UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ______________ to ______________
Commission File Number 0-18672
ZOOM TECHNOLOGIES, INC.
----------------------
(Exact Name of Registrant as Specified in its Charter)
Delaware 51-0448969
-------- ----------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
207 South Street, Boston, Massachusetts 02111
--------------------------------------- -----
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (617) 423-1072
--------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). YES [ ] NO [X]
The number of shares outstanding of the registrant's Common Stock, $.01 Par
Value, as of November 3, 2004 was 8,883,466 shares.
ZOOM TECHNOLOGIES, INC. AND SUBSIDIARY
INDEX
Part I. Financial Information Page
Item 1. Consolidated Balance Sheets as of September 30, 2004
and December 31, 2003 (unaudited) 3
Consolidated Statements of Operations for the three and nine
months ended September 30, 2004 and 2003
(unaudited) 4
Consolidated Statements of Cash Flows for the nine
months ended September 30, 2004 and 2003
(unaudited) 5
Notes to Consolidated Financial Statements 6-8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9-20
Item 3. Quantitative and Qualitative Disclosures About Market
Risk 20
Item 4. Controls and Procedures 20
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K 21
Signatures 22
Exhibit Index 23
PART I - FINANCIAL INFORMATION
ZOOM TECHNOLOGIES, INC. AND SUBSIDIARY
Consolidated Balance Sheets
(unaudited)
September 30, 2004 December 31, 2003
------------------ -----------------
Assets
Current assets:
Cash and cash equivalents $ 10,339,816 $ 9,904,384
Accounts receivable, net of reserves for doubtful
accounts, returns, and allowances of $1,674,208 at
September 30, 2004 and $1,790,205 at December 31, 2003 2,698,792 3,944,699
Inventories 5,369,610 4,771,216
Prepaid expenses and other current assets 358,068 434,694
---------- ----------
Total current assets 18,766,286 19,054,993
Property, plant and equipment, net 2,733,422 2,918,985
---------- ----------
Total assets $ 21,499,708 $ 21,973,978
========== ==========
Liabilities and Stockholders' Equity
Current liabilities:
Current portion of long-term debt $ 230,891 $ 223,833
Accounts payable 1,770,176 2,172,028
Accrued expenses 1,163,559 1,011,910
---------- ----------
Total current liabilities 3,164,626 3,407,771
Long-term debt, less current portion 4,926,368 5,095,986
---------- ----------
Total liabilities 8,090,994 8,503,757
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Stockholders' equity:
Common stock, $0.01 par value. Authorized 25,000,000 shares;
issued 8,882,041 shares and outstanding 8,873,641 shares
at September 30, 2004 and issued 8,084,616 shares and
outstanding 8,076,216 shares at December 31, 2003 88,820 80,846
Additional paid-in capital 30,513,478 28,500,421
Retained earnings (accumulated deficit) (17,604,149) (15,438,333)
Accumulated other comprehensive income (loss) 417,887 334,609
Treasury stock, at cost (7,322) (7,322)
---------- ----------
Total stockholders' equity 13,408,714 13,470,221
---------- ----------
Total liabilities and stockholders' equity $ 21,499,708 $ 21,973,978
========== ==========
See accompanying notes to consolidated financial statements.
ZOOM TECHNOLOGIES, INC. AND SUBSIDIARY
Consolidated Statements of Operations
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------- ---------------------------
2004 2003 2004 2003
---- ---- ---- ----
Net sales $ 7,142,608 $ 9,103,652 $ 23,025,683 $ 24,178,829
Costs of goods sold 5,645,772 6,145,972 16,966,396 17,316,554
------------ ------------ ------------ ------------
Gross profit 1,496,836 2,957,680 6,059,287 6,862,275
Operating expenses:
Selling 1,114,928 1,376,364 3,511,959 3,965,098
General and administrative 780,681 611,753 2,797,396 2,412,588
Research and development 721,942 659,806 2,065,603 2,154,979
------------ ------------ ------------ ------------
Total operating expenses 2,617,551 2,647,923 8,374,958 8,532,665
------------ ------------ ------------ ------------
Operating income (loss) (1,120,715) 309,757 (2,315,671) (1,670,390)
Other income (expense):
Interest income 40,241 17,017 89,848 61,601
Interest (expense) (52,950) (52,672) (159,109) (147,936)
Other, net 105,035 131,941 219,116 332,085
------------ ------------ ------------ ------------
Total other income (expense), net 92,326 96,286 149,855 245,750
------------ ------------ ------------ ------------
Income (loss) before income tax
expense (1,028,389) 406,043 (2,165,816) (1,424,640)
Income tax expense (benefit) - - - -
------------ ------------ ------------ ------------
Net income (loss) $ (1,028,389) $ 406,043 $ (2,165,816) $( 1,424,640)
============ ============ ============ ============
Earnings (loss) per common share:
Basic $ (.12) $ .05 $ (.26) $ (.18)
============ ============ ============ ============
Diluted $ (.12) $ .05 $ (.26) $ (.18)
============ ============ ============ ============
Weighted average common and common equivalent shares:
Basic 8,791,016 7,857,117 8,486,167 7,854,315
============ ============ ============ ============
Diluted 8,791,016 8,081,312 8,486,167 7,854,315
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
ZOOM TECHNOLOGIES, INC. AND SUBSIDIARY
Consolidated Statements of Cash Flows
(Unaudited)
Nine Months Ended
September 30,
2004 2003
-------------- --------------
Cash flows from operating activities:
Net income (loss) $ (2,165,816) $ (1,424,640)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Non-operating gain on refund of deposit - (40,237)
Depreciation and amortization 330,794 492,451
Changes in operating assets and liabilities:
Accounts receivable, net 1,331,756 (636,410)
Inventories (598,394) 2,983,434
Prepaid expenses and other assets 76,626 464,355
Accounts payable and accrued expenses (250,203) (578,329)
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Net cash provided by (used in) operating activities (1,275,237) 1,260,624
---------- ---------
Cash flows from investing activities:
Additions to property, plant and equipment (145,231) (24,670)
---------- ---------
Net cash provided by (used in) investing activities (145,231) (24,670)
---------- ---------
Cash flows from financing activities:
Principal payments on long-term debt (162,560) (158,893)
Proceeds from exercise of stock options 2,021,031 75,717
Purchase of Treasury stock - (5,126)
---------- ---------
Net cash provided by (used in) financing activities 1,858,471 (88,302)
---------- ---------
Effect of exchange rate changes on cash and cash equivalents (2,571) 910
---------- ---------
Net increase (decrease) in cash and cash equivalents 435,432 1,148,562
Cash and cash equivalents - beginning of period 9,904,384 7,612,274
---------- ---------
Cash and cash equivalents - end of period $ 10,339,816 $ 8,760,836
========== =========
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 159,109 $ 163,978
========= =========
Income taxes $ - $ -
========= =========
See accompanying notes to consolidated financial statements.
ZOOM TECHNOLOGIES, INC. AND SUBSIDIARY
Notes to Consolidated Financial Statements
(Unaudited)
(1) Summary of Significant Accounting Policies
(a) Basis of Presentation and Principles of Consolidation
The consolidated financial statements of Zoom Technologies, Inc. (the
"Company") presented herein have been prepared pursuant to the rules of the
Securities and Exchange Commission for quarterly reports on Form 10-Q and do not
include all of the information and footnote disclosures required by accounting
principles generally accepted in the United States of America. These statements
should be read in conjunction with the audited consolidated financial statements
and notes thereto for the year ended December 31, 2003 included in the Company's
2003 Annual Report on Form 10-K.
The consolidated balance sheet as of September 30, 2004, the consolidated
statements of operations for the three months and nine months ended September
30, 2004 and 2003, and the consolidated statements of cash flows for the nine
months ended September 30, 2004 and 2003 are unaudited, but, in the opinion of
management, include all adjustments (consisting of normal, recurring
adjustments) necessary for a fair presentation of results for these interim
periods.
The consolidated financial statements include the accounts and operations
of the Company's wholly-owned subsidiary, Zoom Telephonics, Inc., a Delaware
corporation. All significant intercompany accounts and transactions have been
eliminated in consolidation.
The results of operations for the periods presented are not necessarily
indicative of the results to be expected for the entire year ending December 31,
2004.
