
PART
III Item 10.
Item 10. Directors and
Executive Officers of the Registrant.
Information with respect
to the Company’s directors is incorporated by reference to the information
under the caption “Election of Directors - Nominees” in the Company’s Proxy
Statement.
Information with respect
to the Company’s executive officers is set forth in “Item 1. Business -
Executive Officers” in this Annual Report on Form 10-K.
Information required by
Item 405 of Regulation S-K is incorporated by reference to the information
under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” in
the Company’s Proxy Statement.
Item 11.
Item 11. Executive
Compensation.
The information required
by this Item is incorporated by reference to the information under the captions
“Executive Compensation - Summary of Cash and Certain other Compensation,”
Executive Compensation - Stock Option Grants, “ “Executive Compensation -
Option Exercises and Year-End Holdings,” Executive Compensation - Compensation
Directors” and “Executive Compensation - Employment, Severance and Change of
Control Arrangements’ contained in the Company’s Proxy Statement.
Item 12.
Item 12. Security
Ownership of Certain Beneficial Owners and Management.
The information required by
this Item is incorporated by reference to the information under the caption
“Principal Shareholders and Share Ownership by Management” contained in the
Company’s Proxy Statement.
Item 13.
Item 13. Certain
Relationships and Related Transactions
The information required
by this Item is incorporated by reference to the information under the caption
“Executive Compensation - Employment, Severance and Change of Control
Agreements” and “Certain Transactions” contained in the Company’s Proxy
Statement.
PART
IV Item 14.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K.
(a) The following documents are filed as a part
of this Report:
(1) Financial Statements:
See Index to
Consolidated Financial Statements at page 24 of this Report.
(2) Financial Statement Schedule:
All other financial statement schedules are omitted
because they are not applicable or not required, or because the required
information is included in the Consolidated Financial Statements and Notes
thereto which are included herein.
(3) Exhibits:
The exhibits listed on the accompanying Exhibit Index
are filed as part of, or are incorporated by reference into, this Report.
(b) Reports on Form 8-K during the quarter
ended December 31, 2001:
On December 13, 2001, the Company filed a Report on
Form 8-K reporting the resignation of Rudolph G. Morin as its Chief Executive
Officer and the appointment of Guenther Pfaff as acting President and Chief
Executive Officer.
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed
on its behalf by the undersigned, thereunto duly authorized.
Dated: April 29, 2002
Pursuant to the requirements of the Securities Exchange Act of 1934,
this Report has been signed by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature
Title
Date
/s/
Guenther Pfaff
President,
Chief Executive Officer and Director
April
29, 2002
Guenther
Pfaff
(Principal
Executive Officer)
/s/
Rudolph G. Morin
Chief
Financial Officer, Secretary and Director
April
29, 2002
Rudolph
G. Morin
(Principal
Financial and Accounting Officer)
/s/
Robert G. Gilbertson
Chairman
of the Board of Directors
April
29, 2002
Robert
G. Gilbertson
/s/
Douglas Klein
Director
April
29, 2002
Douglas
Klein
/s/
Michael Ledbetter
Director
April
29, 2002
Michael
Ledbetter
INDEX TO EXHIBITS
* Constitutes a management contract or compensatory plan
or arrangement required to be filed pursuant to Item 14(c) of
Form 10-K.
 Confidential treatment has
been requested as to a portion of this exhibit.
(1) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 8-A Registration Statement filed on
January 14, 1999.
(2) Incorporated by reference to identically numbered
exhibit to Registrant’s Form S-1 Registration Statement (No. 33-47246)
which became effective on June 4, 1992 (the “1992 Registration
Statement”).
(3) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 1993.
(4) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 1994.
(5) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 1995.
(6) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 1996.
(7) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended December 31,
1997.
(8) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-Q Report for the quarter ended
March 31, 1998.
(9) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 1998.
(10) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 1999.
(11) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-Q Report for the quarter ended
March 31, 2000.
(12) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-Q Report for the quarter ended
September 30, 2000.
(13) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-K Report for the year ended
December 31, 2000.
(14) Incorporated by reference to identically numbered
exhibit to Registrant’s Form 10-Q Report for the quarter ended June 30,
2001.
(15) Incorporated by reference to identically numbered exhibit
to Registrant’s Form 10-Q Report for the quarter ended September 30,
2001.
(16) Incorporated by reference to exhibit number 4.3 to
Registrant’s Form 10-Q Report for the quarter ended September 30,
2001.