UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10 - K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE YEAR ENDED DECEMBER 31, 2001
Commission File Number 0-11630
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TERAFORCE TECHNOLOGY CORPORATION
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 76-0471342
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1240 E. CAMPBELL, RICHARDSON, TEXAS
75081
(Address of Principal Executive Offices and Zip Code)
469-330-4960
(Registrant's Telephone Number, Including Area Code)
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Securities Registered Pursuant to Section 12 (b) of the Act
NONE
Securities Registered Pursuant to Section 12 (g) of the Act
COMMON STOCK PAR VALUE $0.01 PER SHARE
(Title of Class)
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [ ]
The aggregate market value of voting stock held by non-affiliates of the
Registrant was approximately $10,767,000 as of March 22, 2002 (based upon the
average of the highest bid and lowest asked prices on such date as reported on
the OTC Bulletin Board). All directors, officers and 5% or greater shareholders
are presumed to be affiliates for purposes of this calculation.
There were 87,088,850 shares of Common Stock outstanding as of March 22, 2002.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's definitive Proxy Statement to be filed pursuant to
Regulation 14A under the Securities Exchange Act of 1934 not later than 120 days
after the end of the fiscal year (December 31, 2001) are incorporated by
reference in items 10, 11, 12 and 13 of PART III hereof.
2
TABLE OF CONTENTS
Section Page Number
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ITEM 1 - Business 3
ITEM 2 - Properties 20
ITEM 3 - Legal Proceedings 20
ITEM 4 - Submission of Matters to a Vote of Security Holders 21
ITEM 5 - Markets for Registrant's Common Equity and Related
Stockholder Matters 22
ITEM 6 - Selected Financial Data 23
ITEM 7 - Management's Discussion and Analysis of Financial Condition
and Results of Operations 24
ITEM 8 - Financial Statements and Supplementary Data 34
ITEM 9 - Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure 60
ITEM 10 - Directors and Executive Management of the Registrant 60
ITEM 11 - Executive Compensation 60
ITEM 12 - Security Ownership of Certain Beneficial Owners and Management 60
ITEM 13 - Certain Relationships and Related Transactions 60
ITEM 14 - Exhibits, Financial Statement Schedules and Reports on Form 8-K 60
2
PART I
ITEM 1 - BUSINESS
FORWARD LOOKING STATEMENT
This Annual Report on Form 10-K contains certain forward looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended. In
this report, as well as in oral statements made by the Company, statements that
are prefaced with the words "may," "will," "expect," "anticipate," "believe,"
"continue," "estimate," "project," "intend," "designed" and similar expressions
are intended to identify forward-looking statements regarding events, conditions
and financial trends that may affect the Company's future plans, business
strategy, results of operations, financing activities and financial position.
These statements are based on the Company's current expectations and estimates
as to prospective events and circumstances about which the Company can give no
firm assurance. Further, any forward-looking statement speaks only as of the
date the statement was made, and the Company undertakes no obligation to update
any forward-looking statement to reflect events or circumstances after the date
the statement was made. Because it is not possible to predict every new factor
that may emerge, forward-looking statements should not be relied upon as a
prediction of actual future financial condition or results. Examples of types of
forward looking statements include statements on future levels of net revenue
and cash flow, new product development, strategic plans and financing. These
forward -looking statements involve risks and uncertainties that could cause
actual results to differ materially from those projected or anticipated. Factors
that might cause such a difference include, but are not limited to: general
economic conditions in the markets the Company operates in; the ability of the
Company to execute its plan in strategic direction; success in the development
and market acceptance of new and existing products; dependence on suppliers,
third party manufacturers and channels of distribution; customer and product
concentration; fluctuations in customer demand; the ability to obtain and
maintain access to external sources of capital; the ability to control costs;
overall management of the Company's expansion; and other risk factors detailed
from time to time in the Company's filings with the Securities and Exchange
Commission. The terms "we," "our" and "us" and similar terms refer to the
Company and its consolidated subsidiaries, not to any individual or group of
individuals.