(b) Stock-Based Compensation
The Company accounts for its stock option plans under the recognition and
measurement principles of Accounting Principles Board (APB) Opinion No. 25,
"Accounting for Stock Issued to Employees, and Related Interpretations." No
stock-based compensation expense is reflected in net income (loss) for these
plans, as all options granted under these plans had an exercise price equal to
the market value of the underlying common stock on the date of grant. The
following table illustrates the effect on net income (loss) and earnings (loss)
per share if the Company had applied the fair value recognition provisions of
Financial Accounting Standards Board (FASB) Statement No. 123, "Accounting for
Stock Based Compensation", to stock based compensation:
FOR THE THREE MONTHS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
(UNAUDITED) (UNAUDITED)
--------------------------- ---------------------------
2004 2003 2004 2003
------------ ----------- ------------ -----------
Net income (loss), as reported......... $(1,028,389) $ 406,043 $(2,165,816) $(1,424,640)
Deduct: Total stock-based employee
compensation expense determined under
fair value based method for all awards,
net of related tax effects............ (139,829) (43,069) (486,421) (265,873)
------------ ------------ ------------ ------------
Pro forma net income (loss)............ $(1,168,218) $ 362,974 $(2,652,237) $(1,690,513)
============ ============ ============ ============
Earnings (loss) per share:
Basic and diluted - as reported........ $ (.12) $ 0.05 $ (0.26) $ (0.18)
Basic and diluted - pro forma.......... $ (.13) $ 0.05 $ (0.31) $ (0.22)
(c) RECENTLY ISSUED ACCOUNTING STANDARDS
In October 2004, the FASB indicated that they will require stock-based
employee compensation to be recorded as a charge to earnings pursuant to an
exposure draft they have published for comment, which they believe will become
effective for awards that are granted in interim or annual periods beginning
after June 15, 2004. The Company will continue to monitor the progress on the
issuance of this standard and the impact it may have on the Company's
consolidated financial statements.
(2) Liquidity
On December 31, 2003 Zoom had cash and cash equivalents of approximately
$9.9 million. On September 30, 2004 Zoom had cash and cash equivalents of
approximately $10.3 million. Currently the Company does not have a debt facility
from which it can borrow. The Company is currently reviewing a non-binding
proposal from a lender for a one-year $2 million line of credit. Should Zoom
decide to proceed with this facility, it cannot assure that the debt facility
will ultimately be available on terms acceptable to the Company, if at all, or
that the parties will be able to agree on definitive documentation.
To conserve cash and manage its liquidity, the Company implemented expense
reductions throughout the past three years. The employee headcount was 185 at
December 31, 2002, 159 at December 31, 2003 and 155 at September 30, 2004. The
Company intends to continue to assess its cost structure as it relates to its
revenues and cash position in 2004 and thereafter, and may make further
reductions if these actions are deemed necessary.
Management believes it has sufficient resources to fund its planned
operations over the next 12 months. However, if over time the Company continues
to incur losses or does not raise capital, the Company's longer-term ability to
continue as a going concern and achieve its intended business objectives could
be adversely affected. See "Risk Factors" below, for further information with
respect to events and uncertainties that could harm the Company's business,
operating results, and financial condition.
(3) Earnings Per Share
The reconciliation of the numerators and denominators of the basic and
diluted net earnings (loss) per share computations for the Company's reported
net income (loss) is as follows:
Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- -------------------------------
2004 2003 2004 2003
------------ ------------- ---------- -----------
Basic:
Net income (loss) $(1,028,389) $ 406,043 $(2,165,816) $(1,424,640)
Weighted average shares
outstanding 8,791,016 7,857,117 8,486,167 7,854,315
----------- ----------- ----------- -----------
Net earnings (loss) per share $ (.12) $ .05 $ (.26) $ (.18)
=========== =========== =========== ===========
Diluted:
Net income (loss) $(1,028,389) $ 406,043 $(2,165,816) $(1,424,640)
Weighted average shares
outstanding 8,791,016 7,857,117 8,486,167 7,854,315
Net effect of dilutive stock
options based on the
Treasury stock method using
average market price -- 224,195 -- --
Weighted average shares
outstanding 8,791,016 8,081,312 8,486,167 7,854,315
----------- ----------- ----------- -----------
Net earnings (loss) per share $ (.12) $ .05 $ (.26) $ (.18)
=========== =========== =========== ===========
Potential common shares for which inclusion would have the effect of
increasing diluted earnings per share (i.e., antidilutive) are excluded from the
computations. Options to purchase 1,054,050 and 1,478,600 shares of common stock
at September 30, 2004 and 2003, respectively, were outstanding but not included
in the computations of diluted earnings per share for the three months ended
September 30, 2004 and the nine months ended September 30, 2004 and 2003, as
their effect would be antidilutive.
(4) Inventories
Inventories consist of the following: September 30, 2004 December 31, 2003
------------------ -----------------
Raw materials $ 2,370,156 $ 1,754,850
Work in process 1,493,648 639,425
Finished goods 1,505,806 2,376,941
---------- ----------
$ 5,369,610 $ 4,771,216
========== ==========
During the three months ended September 30, 2004 and September 30, 2003 the
Company recorded no lower of cost or market write-downs related to broadband and
wireless inventory. During the nine months ended September 30, 2004 and
September 30, 2003, the Company recorded lower of cost or market write-downs of
$0 and $495,099, respectively, related to broadband and wireless inventory.
(5) Comprehensive Income (Loss)
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income" establishes rules for the reporting and display of
comprehensive income (loss) and its components; however, it has no impact on the
Company's net income (loss). SFAS No. 130 requires all changes in equity from
non-owner sources to be included in the determination of comprehensive income
(loss).
The components of comprehensive income (loss), net of tax, are as follows:
Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- -------------------------------
2004 2003 2004 2003
------------ ------------ ------------ ------------
Net income (loss) $(1,028,389) $ 406,043 $(2,165,816) $(1,424,640)
Foreign currency translation
adjustment (12,779) 90,724 83,278 110,527
----------- ----------- ----------- -----------
Comprehensive income (loss) $(1,041,168) $ 496,767 $(2,082,538) $(1,314,113)
=========== =========== =========== ===========
At September 30, 2004 and December 31, 2003, Accumulated other
comprehensive income (loss) as reported on the Company's balance sheet is
comprised solely of foreign currency translation adjustments.
(6) Long-Term Debt
On January 10, 2001 the Company obtained a mortgage loan for $6 million
secured by the real estate property located at 201 and 207 South Street, Boston,
Massachusetts. This is a 20-year direct reduction mortgage with a five-year
balloon payment due January 10, 2006. As of September 30, 2004, our indebtedness
was $5.2 million. This real estate was appraised on July 24, 2002 at $9.3
million and generally the real estate market in Boston has remained relatively
flat. The interest rate on the mortgage is fixed for one year, based on the one
year Federal Home Loan Bank rate plus 2.5% per annum. The interest rate is
adjusted on January 10th of each calendar year commencing on January 10, 2002.
Zoom's interest rate was adjusted to 3.99% on January 10, 2004.
(7) Commitments
During the nine month period ended September 30, 2004 there were no
material changes to the capital commitments and contractual obligations of the
Company from those disclosed in the Form 10-K for the year ended December 31,
2003.
(8) Segment and Geographic Information
The Company's operations are classified into one reportable segment. The
Company's United States and international net sales for the three and nine
months ended September 30, 2004 and 2003, respectively, were comprised as
follows:
Three Months Three Months Nine Months Nine Months
Ended % of Ended % of Ended % of Ended % of
Sept 30, 2004 Total Sept 30, 2003 Total Sept 30, 2004 Total Sept 30, 2003 Total
------------- ----- ------------- ----- ------------- ----- ------------- -----
United States $ 3,321,564 46% $ 5,526,123 61% $10,938,878 48% $14,423,455 60%
International-UK 1,835,555 26% 2,805,007 31% 6,219,888 27% 7,415,266 30%
Other International 1,985,489 28% 772,522 8% 5,866,917 25% 2,340,108 10%
----------- ---- ----------- ---- ----------- ---- ----------- ----
Total $ 7,142,608 100% $ 9,103,652 100% $23,025,683 100% $24,178,829 100%
=========== ==== =========== ==== =========== ==== =========== ====
(9) Customer Concentrations
Three customers accounted individually for more than 10% of net sales in
the first nine months of 2004 and collectively for approximately 36% of net
sales in the first nine months of 2004. In the third quarter of 2004, these same
three customers accounted for approximately 34% of net sales. Of the three
customers that accounted individually for more than 10% of net sales, one is
included in each of these Footnote (8) geographic categories: Other
International, the UK, and the United States. Our net sales and operating income
could fluctuate significantly due to, among other things, new product
introductions, old product phase-outs, approvals and delays in the deployment by
service providers of ADSL and cable service in these countries, changes in
political or economic conditions, or the loss, reduction of business, or less
favorable terms for any of our significant customers.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis should be read in conjunction with
the safe harbor statement and the risk factors contained herein and set forth in
our Annual Report on Form 10-K for the year ended December 31, 2003. Readers
should also be cautioned that results of any reported period are often not
indicative of results for any future period.