THE COMPANY
The name of the Company was changed to TeraForce Technology Corporation
("the Company") on January 30, 2001, upon approval by its stockholders, from
Intelect Communications, Inc. The Company was incorporated in Delaware on May
23, 1995. Its predecessor, Intelect Communications Systems Limited ("Intelect
(Bermuda)") was incorporated under the laws of Bermuda in April 1980 and
operated under the name Coastal International, Ltd. until September 1985 and as
Challenger International Ltd. until December 1995. On December 4, 1997, the
shareholders of Intelect (Bermuda) approved a merger proposal, the principal
effect of which was to change the domicile of Intelect (Bermuda) so that it
became a publicly traded, United States-domiciled, Delaware corporation. The
effect of the merger was that the shareholders of Intelect (Bermuda) became
shareholders of the Company with the Company becoming the publicly traded
company. In addition, the Company became the holding company for Intelect
(Bermuda) and replaced Intelect (Bermuda) as the holding company for its
subsidiaries. The merger was effected on December 4, 1997.
3
OVERVIEW
Throughout 2001, technology businesses, and telecommunications
businesses specifically, continued to experience a great deal of difficulty and
a very challenging business environment. The demand for many sophisticated
technology and telecommunications products and services has decreased
significantly. In addition, the possibilities of financing both established and
"start-up" organizations and initiatives from external sources have become
severely limited. This situation was exacerbated by the general economic
downturn in the United States and the events of September 11, 2001. We have
experienced the effects of this industry-wide situation, especially as it
relates to our telecommunications related business.
Due to the changing business environment, we have undertaken a number
of actions in order to take advantage of our strengths and expertise, as well as
to recognize and react to the economic realities associated with certain
business activities and operations.
In November 2000, in response to changing conditions affecting and
predicted to adversely impact the technology business, we announced both a
change in strategic direction and a change of our name to TeraForce Technology
Corporation. Under the new strategy, as it was outlined at the time of the
announcement, we indicated our intention to develop and commercialize leading
edge technologies by leveraging our technological expertise in the convergence
of telecommunications and computing.
Prior to 2001, a major focus of our business was the development,
design, production and sale of optical networking equipment. We had specifically
focused on our OmniLynx product line. The business related to OmniLynx, and
predecessor products SonetLynx(C) and FibreTrax(C), was conducted through a
wholly-owned subsidiary, Intelect Network Technologies Company ("INT"). During
2000, we determined that the long-term strategic value of the OmniLynx product
line was not as promising as the Company's other businesses and implemented a
plan to materially curtail the operations of INT and to sell INT or
substantially all of the assets related to the OmniLynx product line. In
February 2001, a potential sale of the OmniLynx business to a company in the
United Kingdom did not materialize, and we terminated the majority of the
employees of INT. In August 2001, we completed a sale of the OmniLynx product
line and substantially all of the related assets to a newly formed entity,
Intelect Technologies, Inc. ("ITI"). ITI is a corporation owned 67% by Singapore
Technology Electronics, Ltd. and 33% by the Company. ITI is continuing with the
active production and sale of the OmniLynx product line, primarily for use in
purpose-built network applications such as highway systems, rail systems,
airport communication systems and pipeline networks. We have minority board of
director representation in ITI and have no involvement in day-to-day operations.
(See Note 5 of the Notes to Consolidated Financial Statements - included in Item
8. "Financial Statements and Supplementary Data.")
During 2001, we continued development activities on a new generation of
optical networking equipment through another wholly-owned subsidiary, Aegean
Networks, Incorporated ("Aegean"). We have funded all development activities to
date, but have been actively seeking strategic investors to provide funding in
order to allow full-scale development. We had received indications of interest
from a number of potential strategic investors, including an early-adopter
customer who had indicated a willingness to make a substantial investment in the
initiative. However, the uncertainties surrounding the recovery of markets for
telecommunications equipment and other economic factors have resulted in no firm
commitments to provide funding for Aegean. In the fourth quarter 2001 we
curtailed development activities related to Aegean and further significant
development for Aegean will be dependent upon the receipt of external funding.