OVERVIEW
Zoom primarily sells communication products, principally dial-up and ADSL
modems, to retailers, distributors, Internet Service Providers (ISPs), and
Original Equipment Manufacturers (OEMs). We sell our products to these customers
through our direct sales force and through commissioned sales representatives.
The majority of our employees work in Boston, Massachusetts, either in our
corporate-owned headquarters or our leased production facility. We also have a
sales and support office in the United Kingdom and a support center in Boca
Raton, Florida.
Historically most of Zoom's sales have resulted from the after-market sale
of dial-up modems through retailers to end-users for use in the home or
business. These end-user customers typically either wanted to add a modem to a
computer that did not have a modem, needed to replace a defective modem, or
wanted to upgrade to a modem with a higher speed or more advanced features.
Since the vast majority of retail personal computers now come with 56K modems
installed, and since 56K is the highest speed dial-up modem available, the
upgrade market has steadily declined over the past few years. This decline,
coupled with competition from broadband access devices like ADSL and cable
modems and lower selling prices for dial-up modems, has resulted in a
corresponding decline in Zoom's dial-up modem sales.
As a vehicle for potential growth, Zoom has made significant investments in
broadband and other technologies. The broadband market has grown rapidly over
the past few years and is expected to continue to grow quickly. So far Zoom has
been more successful in the ADSL modem market than in the cable modem market.
Zoom's product philosophy emphasizes quality, reliability, and low cost. We
therefore continually seek to optimize our product designs and lower our cost of
goods through intelligent design, aggressive outsourcing, and the use of new
technology. Most of our products use modem or other chipsets purchased from
outside vendors. This allows us to take advantage of the extensive research and
development capabilities and competitiveness of our chipset suppliers and
reduces our development time and the associated costs and risks of bringing new
products to market. As a result of this approach, Zoom is able to quickly
develop new and innovative products while keeping its research and development
expense relatively small as a percentage of sales.
Zoom also outsources most of its board-level manufacturing, allowing us to
take advantage of the competitive worldwide market for contract manufacturing
services. This contract manufacturing frees us from the capital equipment cost
and the inflexibility, expense, and management burden associated with
maintaining a dedicated workforce for electronics assembly operations.
Packaging, testing and shipping are typically done at our Boston, Massachusetts
manufacturing facility. This helps to reduce shipping costs from our contract
assemblers and gives us the opportunity to monitor manufacturing quality and to
efficiently customize products for our customers.
In recent years Zoom has benefited from purchase discount programs with our
major chipset suppliers. These agreements have resulted in reduced unit costs
for our dial-up modems. From the first quarter of 2002 through the third quarter
of 2004, we realized significant benefits to our Cost of Goods Sold as a result
of these agreements. The benefit to Cost of Goods Sold from these purchase
discount agreements will end in the fourth quarter of 2004. Zoom hopes to
replace these agreements, but our ability to negotiate favorable terms will
depend on a number of factors including our projected volumes, our ability to
reach those volumes, and the competitive landscape in the chipset market. The
failure to obtain new favorable discount programs could increase our Cost of
Goods Sold and could have a significant adverse effect on the gross profit of
our products that use chipsets covered by our previous agreements.
Our net sales for the third quarter of 2004 declined 21.5% from the third
quarter of 2003. Our net sales for the first and second quarters of 2004
increased 3.4% and 7.4% from the first and second quarters of 2003,
respectively. In all three quarters our ADSL modem sales increased as compared
to the previous year's corresponding quarter, and our dial-up modem sales
declined. While we remain optimistic about continued success in the ADSL modem
area, our ADSL sales are currently concentrated with a small number of
customers, so there is no predictable uniformity for our quarterly ADSL sales
and our sales may fluctuate significantly. We are continuing our efforts to
expand our ADSL customer base and to use our strength in ADSL to expand our ADSL
product line and enter new markets. Late in the third quarter of 2004 we
introduced a new product which incorporates "Voice over Internet Protocol" or
"VoIP" capability into an ADSL modem. We also introduced our own VoIP (Voice
over Internet Protocol) telephone service called "Global Village(TM)" to offer
free IP-to-IP phone service, low-cost calling to virtually anyone worldwide, and
the option for home users of unlimited fixed price domestic calling.
During the past few years, to conserve cash and manage our liquidity we
implemented expense reductions, including reductions in employee headcount. Our
employee headcount was 185 at December 31, 2002 which was reduced to 159 at
December 31, 2003 and 155 at September 30, 2004. We intend to continue to assess
our cost structure as it relates to our revenues and cash position in 2004, and
may make further reductions if these actions are deemed necessary.
Our cash and cash equivalents balance at September 30, 2004 was $10.3
million, up from $9.9 million at December 31, 2003. This improvement resulted
primarily from cash received from the exercise of employee stock options,
partially offset by a reduction of cash from operating activities.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The following is a discussion of what we view as our more significant
accounting policies and estimates. These policies and estimates are also
described in the notes to our audited consolidated financial statements in our
Annual Report on Form 10-K for the fiscal year ended December 31, 2003. As
described below, management judgments and estimates must be made and used in
connection with the preparation of our consolidated financial statements. Where
noted, material differences could result in the amount and timing of our net
sales, costs, and expenses for any period if we made different judgments or used
different estimates.
REVENUE (NET SALES) RECOGNITION. We currently sell hardware products to our
customers. These products include dial-up modems, embedded modems, cable modems,
PC cameras, ISDN and ADSL modems, telephone dialers, and wireless and wired
networking equipment. While we generally have not sold software or services, we
now offer phone service to VoIP customers under our Global Village brand. We
currently derive our net sales primarily from the sale of hardware products to
four types of customers:
o computer product retailers,
o computer product distributors,
o Internet Service Providers (ISPs), and
o original equipment manufacturers (OEMs).
We recognize net sales for all four types of customers at the point when
the customer takes legal ownership of the delivered products. Legal ownership
passes from Zoom to the customer based on the contractual FOB point specified in
signed contracts and purchase orders, which are both used extensively. Many of
our customer contracts or purchase orders specify FOB destination. We verify the
delivery date on all significant FOB destination shipments made during the last
10 business days of each quarter.
Our net sales to computer products retailers are reduced by certain events
that are characteristic of sales of hardware to computer products retailers.
These events are product returns, certain sales and marketing incentives, price
protection refunds, and consumer and in-store mail-in rebates. Each of these is
accounted for as a reduction to net sales based on detailed management
estimates, which are reconciled to actual customer or end-consumer credits on a
monthly or quarterly basis.
Product Returns. Products are returned by retail stores and distributors
for inventory balancing, contractual stock rotation privileges, and warranty
repair or replacements. We estimate the sales and cost value of expected future
product returns of previously sold products. Our estimates for product returns
are based on recent historical trends plus estimates for returns prompted by,
among other things, new product introductions, announced stock rotations and
announced customer store closings, etc. Management reviews historical returns,
current economic trends, and changes in customer demand and acceptance of our
products when estimating sales return allowances. The estimate for future
returns is recorded as a reserve against accounts receivable, a reduction of net
sales, and the corresponding change to inventory and cost of sales. The
relationship of quarterly physical product returns to quarterly product sales
has remained relatively stable for many years.
Price Protection Refunds. We have a policy of offering price protection to
certain of our retailer and distributor customers for some or all their
inventory. Under the price protection policies, when we reduce our prices for a
product, the customer receives a credit for the difference between the original
purchase price and our reduced price for their unsold inventory of that product.
Our estimates for price protection refunds are based on a detailed understanding
and tracking by customer and by sales program. Estimated price protection
refunds are recorded in the same period as the announcement of a pricing change.
Information from customer inventory-on-hand reports or from direct
communications with the customers is used to estimate the refund, which is
recorded as a reduction of net sales and a reserve against accounts receivable.
In the third quarter of 2004, we recorded a price protection charge against
sales in the UK of $.25 million, primarily the result of price reductions on
dial-up modems.
Sales and Marketing Incentives. Many of our retail customers require sales
and marketing support funding, usually set as a percentage of our sales in their
stores. The percentages are taken from our customer contracts.
Consumer Mail-In and In-Store Rebates and Store Rebates. Our estimates for
consumer mail-in rebates are based on a detailed understanding and tracking by
customer and by sales program, supported by actual rebate claims processed by
the rebate redemption centers plus an accrual for an estimated lag in processing
at the redemption centers. Our estimates for store rebates are comprised of
actual credit requests from the eligible customers. The estimate for mail-in and
store rebates is recorded as a reserve against accounts receivable and a
reduction of net sales in the same period that the rebate obligation was
triggered.
To ensure that the sales, discounts, and marketing incentives are recorded
in the proper period, we perform extensive tracking and documenting by customer,
by period, and by type of marketing event. This tracking includes reconciliation
to the accounts receivable records for deductions taken by our customers for
these discounts and incentives.
ACCOUNTS RECEIVABLE VALUATION. We establish accounts receivable reserves
equal to the above-discussed net sales adjustments for estimates of product
returns, price protection refunds, and consumer and store rebates. These
reserves are drawn down as actual credits are issued to the customer's accounts.
Our bad-debt write-offs have not been significant during the last three
years.
INVENTORY VALUATION AND COST OF GOODS SOLD. Inventory is valued on a
standard cost basis where the material standards are periodically updated for
current material pricing. Reserves for obsolete inventory are established by
management based on usability reviews performed each quarter. Our reserves
against the inventory of a particular product range from 0% to 100%, based on
management's estimate of the probability that the material will not be consumed.
Our valuation process is to compare our cost to the selling prices each quarter,
less cost to sell or dispose, and if the selling price of a product is less than
the "if completed" cost of our inventory, we write-down the inventory on a
"lower of cost or market" basis.
In 2002 we entered into supply arrangements with suppliers of some
components that include price and other concessions, including no-charge
components, for meeting certain purchase requirements or commitments. Under one
of these arrangements, we committed to purchase approximately $8.0 million of
components over a period of approximately 30-months that commenced on January 1,
2002, provided that those components were offered at competitive terms and
prices. We believe that at September 30, 2004, we are on track to meet the $8.0
million commitment in 2004. In connection with this arrangement, we became
entitled to receive at least $3.0 million of no-charge components, based upon
the supplier's market price for the components in late 2001 and early 2002, and
other pricing concessions based on our purchase volumes. We received $1.2
million of these no-charge components in the fourth quarter of 2001. We received
the remainder of the no-charge components in the first quarter of 2002. The
favorable impact to our statement of operations has been calculated as a
purchase discount over the estimated total number of components acquired through
the approximate 30 month supply agreement and recognized on a delayed basis as
the products employing the acquired components involved in the supply
arrangement are sold. This method of accounting has been consistent each year.
The benefit to our statement of operations for the delayed recognition of the
$3.0 million of no-charge components is expected to end in the fourth quarter of
2004.
VALUATION AND IMPAIRMENT OF DEFERRED TAX ASSETS. As part of the process of
preparing our consolidated financial statements we are required to estimate our
income tax expense and deferred income tax position. This process involves the
estimation of our actual current tax exposure together with assessing temporary
differences resulting from differing treatment of items for tax and accounting
purposes. These differences result in deferred tax assets and liabilities, which
are included in our consolidated balance sheet. We must then assess the
likelihood that our deferred tax assets will be recovered from future taxable
income and to the extent we believe that recovery is not likely, we must
establish a valuation allowance. To the extent we establish a valuation
allowance or increase this allowance in a period, we must include an expense
within the tax provision in the statement of operations.
Significant management judgment is required in determining our provision
for income taxes and any valuation allowance recorded against our net deferred
tax assets. At September 30, 2004, we currently have a 100% valuation allowance
against our deferred tax assets. It is management's estimate that, after
considering all the available objective evidence, historical and prospective,
with greater weight given to historical evidence, it is more likely than not
that these assets will not be realized. If we establish a record of continuing
profitability, at some point we will be required to reverse the valuation
allowance and restore the deferred asset value to the balance sheet, recording
an equal income tax benefit which will increase net income in that period(s).
VALUATION OF INVESTMENT IN AFFILIATES. We have a minority interest in a
privately held software development company, which we have been accounting for
under the equity method of accounting. Under the equity method of accounting,
our investment is increased or decreased, not below zero, based upon our
proportionate share of the net earnings or losses of the investee company. We
made our original investment in 1999, at the time of the company's formation,
and have subsequently made additional investments which have maintained our 30%
ownership interest. As a result of the losses incurred by the investee
subsequent to our investments, our investment balance was reduced to zero during
2002. We discontinued applying the equity method when the investment was reduced
to zero and did not provide for additional losses, as we have not guaranteed
obligations of the investee and are not committed to provide further financial
support. The investee has recently reported to us that it is beginning to
achieve profitability and that its prospects have been improving in recent
months. We have requested that management of the investee provide us with
audited financial statements in the near term to allow us to verify this
financial information. If the investee reports net income in future periods, we
will resume applying the equity method only after our share of that net income
equals the share of net losses not recognized during the period the equity
method was suspended.
Results of Operations
SUMMARY. Net sales were $7.1 million for the third quarter ended September
30, 2004, down 21.5% from $9.1 million for the third quarter of 2003. We had a
net loss of $1.0 million for the third quarter of 2004, compared to net income
of $.4 million for the third quarter of 2003. Loss per diluted share was $0.12
for the third quarter of 2004 compared to net income per diluted share of $.05
for the third quarter of 2003. Net sales were $23.0 million for the nine months
ended September 30, 2004, down 4.8% from $24.2 million for the nine months ended
September 30, 2003. We had a net loss of $2.2 million for the nine months ended
September 30, 2004, compared to a net loss of $1.4 million for the nine months
ended September 30, 2003. Loss per diluted share for the nine month period in
2004 was $.26 compared to a loss per diluted share of $.18 for the nine month
period in 2003.
NET SALES. Our net sales were $7.1 million for the third quarter ended
September 30, 2004, down 21.5% from $9.1 million for the third quarter of 2003.
Net sales were $23.0 million for the nine months ended September 30, 2004, down
4.8% from $24.2 million for the nine months ended September 30, 2003. The $2.0
million net sales decrease for the third quarter of 2004 from the third quarter
of 2003 was primarily due to a $2.9 million decrease in dial-up modem sales, a
$.4 million decrease in cable modem and other product sales, and a $1.3 million
increase in ADSL modem sales. The $1.2 million net sales decrease for the first
nine months of 2004 from the first nine months of 2003 was primarily due to a
decrease in dial-up modem sales of $5.3 million, a decrease of cable modem and
other product sales of $1.1 million, and an increase of $5.2 million in ADSL
modem sales. Dial-up modem sales declined due to a decrease of both dial-up
modem unit sales and, to a lesser extent, declining dial-up modem average
selling prices. Dial-up modem unit sales declined primarily as a result of the
loss of a major retail customer, Best Buy, and the continued decline of the
dial-up modem after-market, due in part to the trend toward faster connection
speeds and broadband access products. The increase in ADSL modem sales was
primarily due to an increase in unit sales in international markets, which was
partially offset in the period by lower selling prices as a result of
competitive pressures.
Our net sales in the United States declined from $5.5 million in the third
quarter of 2003 to $3.3 million in the third quarter of 2004. Our net sales in
the United States declined from $14.4 million in the first nine months of 2003
to $10.9 million in the first nine months of 2004. Our international net sales
increased from $3.6 million in the third quarter of 2003 to $3.8 million in the
third quarter of 2004. Our international net sales increased from $9.8 million
in the first nine months of 2003 to $12.1 million in the first nine months of
2004. These changes reflect our declining sales of dial-up modems worldwide, our
relatively strong ADSL sales in the international markets, and the positive
currency impact on a significant portion of our international sales. The
positive currency impact on our net sales was $.2 million for the third quarter
of 2004 as measured against the third quarter of 2003, and $.7 million for the
first nine months of 2004 as measured against the first nine months of 2003.
Three customers accounted individually for more than 10% of net sales in
the first nine months of 2004 and collectively for approximately 36% of total
net sales in the first nine months of 2004. In the third quarter of 2004, these
same three customers accounted for approximately 34% of net sales. Of the three
customers that accounted individually for more than 10% of net sales, one is
included in each of these Footnote (8) geographic categories: Other
International, the UK, and the United States. Our net sales and operating income
could fluctuate significantly due to, among other things, approvals and delays
in the deployment by service providers of ADSL and cable service in these
countries, changes in political or economic conditions, or the loss, reduction
of business, or less favorable terms for any of our significant customers.