4
Our engineering design services business has been conducted through its
wholly-owned subsidiary, DNA Enterprises, Inc. ("DNA"). DNA is a 20-year old
engineering design services organization located in Richardson, Texas that we
acquired in 1996. Over its history DNA has provided high-end engineering design
services to both established companies and start-up organizations, primarily
related to telecommunications equipment. During the course of 2001, DNA
experienced a significant decline in the demand for its services. This was
caused by the continued down-turn and uncertainty in the telecommunications
business and the financing difficulties experienced by many start-up
organizations. We determined that there was no longer adequate justification to
continue to fund the costs associated with maintaining the DNA organization in
light of the uncertainty in future demand for its services. Therefore, as of
December 31, 2001 we commenced a plan to dispose of this business and on January
11, 2002 sold substantially all of the assets related to the design services
business to Flextronics International, Ltd. ("Flextronics") (See Recent
Developments). The operations related to the engineering design services
business are treated as discontinued operations in the accompanying consolidated
financial statements. (See Note 4 of the Notes to Consolidated Financial
Statements - included in Item 8 - "Financial Statements and Supplementary
Data.")
In 1996 we began developing a line of products based on digital signal
processor technology. This business was initially developed within DNA, but as
of January 1, 2001 moved to another wholly-owned subsidiary, DNA Computing
Solutions, Inc. ("DCS"). DCS designs, develops, produces and sells a series of
high-density, high-capacity computing platforms. These products are utilized
primarily in the defense electronics industry. Accordingly, this business
segment is referred to as the "defense electronics business." In prior periods
this business has been referred to as the digital signal processor ("DSP")
products business.
We believe that the defense electronics business in general is
undergoing significant growth. There has been a trend within the defense
industry to emphasize and enhance defense and intelligence capabilities through
the use of improved electronics. In addition this business benefits from a
movement away from special purpose hardware designed specifically for a
single-application. We believe the market is moving towards the use of systems
that incorporate selected commercial-off-the-shelf (COTS) hardware and software
components. COTS hardware and software components can be less expensive and
require less development time than single-application systems. The Department of
Defense (DOD) leaders and federal regulations have mandated widespread use of
COTS components in defense electronics applications.
Digital signal and image processing computer systems are embedded into
air, sea and land-based platforms for processing radar, sonar and signal
intelligence applications. We believe that an important factor underlying the
development of this market is a continuing desire by military leaders for
increased battle space information, which can be obtained through radar, sonar,
signal intelligence and image intelligence systems, and for powerful computers
that can conduct dynamic battle simulations and mission planning tasks that
utilize complex weapons systems.
The defense electronics business is subject to the delays and changes
of the federal procurement process, although it is also isolated from some of
the factors affecting the technology industry in general. While there are
potentially significant commercial applications of this technology, we expect
that our activities will be heavily concentrated in the defense and intelligence
arenas and that these activities will be the primary focus of our operations.
During 2001, we launched development activities related to a line of
products to provide high-density, telecommunications-grade solutions to the
Internet server and storage markets. These activities are conducted through a
wholly-owned subsidiary, Centauri NetSystems Corporation ("Centauri"). We have
funded all of Centauri's development activities, although we have been actively
5
seeking strategic partners for the Centauri project. The current economic
environment makes obtaining such financing difficult and in March, 2002 we
suspended further development activity related to the Centauri project until
external funding of the program can be arranged.
RECENT DEVELOPMENTS
In the first quarter of 2002 we have taken a number of steps in an
attempt to reduce costs, provide capital for the Company and restructure our
debt obligations. These efforts are intended to create financial stability for
the Company and to provide the financial resources necessary for our growth,
particularly the defense electronics business.