GROSS PROFIT. Our gross profit decreased to $1.5 million for the third
quarter of 2004 from $3.0 million for the third quarter of 2003. Our gross
profit as a percentage of net sales was 21.0% for the third quarter of 2004
compared to 32.5% for the third quarter of 2003. Our gross profit decreased to
$6.1 million for the first nine months of 2004 from $6.9 million for the first
nine months of 2003. Our gross profit as a percentage of net sales reduced to
26.3% for the first nine months of 2004 from 28.4% for the first nine months of
2003. The decline in gross profit as a percentage of net sales in the third
quarter of 2004 compared to the third quarter of 2003 resulted primarily from
lower sales, a product mix shift away from dial-up modems, our highest margin
product category, the negative effect of fixed manufacturing costs spread over
lower sales, and a $.3 million price protection credit in the UK due to the
lowering of selling prices in some channels. The decline in gross profit as a
percentage of net sales in the first nine months of 2004 compared to the first
nine months of 2003 resulted primarily from lower sales, a product mix shift
away from dial-up modems, our highest margin product category, and a decline in
ADSL margins due to competitive pressure on our selling prices. In the three
months and nine months of both 2004 and 2003 we recorded a benefit to our gross
profit as a result of discount purchase agreements for chipsets, which will end
in the fourth quarter of 2004. If we are unable to obtain new favorable discount
programs, our costs for chipsets could increase and our gross profit could be
adversely affected. In both the three months and the first nine months of 2004,
the chipset discounts contributed 3.5 percentage points of gross profit.
OPERATING EXPENSE. Our operating expense remained approximately level at
$2.6 million for the third quarter of 2004 compared to the third quarter of
2003. As a percentage of net sales, our operating expense increased to 36.6% in
the third quarter of 2004 from 29.1% in the third quarter of 2003. Our operating
expense decreased by $.1 million to $8.4 million or 36.4% of net sales for nine
months ended September 30, 2004 from $8.5 million or 35.3% of net sales for the
nine months ended September 30, 2003.
Selling Expense. Selling expense decreased approximately $.3 million to
$1.1 million or 15.6% of net sales in the third quarter of 2004 from $1.4
million or 15.1% of net sales in the third quarter of 2003. Selling expense
decreased $.5 million to $3.5 million or 15.3% of net sales in the first nine
months of 2004 from $4.0 million or 16.4% of net sales in the first nine months
of 2003. Selling expense was lower in both the quarter and the nine month period
primarily because of lower sales which resulted in lower commissions, product
delivery expense, and marketing expense. Selling headcount and salaries were
also lower.
General and Administrative Expense. General and administrative expense
increased $.2 million to $.8 million or 10.9% of net sales in the third quarter
of 2004 from $.6 million or 6.7% of net sales in the third quarter of 2003.
General and administrative expense increased $.4 million to $2.8 million or
12.1% of net sales in the nine months ended September 30, 2004 from $2.4 million
or 10.0% of net sales in the nine months ended September 30, 2003. General and
administrative expense increased $.2 million in the quarter primarily due to
recoveries of bad debts in the third quarter of 2003 which reduced the Q3 2003
General and Administrative expense by $.1 million. For the nine month period,
the increase of $.4 million was due primarily to $.3 million ($286,000) of
acquisition-related expense for an acquisition that was not consummated and the
2003 bad debt reversals, partially offset by reduced depreciation and insurance
expense.
Research and Development Expense. Research and development expense
increased slightly, less than $.1 million to $0.7 million or 10.1% of net sales
in the third quarter of 2004 from $0.7 million or 7.2% of net sales in the third
quarter of 2003. Research and development expense decreased $.1 million to $2.1
million or 9.0% of net sales in the first nine months of 2004 from $2.2 million
or 8.9% of net sales in the first nine months of 2003. Research and development
costs increased in the third quarter primarily as a result of increased
headcount and related personnel costs. Research and development costs decreased
in the first nine months primarily as a result of decreased costs for regulatory
approvals. Development and support continues on all of our major product lines,
with particular emphasis on VoIP hardware, the Global Village phone service,
ADSL modems, and dial-up modems.
OTHER INCOME (EXPENSE), NET. Other income (expense), net was relatively
unchanged with income of $.09 million in the third quarter of 2004 and 2003.
Other income (expense), net decreased to income of $.15 million in the first
nine months of 2004 compared to income of $.25 million in the first nine months
of 2003, primarily due to increased losses realized on foreign currency exchange
and a one-time gain on the sale of an internet domain name in the prior year
period.
INCOME TAX EXPENSE (BENEFIT). We did not record any income tax benefit in
the three and nine months ended September 30, 2004 or the three and nine months
ended September 30, 2003. The net deferred tax asset balance at September 30,
2004 is zero. This accounting treatment is described in further detail under the
caption CRITICAL ACCOUNTING POLICIES AND ESTIMATES above.
Liquidity and Capital Resources
On September 30, 2004 we had working capital of $15.6 million, including
$10.3 million in cash and cash equivalents.
In the nine months ended September 30, 2004 operating activities used $1.3
million in cash. Our net loss in the nine months ended September 30, 2004 was
$2.2 million. Adjustments to reconcile our net loss of $2.2 million to our net
cash used in operating activities of $1.3 million include favorable adjustments
of $1.3 million for our decrease of accounts receivable, $.3 million for
depreciation and amortization, and $.1 million for our decrease of prepaid
expense. Unfavorable adjustments include our increase of inventory of $0.6
million and our reduction of accounts payable and accrued expenses of $.3
million. Our accounts receivable balance decreased primarily due to reduced
sales and faster collections of sales. Our inventory increased primarily to
support our increased ADSL sales.
In the nine months ended September 30, 2004, investing activities used $.1
million in cash for additions to our property, plant, and equipment.
In the nine months ended September 30, 2004 financing activities provided
$1.9 million of cash, due primarily to receipt of $2.0 million cash from the
exercise of employee stock options, partially offset by $.2 million in cash used
for monthly principal payments of our $6.0 million mortgage.
Currently we do not have a debt facility from which we can borrow. We are,
however, currently reviewing a non-binding proposal from a lender for a one-year
$2 million line of credit. Should we decide to proceed with this facility, we
cannot be assured that the debt facility will ultimately be available on terms
acceptable to us, if at all, or that the parties will be able to agree on
definitive documentation.
To conserve cash and manage our liquidity, we implemented certain expense
reductions throughout the past three years. Our employee headcount was 185 at
December 31, 2002 which has been reduced to 159 at December 31, 2003 and 155 at
September 30, 2004. We intend to continue to assess our cost structure as it
relates to our revenues and cash position in 2004, and we may make further
reductions if the actions are deemed necessary.
Management believes we have sufficient resources to fund our planned
operations over the next 12 months. However, if over time we continue to incur
losses or do not raise capital, our longer-term ability to continue as a going
concern and achieve our intended business objectives could be adversely
affected. See "Risk Factors" below, for further information with respect to
events and uncertainties that could harm our business, operating results, and
financial condition.
Commitments
During the nine months ended September 30, 2004, there were no material
changes to our capital commitments and contractual obligations from those
disclosed in the Form 10-K for the year ended December 31, 2003.
RECENTLY ISSUED ACCOUNTING STANDARDS
In October 2004, the FASB indicated that they will require stock-based
employee compensation to be recorded as a charge to earnings pursuant to an
exposure draft they have published for comment, which they believe will become
effective for awards that are granted in interim or annual periods beginning
after June 15, 2005. We will continue to monitor their progress on the issuance
of this standard and the impact it may have on our consolidated financial
statements.
"Safe Harbor" Statement under the Private Securities Litigation Reform Act of
1995.
Some of the statements contained in this report are forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. These statements involve
known and unknown risks, uncertainties and other factors which may cause our or
our industry's actual results, performance or achievements to be materially
different from any future results, performance or achievements expressed or
implied by the forward-looking statements. Forward-looking statements include,
but are not limited to statements regarding: Zoom's plans, expectations and
intentions, including statements relating to Zoom's prospects and plans relating
to sales of our dial-up, cable and ADSL modems and VoIP products; the
anticipated development and timing and growth of new product introductions; the
consolidation in and the decline of the dial-up modem market; the anticipated
development of Zoom's markets and sales channels; the level of demand for Zoom's
products; Zoom's ability to obtain debt or equity financing; the anticipated
impact of Zoom's cost-cutting initiatives; and Zoom's financial condition or
results of operations.
In some cases, you can identify forward-looking statements by terms such as
"may," "will," "should," "could," "would," "expects," "plans," "anticipates,"
"believes," "estimates," "projects," "predicts," "potential" and similar
expressions intended to identify forward-looking statements. These statements
are only predictions and involve known and unknown risks, uncertainties, and
other factors that may cause our actual results, levels of activity,
performance, or achievements to be materially different from any future results,
levels of activity, performance, or achievements expressed or implied by such
forward-looking statements. Given these uncertainties you should not place undue
reliance on these forward-looking statements. Also, these forward-looking
statements represent our estimates and assumptions only as of the date of this
report. We expressly disclaim any obligation or undertaking to release publicly
any updates or revisions to any forward-looking statement contained in this
report to reflect any change in our expectations or any change in events,
conditions or circumstances on which any of our forward-looking statements are
based. Factors that could cause or contribute to differences in our future
financial results include those discussed in the risk factors set forth below as
well as those discussed elsewhere in this report and in our filings with the
Securities and Exchange Commission. We qualify all of our forward-looking
statements by these cautionary statements.
RISK FACTORS
This report contains forward-looking statements that involve risks and
uncertainties, such as statements of our objectives, expectations and
intentions. The cautionary statements made in this report should be read as
applicable to all forward-looking statements wherever they appear in this
report. Our actual results could differ materially from those discussed herein.
Factors that could cause or contribute to such differences include those
discussed below, as well as those discussed elsewhere in this report.
WE MAY CONTINUE TO INCUR NET LOSSES IF WE ARE UNABLE TO INCREASE SALES OF OUR
BROADBAND MODEMS.
Our net sales continue to decline primarily due to the decline in the
dial-up modem market, decreases in average selling prices of dial-up modems, and
the trend toward faster connection speeds and broadband access products. Despite
numerous cost reductions over the last few years, we have continued to incur
significant net losses primarily due to our continuous decline in net sales from
dial-up modems. We believe that the future of our business is largely dependent
on the success of our broadband modems and other products, such as our VoIP
products and services the first of which was released in Q3 2004 and an
additional product is expected to be released in Q4 2004. Although we believe
that we have sufficient resources to fund our planned operations over the next
year, if we fail to increase our net sales of our broadband modems and other
products, our longer-term ability to stay in business and to achieve our
intended business objectives could be adversely effected. Our continuing losses
could also adversely affect our ability to fund the growth of our business
should our strategies prove successful.
TO STAY IN BUSINESS WE MAY REQUIRE FUTURE ADDITIONAL FUNDING WHICH WE MAY BE
UNABLE TO OBTAIN ON ACCEPTABLE TERMS, IF AT ALL.
Over the next twelve months, we may require additional financing for our
operations either to fund losses beyond those we anticipate or to fund an
increase of our inventory should growth occur. We currently do not have a debt
facility from which we can borrow and may not be able to obtain one on
acceptable terms unless we have a change in circumstances. We currently have a
non-binding proposal from a lender for a one-year $2 million line of credit.
Should we decide to proceed with this facility, we cannot be assured that the
debt facility will ultimately be available on terms acceptable to us, if at all,
or that the parties will be able to agree on definitive documentation.
Additional financing may not be available to us on a timely basis if at all, or
on terms acceptable to us. If we fail to obtain acceptable additional financing
when needed, we may be required to further reduce planned expenditures or forego
business opportunities, which could reduce our net sales, increase our losses,
and harm our business. Moreover, additional equity financing could dilute the
per share value of our common stock held by current shareholders, while
additional debt financing could restrict our ability to make capital
expenditures or incur additional indebtedness, all of which would impede our
ability to succeed.
OUR CUSTOMER BASE IS CONCENTRATED, AND THE RECENT LOSS OF A SIGNIFICANT CUSTOMER
WILL REDUCE REVENUES AND THE PROFIT CONTRIBUTION OF OUR DIAL-UP MODEM BUSINESS.
Three customers accounted individually for more than 10% of net sales in
the first nine months of 2004 and collectively for approximately 36% of total
net sales in the first nine months of 2004. In the third quarter of 2004, these
same three customers accounted for approximately 34% of net sales. Our fourth
largest customer in the first quarter of 2004, Best Buy, discontinued the sales
of our dial-up modems around June 2004. This action was taken to reduce the
amount of Best Buy shelf space allocated to dial-up modems and to increase Best
Buy's house-brand share of their modem category. In the first quarter of 2004,
Best Buy accounted for 6.6% of our total net sales. In the second quarter of
2004, our net sales to Best Buy were reduced to approximately $140,000, or 1.7%
of net sales, and no further net sales are expected at this time. The loss of
Best Buy as a customer has reduced net sales and negatively impacted our dial-up
modem business. Sales of our ADSL modems are concentrated in a relatively few
customers primarily in Turkey, the UK and other European countries. Our sales
could fluctuate significantly due to, among other things, approvals and delays
in the deployment by service providers of ADSL and cable service in these
countries, changes in the political or economic conditions, or the loss,
reduction of business or less favorable terms for any of our significant
customers. The loss, reduction of business or less favorable terms of sale for
any other of our significant customers, may further reduce revenues and
negatively impact our business.
OUR NET SALES AND OPERATING RESULTS HAVE BEEN ADVERSELY AFFECTED BECAUSE OF A
DECLINE IN AVERAGE SELLING PRICES AND BECAUSE OF THE DECLINE IN THE RETAIL
MARKET FOR DIAL-UP MODEMS.
The dial-up modem industry has been characterized by declining average
selling prices and a declining retail market. The decline in average selling
prices is due to a number of factors, including technological change, lower
component costs, and competition. The decline in the size of the retail market
for dial-up modems is primarily due to the inclusion of dial-up modems in most
new PCs, and alternatives to dial-up modems including broadband modems. Less
advantageous terms of sales, decreasing average selling prices and reduced
demand for our dial-up modems have resulted and may in the future result in
decreased net sales for dial-up modems, which has been our primary source of net
sales. If we fail to replace declining revenue from the sales of dial-up modems
with the sales of our other products, including our broadband modems, our
business and results of operation will be harmed.
WE BELIEVE THAT OUR FUTURE SUCCESS WILL DEPEND IN LARGE PART ON OUR ABILITY TO
MORE SUCCESSFULLY PENETRATE THE BROADBAND MODEM MARKETS, WHICH HAVE BEEN
CHALLENGING MARKETS WITH SIGNIFICANT BARRIERS TO ENTRY.
With the shrinking of the dial-up modem market, we believe that our future
success will depend in large part on our ability to more successfully penetrate
the ADSL modem, VoIP, and cable modem markets. These markets have been
challenging, with significant barriers to entry that have adversely affected our
sales to these markets. Although some ADSL and cable modems are sold at retail,
in most countries the high volume purchases of these modems are concentrated in
a relatively few large cable, telecommunications, and Internet service providers
which offer broadband modem services to their customers. These customers
typically also have extensive and varied approval processes for modems to be
approved for use on their network. These approvals can be expensive and time
consuming. Successfully penetrating the broadband modem market therefore
presents a number of challenges including:
o the current limited retail market for broadband modems;
o the relatively small number of cable, telecommunications and Internet
service provider customers that make up a substantial part of the market
for broadband modems in most countries;
o the significant bargaining power of these large volume purchasers;
o the time consuming, expensive, uncertain and varied approval process of the
various cable service providers; and
o the strong relationships with service providers enjoyed by incumbent some
equipment providers.
Our sales of broadband products have been adversely affected by all of
these factors. Sales of our broadband products in Turkey, the United States, the
United Kingdom and other European countries have fluctuated and may continue to
fluctuate due to approvals and delays in the deployment by service providers of
cable and ADSL service in these countries. We cannot assure that we will be able
to successfully maintain or grow our sales in these markets.
OUR INTERNATIONAL OPERATIONS ARE SUBJECT TO A NUMBER OF RISKS INHERENT IN
INTERNATIONAL ACTIVITIES.
Our international sales continue to represent an increasingly significant
portion of our sales. International sales have increased from 38% of net sales
in 2001 to approximately 54% of our net sales in the third quarter of 2004.
Currently our operations are significantly dependent on our international
operations, and may be materially and adversely affected by many factors
including:
o international regulatory and communications requirements and policy
changes;
o political and economic changes and disruptions;
o pricing of Internet and voice services;
o bundling of discounted or free equipment with services;
o favoritism toward local suppliers;
o delays in the rollout of broadband services by cable and ADSL service
providers;
o local language and technical support requirements;
o difficulties in inventory management, accounts receivable collection and
the management of distributors or representatives;
o difficulties in staffing and managing foreign operations;
o governmental currency controls;
o shipping costs;
o currency exchange rate fluctuations; and
o tariff regulations.
We anticipate that our international sales will continue to account for a
significant percentage of our net sales and, in particular, our net sales of
ADSL products. If foreign markets for our current and future products develop
more slowly than currently expected, our sales and our future results of
operations may be harmed.
OUR EXISTING INDEBTEDNESS COULD MAKE IT MORE DIFFICULT FOR US TO OBTAIN
ADDITIONAL FINANCING, WHICH COULD HARM OUR LIQUIDITY.