In January, 2002 we sold our engineering design services business to
Flextronics. Proceeds from the sale amounted to $2,800,000 and consisted of
$1,660,000 in cash at closing, a hold-back of $140,000 which is payable six
months after the closing to the extent not offset by indemnity claims and a
hold-back of $1,000,000 to be applied against amounts due to Flextronics
pursuant to a design services agreement. In conjunction with the sale, the
Company and Flextronics entered into a design services agreement whereby we have
agreed to purchase, and Flextronics has agreed to provide, a specified number of
hours of engineering design services over the next year. These services will be
charged at agreed to rates and will aggregate approximately $1,000,000. We will
use these services primarily in the defense electronics business.
In March, 2002 we settled a lawsuit which we had brought against
Cadence Design Systems, Inc. Under the settlement agreement Cadence paid
$9,300,000, of which we received $6,300,000 after paying legal fees under a
contingent fee arrangement with the law firm that represented us.
Also in March, 2002 we repaid approximately $954,000 in notes payable
from the proceeds from the above transactions. After repaying these amounts,
which had been due on demand, we have $6,600,000 in notes payable outstanding,
of which $6,000,000 is due May 31, 2002 and $600,000 is due October, 2002. We
have been discussing a restructuring of these obligations to extend their
maturity and to provide for the obligations to be converted into equity of the
Company under certain circumstances. However, to date these negotiations have
not been concluded.
Concurrent with undertaking the restructuring of the debt obligations
described above, we have reached agreement with certain holders of warrants to
purchase the Company's common stock to exchange those warrants for common stock
of the Company. Under these agreements we will issue 2,000,000 shares of common
stock in exchange for the return and cancellation of warrants for the purchase
of 26,017,308 shares of common stock. In addition, should the Company's common
stock trade at a price of $0.75 or above for ten consecutive trading days prior
to October 14, 2002, we will issue an additional 3,000,000 shares of common
stock. These shares will be deemed restricted under federal security laws. We
have agreed to register these shares for resale with the SEC.
PRODUCTS, TECHNOLOGIES AND SERVICES
Defense Electronics Products
We offer a series of board-level products that deliver high performance
computing capabilities for embedded applications primarily in the
military/aerospace markets. These products include multiprocessor VME and PCI
boards based on Texas Instruments digital signal processors ("DSP") and single,
dual and quad processor VME boards based on the Motorola PowerPC(C) line of
reduced instruction set or "RISC" processors. "VME and "PCI" are industry
standard terms which describe the way in which electronic systems connect to one
another. These products are utilized to process real-time streams of information
in a variety of defense and intelligence related applications such as
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airborne surveillance, ground-based radars, ship-board navigation,
submarine-based sonars, satellite communications, signal intelligence,
electronic countermeasures, target acquisition, unmanned aerial vehicles, high
resolution imaging, pinpoint missile guidance, smart bombs, infrared search and
tracking, missile interception, space-based munitions and automated fire
finders. Our products are often utilized "as is" by customers, but from time to
time we provide customization for a particular application. We also offer a
vector signal and image processing library ("VSIPL") of software routines. The
VSIPL provides many of the algorithms most commonly used in signal processing,
thereby speeding customers' development of advanced applications. Harsh
environment or "ruggedized" versions of our products are currently under
development and are expected to be introduced during 2002. Ruggedized products
are suitable for deployment in systems in which environmental factors such as
temperature and shock are of prominent concern. We believe that the availability
of ruggedized product versions of our PowerPC line will expand the potential
market for our products. A number of other functional and performance
enhancements in our PowerPC products are planned to be released in 2002. We
spent $2,286,000 in 2001 and $1,722,000 in 2000 on engineering and development
related to the defense electronics business.
As of February 28, 2002 our backlog of orders for defense electronics
products stood at $1,173,000 as compared to $1,760,000 at February 28, 2001.
Included in backlog are orders for products for which we have received a
purchase order from the customer. These purchase orders are for products which
are to ship within a relatively short period of time, generally 90 days or less.