In January 2001 we obtained a 5 year, $6 million, 20 year direct reduction
mortgage from a bank, secured by our owned real estate in Boston, Massachusetts.
As of September 30, 2004, our outstanding indebtedness was $5.2 million. This
mortgage has a balloon payment due in January 2006. This real estate was
appraised on July 24, 2002 at $9.3 million, and generally the real estate market
in Boston has remained relatively flat. Our outstanding indebtedness could
adversely affect our ability to obtain additional financing for working capital,
acquisitions, or other purposes. Our existing indebtedness could also make us
more vulnerable to economic downturns and competitive pressures, make it more
difficult to obtain additional debt financing, and adversely affect our
liquidity. In the event of a cash shortfall, we could be forced to reduce other
expenditures to meet our requirements with respect to our outstanding debt. Our
ability to meet our obligations will be dependent upon our future performance,
which will be subject to financial, business and other factors affecting our
operations. Many of these factors are beyond our control. If we are unable to
generate sufficient cash flow from operations in the future to service our debt,
we may be required to refinance all or a portion of these obligations or obtain
additional financing in order to stay in business.
OUR FAILURE TO MEET CHANGING CUSTOMER REQUIREMENTS AND EMERGING INDUSTRY
STANDARDS WOULD ADVERSELY IMPACT OUR ABILITY TO SELL OUR PRODUCTS.
The market for communications products and high-speed broadband access
products is characterized by aggressive pricing practices, continually changing
customer demand patterns, rapid technological advances, emerging industry
standards and short product life cycles. In the past some of our product
developments and enhancements have taken longer than planned and have delayed
the availability of our products, which adversely affected our sales and
profitability in the past. Any significant delays in the future may adversely
impact our ability to sell our products, and our results of operations and
financial condition may be adversely affected. Our future success will depend in
large part upon our ability to:
o identify and respond to emerging technological trends in the market;
o develop and maintain competitive products that meet changing customer
demands;
o enhance our products by adding innovative features that differentiate our
products from those of our competitors;
o bring products to market on a timely basis;
o introduce products that have competitive prices;
o manage our product transitions, inventory levels and manufacturing
processes efficiently; and
o respond effectively to new technological changes or new product
announcements by others.
Our product cycles tend to be short, and we may incur significant
non-recoverable expenses or devote significant resources to sales that do not
occur when anticipated. Therefore the resources we devote to product
development, sales, and marketing may not generate material net sales for us. In
addition, short product cycles have resulted in and may in the future result in
excess and obsolete inventory, which has had and may in the future have an
adverse affect on our results of operations. In an effort to develop innovative
products and technology, we have incurred and may in the future incur
substantial development, sales, marketing, and inventory costs. If we are unable
to recover these costs, our financial condition and operating results could be
adversely affected. In addition, if we sell our products at reduced prices in
anticipation of cost reductions and we still have higher cost products in
inventory, our business would be harmed and our results of operations and
financial condition would be adversely affected.
OUR OPERATING RESULTS HAVE BEEN ADVERSELY AFFECTED BECAUSE OF PRICE PROTECTION
PROGRAMS.
Our operating results have been adversely affected by reductions in average
selling prices because of credits given to some of our customers as a result of
contractual price protection guarantees. Specifically, when we reduce the price
for a product, the customer receives a credit for the difference between the
customer's most recent purchase price and our reduced price for the product, for
all unsold product at the time of the price reduction. In the third quarter of
2004, we gave a $.3 million price protection credit in the UK due to the
lowering of selling prices in some channels. If the amount of credits we give to
our customers increases by a material amount, our operating results could be
adversely affected.
WE MAY BE SUBJECT TO PRODUCT RETURNS RESULTING FROM DEFECTS, OR FROM
OVERSTOCKING OF OUR PRODUCTS. PRODUCT RETURNS COULD RESULT IN THE FAILURE TO
ATTAIN MARKET ACCEPTANCE OF OUR PRODUCTS, WHICH WOULD HARM OUR BUSINESS.
If our products contain undetected defects, errors, or failures, we could
face:
o delays in the development of our products;
o numerous product returns; and
o other losses to us or to our customers or end users.
Any of these occurrences could also result in the loss of or delay in
market acceptance of our products, either of which would reduce our sales and
harm our business. We are also exposed to the risk of product returns from our
customers as a result of contractual stock rotation privileges and our practice
of assisting some of our customers in balancing their inventories. Overstocking
has in the past led and may in the future lead to higher than normal returns.
OUR FAILURE TO EFFECTIVELY MANAGE OUR INVENTORY LEVELS COULD MATERIALLY AND
ADVERSELY AFFECT OUR LIQUIDITY AND HARM OUR BUSINESS.
In the past, we built up our inventory for our broadband access products in
response to shortages of components for these products at the time. We have also
had difficulty in generating significant orders for some of our products,
particularly broadband products, and as a result, we experienced a significant
increase in our inventory. Although we have been able to reduce our inventory
levels of broadband products as a result of sales, raw material returns to
suppliers, and the write-down of value of some of our inventory, our failure to
effectively manage our inventory may adversely affect our liquidity and
increases the risk of inventory obsolescence, a decline in market value of the
inventory, or losses from theft, fire, or other casualty.
WE MAY BE UNABLE TO PRODUCE SUFFICIENT QUANTITIES OF OUR PRODUCTS BECAUSE WE
DEPEND ON THIRD PARTY MANUFACTURERS. IF THESE THIRD PARTY MANUFACTURERS FAIL TO
PRODUCE QUALITY PRODUCTS IN A TIMELY MANNER, OUR ABILITY TO FULFILL OUR CUSTOMER
ORDERS WOULD BE ADVERSELY IMPACTED.
We use contract manufacturers to manufacture our products. We use these
third party manufacturers to help ensure low costs, rapid market entry, and
reliability. Any manufacturing disruption could impair our ability to fulfill
orders, and failure to fulfill orders would adversely affect our sales. Although
we currently use four contract manufacturers for the bulk of our purchases, in
some cases a given product is only provided by one of these companies. The loss
of the services of any of our significant third party manufacturers or a
material adverse change in the business of or our relationships with any of
these manufacturers could harm our business. Since third parties manufacture our
products and we expect this to continue in the future, our success will depend,
in part, on the ability of third parties to manufacture our products cost
effectively and in sufficient quantities to meet our customer demand.
We are subject to the following risks because of our reliance on third
party manufacturers:
o reduced management and control of component purchases;
o reduced control over delivery schedules;
o reduced control over quality assurance;
o reduced control over manufacturing yields;
o limited warranties on products supplied to us;
o potential increases in prices;
o interruption of supplies from assemblers as a result of a fire, natural
calamity, strike or other significant event; and
o misappropriation of our intellectual property.
WE MAY BE UNABLE TO PRODUCE SUFFICIENT QUANTITIES OF OUR PRODUCTS BECAUSE WE
OBTAIN KEY COMPONENTS FROM, AND DEPEND ON, SOLE OR LIMITED-SOURCE SUPPLIERS.
We obtain certain key parts, components, and equipment from sole or limited
sources of supply. For example, we purchase dial-up and broadband modem chipsets
from Conexant Systems and Agere Systems. Integrated circuit product areas
covered by one or both companies include dial-up modems, ADSL modems, cable
modems, networking, routers, and gateways. In the past, we have experienced
delays in receiving shipments of modem chipsets from our sole source suppliers.
We may experience similar delays in the future. In addition, some products may
have other components that are available from only one source. The market for
some components, including memory components, has recently experienced
shortages, increased lead times, and higher prices. If we are unable to obtain a
sufficient supply of components from our current sources, we could experience
difficulties in obtaining alternative sources or in altering product designs to
use alternative components. Resulting delays or reductions in product shipments
could damage relationships with our customers and our customers could decide to
purchase products from our competitors. Inability to meet our customers' demand
or a decision by one or more of our customers to purchase products from our
competitors could harm our operating results.
OUR FAILURE TO OBTAIN NEW CHIPSET PURCHASE PROGRAMS WITH CHIPSET SUPPLIERS COULD
REDUCE OUR GROSS PROFIT.
Our primary dial-up modem chipset purchase agreement, which includes price
and other concessions for meeting minimum purchase requirements or commitments,
is expected to expire in 2004. If we are unable to replace this agreement with
an equally favorable chipset purchase agreement, our chipset costs could
increase significantly and our gross profit could be adversely affected.
THE MARKET FOR HIGH-SPEED COMMUNICATIONS PRODUCTS AND SERVICES HAS MANY
COMPETING TECHNOLOGIES AND, AS A RESULT, THE DEMAND FOR OUR PRODUCTS AND
SERVICES IS UNCERTAIN.
The market for high-speed communications products and services has a number
of competing technologies. For instance, Internet access can be achieved by:
o using a standard telephone line and appropriate service for dial-up modems,
ISDN modems, or ADSL modems, possibly in combination;
o using a cable modem with a cable TV line and cable modem service;
o using a router and some type of modem to service the computers connected to
a local area network; or
o other approaches, including wireless links to the Internet.
Although we currently sell products that include many of these
technologies, the market for high-speed communication products and services is
fragmented and evolving. The introduction of new products by competitors, market
acceptance of products based on new or alternative technologies, or the
emergence of new industry standards could render and have in the past rendered
our products less competitive or obsolete. If any of these events occur, we may
be unable to sustain or grow our business. Industry analysts believe that the
market for our dial-up modems will continue to decline. If we are unable to
increase demand for and sales of our broadband modems, we may be unable to
sustain or grow our business.
WE FACE SIGNIFICANT COMPETITION, WHICH COULD RESULT IN DECREASED DEMAND FOR OUR
PRODUCTS OR SERVICES.
We may be unable to compete successfully. A number of companies have
developed, or are expected to develop, products that compete or will compete
with our products. Furthermore, many of our current and potential competitors
have significantly greater resources than we do. Intense competition, rapid
technological change and evolving industry standards could result in less
favorable selling terms to our customers, decrease demand for our products or
make our products obsolete.
CHANGES IN CURRENT OR FUTURE LAWS OR GOVERNMENTAL REGULATIONS THAT NEGATIVELY
IMPACT OUR PRODUCTS AND TECHNOLOGIES COULD HARM OUR BUSINESS.
The jurisdiction of the Federal Communications Commission, or the FCC,
extends to the entire United States communications industry including our U.S.
customers and their products and services that incorporate our products. Our
products are also required to meet the regulatory requirements of other
countries throughout the world where our products are sold. Obtaining government
regulatory approvals is time-consuming and very costly. In the past, we have
encountered delays in the introduction of our products, as a result of
government certifications and other certifications. We may face further delays
if we are unable to comply with governmental regulations and other
certifications. Delays caused by the time it takes to comply with regulatory
requirements and other certifications may result in cancellations or
postponements of product orders or purchases by our customers, which would harm
our business
FLUCTUATIONS IN THE FOREIGN CURRENCY EXCHANGE RATES IN RELATION TO THE U.S.
DOLLAR COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR OPERATING RESULTS.
Changes in currency exchange rates that increase the relative value of the
U.S. dollar may make it more difficult for us to compete with foreign
manufacturers on price, or may otherwise have a material adverse effect on our
sales and operating results. A significant increase in our foreign currency
denominated sales would increase our risk associated with foreign currency
fluctuations.
OUR FUTURE SUCCESS WILL DEPEND ON THE CONTINUED SERVICES OF OUR EXECUTIVE
OFFICERS AND KEY RESEARCH AND DEVELOPMENT PERSONNEL WITH EXPERTISE IN HARDWARE
AND SOFTWARE DEVELOPMENT.
The loss of any of our executive officers or key research and development
personnel, the inability to attract or retain qualified personnel in the future
or delays in hiring skilled personnel could harm our business. Competition for
skilled personnel is significant. We may be unable to attract and retain all the
personnel necessary for the development of our business. In addition, the loss
of Frank B. Manning, our president and chief executive officer, or Peter Kramer,
our executive vice president, some other member of the management team, a key
engineer, or other key contributors, could harm our relations with our
customers, our ability to respond to technological change, and our business.
OUR BUSINESS MAY BE HARMED BY ACQUISITIONS WE MAY COMPLETE IN THE FUTURE.
We may pursue acquisitions of related businesses, technologies, product
lines, or products. Our identification of suitable acquisition candidates
involves risk inherent in assessing the values, strengths, weaknesses, risks and
profitability of acquisition candidates, including the effects of the possible
acquisition on our business, diversion of our management's attention, risk of
increased leverage, shareholder dilution, risk associated with unanticipated
problems, and risks associated with liabilities we assume. If we pursue any such
transaction, we cannot assure that we would be able to successfully negotiate
the terms of such transaction, finance such transaction, or integrate such
business, products or technologies into our existing business and products.
WE MAY HAVE DIFFICULTY PROTECTING OUR INTELLECTUAL PROPERTY.
Our ability to compete is heavily affected by our ability to protect our
intellectual property. We rely primarily on trade secret laws, confidentiality
procedures, patents, copyrights, trademarks, and licensing arrangements to
protect our intellectual property. The steps we take to protect our technology
may be inadequate. Existing trade secret, trademark and copyright laws offer
only limited protection. Our patents could be invalidated or circumvented. We
have more intellectual property assets in some countries than we do in others.
In addition, the laws of some foreign countries in which our products are or may
be developed, manufactured or sold may not protect our products or intellectual
property rights to the same extent as do the laws of the United States. This may
make the possibility of piracy of our technology and products more likely. We
cannot assure that the steps that we have taken to protect our intellectual
property will be adequate to prevent misappropriation of our technology.
WE COULD INFRINGE THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS.
Particular aspects of our technology could be found to infringe on the
intellectual property rights or patents of others. Other companies may hold or
obtain patents on inventions or may otherwise claim proprietary rights to
technology necessary to our business. We cannot predict the extent to which we
may be required to seek licenses. We cannot assure that the terms of any
licenses we may be required to seek will be reasonable. We are often indemnified
by our suppliers relative to certain intellectual property rights; but these
indemnifications do not cover all possible suits, and there is no guarantee that
a relevant indemnification will be honored by the indemnifying company.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We own financial instruments that are sensitive to market risks as part of
our investment portfolio. The investment portfolio is used to preserve our
capital until it is required to fund operations, including our research and
development activities. None of these market-risk sensitive instruments are held
for trading purposes. We do not own derivative financial instruments in our
investment portfolio. The investment portfolio contains instruments that are
subject to the risk of a decline in interest rates.
Investment Rate Risk - Our investment portfolio consists entirely of money
market funds, which are subject to interest rate risk. Due to the short duration
and conservative nature of these instruments, we do not believe that it has a
material exposure to interest rate risk. The 20 year mortgage of our
headquarters building is a variable rate loan with the interest rate adjusted
annually. A 1% change in the interest rate would result in a decrease or
increase of approximately $53,000 of interest expense per year.
Item 4. CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures that are designed to ensure
that information required to be disclosed in our Securities Exchange Act reports
is recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms, and that such information is accumulated
and communicated to our management, including our Chief Executive Officer and
Chief Financial Officer, as appropriate, to allow timely decisions regarding
required disclosure. In designing and evaluating the disclosure controls and
procedures, management recognized that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, as ours are designed to do, and
management necessarily was required to apply its judgment in evaluating the
cost-benefit relationship of possible controls and procedures.
As of September 30, 2004 we carried out an evaluation, under the
supervision and with the participation of our management, including our Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of our disclosure controls and procedures, as defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934. Based
upon that evaluation, our Chief Executive Officer and Chief Financial Officer
concluded that our disclosure controls and procedures are effective in enabling
us to record, process, summarize and report information required to be included
in our periodic SEC filings within the required time period.
There have been no changes in our internal control over financial reporting
that occurred during the period covered by this report that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.
PART II - OTHER INFORMATION
Item 6. Exhibits and reports on Form 8-K
(a) Exhibits
10.1 International Distributor Agreement.
31.1 CEO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
31.2 CFO Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.
32.1 CEO Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
32.2 CFO Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.
(b) Form 8-K
On October 27, 2004, the Company furnished a Current Report on Form 8-K
relating to its financial information for the quarter ended September 30, 2004,
as presented in a press release dated October 27, 2004.
ZOOM TECHNOLOGIES, INC. AND SUBSIDIARY
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the Company has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ZOOM TECHNOLOGIES, INC.
Date: November 12, 2004 By: /s/ Frank B. Manning
------------------------------------------
Frank B. Manning, President
Date: November 12, 2004 By: /s/ Robert Crist
-------------------------------------------
Robert Crist, Vice President of Finance and
Chief Financial Officer (Principal Financial
and Accounting Officer)
EXHIBIT INDEX
Exhibit No. Description
10.1 International Distributor Agreement.
31.1 CEO Certification Pursuant to Section 302 of the Sarbanes-
Oxley Act of 2002.
31.2 CFO Certification Pursuant to Section 302 of the Sarbanes-
Oxley Act of 2002.
32.1 CEO Certification Pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
32.2 CFO Certification Pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.