We consider backlog to be an indicator, but not the sole predictor of future
revenue. A variety of conditions, both specific to the individual customer and
generally affecting the customer's industry, may cause customers to cancel,
reduce or delay orders that were previously made or anticipated. We cannot
assure the timely replacement of canceled, delayed or reduced orders.
Significant or numerous cancellations, reductions or delays in orders by a
customer or group of customers could materially adversely affect our business,
financial condition and results of operations. Backlog should not be relied upon
as indicative of our revenues for any future period.
Engineering Design Services
Effective with the sale of substantially all of the assets related to
the engineering design services business in January 2002 we no longer provide
contract engineering design services. The operations related to this business
are reflected as discontinued operations in the accompanying consolidated
financial statements. These services were generally provided on a time and
material basis and the customer retained all rights to developed intellectual
property.
Optical Networking Products
The OmniLynx product line is utilized in fiber optic systems to provide
add-drop multiplexing as well as the functionality of traditional networking
equipment such as bridges, channel banks, routers and video matrix switches. The
product was originally designed and optimized for deployment in purpose-built or
private networks. It has been deployed in intelligent transportation systems,
pipeline projects and cellular telephone systems. In August 2001, we sold
substantially all of the assets related to the OmniLynx product line to ITI.
Since that date all activities related to that product line have been conducted
by ITI. We account for its investment in ITI using the equity method of
accounting.
The Aegean product line is intended to be an advanced optical
networking solution targeted at the metropolitan area network and can generally
be described as a Multi-Service Delivery Platform. It is designed to span the
needs of both metro and access markets and is aimed at the service delivery
needs of local exchange carriers, interexchange carriers and other network
operators. Aegean has performed extensive market analysis, developed detailed
system architecture and documentation,
7
performed component analysis and prepared detailed development schedules and
budgets. A product prototype has not been produced. We spent $1,336,000 in 2001
and $3,504,000 in 2000 on engineering and development, related to optical
networking products.
Other Products
The Centauri product line is intended to combine our expertise in
high-density computing and complex telecommunications systems to produce a
series of solutions for the Internet infrastructure market. The Centauri
products are designed to be high density storage and processing platforms that
utilize a blade architecture and telecommunications system type reliability.
Centauri has performed market analysis, developed system architecture and
documentation, performed component analysis and prepared detailed development
schedules and budgets. A product prototype has not been produced.
During 1999 we completed early stage engineering and development
activities related to the CS4 Intelligent Services Platform, an integrated
enhanced network server for the telecommunications industry, and completed a
beta test of the product. Because of severe shortages of capital during the
third and fourth quarters of 1999, we ceased further development activities
related to the CS4.
See Item 7 - "Management's Discussion and Analysis of Financial
Condition and Results of Operations" for a discussion of research and
development expenditures over the past three years. See Note 16 of the Notes to
Consolidated Financial Statements for information regarding revenue and profits
by segment and geographic region.
MARKETS AND CUSTOMERS
Defense Electronics Products
Customers for our defense electronics products include the large prime
defense contractors such as Raytheon Systems Company and Lockheed Martin
Corporation and other companies that act as sub-contractors to the large defense
contractors. These customers are served through a small direct sales staff and a
network of independent manufacturers' representatives. Sales of certain products
and certain international sales are made through channel partners. Channel
partners are other companies that re-sell our products. One of our channel
partners accounted for 36% of consolidated net revenue for the year ended
December 31, 2001. Should we lose this channel partner, there could be a
material disruption in our sales until an alternative manner of distributing
these particular products is established.
Engineering Design Services
A variety of clients utilized our engineering design services, ranging
from start-up ventures seeking to launch new products to large multi-national
corporations looking to access key know-how for extending current product lines
or introducing new products and services. The products we developed for these
clients ranged from compact circuit boards to multi-board systems. We marketed
our services directly to prospects worldwide. Principal customers for our
services included board manufacturers, telecommunications equipment vendors,
semiconductor suppliers, and communications service providers. During 2001, two
customers accounted for 55% of net revenue from engineering design services.
8
COMPETITION
Defense Electronics Products
The market for our products is highly competitive and is characterized
by rapidly changing technology, frequent product performance improvements and
evolving industry standards. Competition typically occurs at the design stage,
where the customer evaluates alternative design approaches, including those from
internal development organizations. A "design win" usually results in the
customer purchasing the product until their next generation system is developed.
Products are usually distinguished from one another based on product
performance, ease of use and cost.
The sales cycle leading to a design win will often take a long time. We
will usually provide a potential customer with a demonstration unit that they
may evaluate and test. After the evaluation period ends, the customer will
either return the unit or purchase it. If the potential customer determines that
the initial evaluation is satisfactory, the customer will often purchase a
limited number of units to use in the design, development and testing of the
customer's larger system. The company whose products are selected by the
customer for implementation achieves what is referred to as a "design win."
Once a customer has elected to purchase our product, the customer will
not usually purchase a significant number of units immediately. Although the
production phase of a particular program may last several years and ultimately
involve a significant number of units, the customer will usually only purchase
the units it will need for a short period of time. At this stage, there are
still a number of factors that will determine whether the customer purchases a
significant number of products, and when these products are purchased. These
factors include:
o the suitability of our products for a particular application,
including performance and cost issues;
o the technical performance of the final system;
o the customer's ability to fund the final system;
o the performance of the customer's other suppliers for the
final system; and
o the overall development and integration of the system by the
customer.
Our competitors include in-house design teams of large defense
contractors. However, competition from in-house design teams has diminished in
significance in recent years because of the increased use of COTS products and
the trend toward greater use of outsourcing. Despite this recent change, there
can be no assurance that in house developments will not return as a major
competitive force in the future. Increased use of in-house design teams by
defense contractors in the future may have a material adverse effect on our
business, financial condition and results of operations. Our other competitors
include Mercury Computer Systems, Inc., Sky Computers, Inc. and CSPI, Inc. All
of the large defense contractors and the majority of the other competitors, have
substantially greater research and development resources, guaranteed long term
supply capacity, marketing and financial resources, manufacturing capability and
customer support organizations than we have. We believe our future ability to
compete effectively will partially depend upon our ability to continue to
improve product and process technologies and to develop new technologies that
demonstrate performance advantages over our competitors, to adapt products and
processes to changes in technology, to identify and adopt emerging industry
standards and to adapt to customer needs.
Most of our competitors have greater financial and other resources than
we have, and we may be operating at a cost disadvantage compared to those
manufacturers who have greater direct buying power from component suppliers or
who have lower cost structures. There can be no assurance that we will be able
to compete successfully in the future with any of these competitors. In
addition, there
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can be no assurance that competitive pressures will not result in price erosion,
reduced margins, loss of market share or other factors that could have a
material adverse effect on our business, financial condition and results of
operations.
Optical Networking Equipment and Other Products
The market for optical networking products is intensely competitive,
subject to rapid technological change and significantly affected by new product
introductions and other market activities of industry participants. We expect
competition to persist and intensify in the future both domestically and
internationally. Competition for these products includes established products
produced and sold by large equipment manufacturers and a number of other early
stage and start-up organizations. Many of our competitors have significantly
greater financial resources than we have, and are able to devote greater
resources to the development, promotion, sale and support of their products. In
addition, most of our competitors have substantial advantages over us, such as
proven products, more advanced development of new products, established
organizations and existing customer relationships.
The Aegean and Centauri product initiatives are early stage development
efforts which have not produced any revenues to date.
MANUFACTURING
Defense Electronics Products
We use third party electronic manufacturing service ("EMS") providers
to manufacture our products. Generally we will acquire the components necessary
for the manufacture of the product and provide the components to the EMS
provider for assembly and initial testing. Completed units are then delivered to
our facility in Richardson, Texas for final testing and shipment. During the
course of 2001 we have shifted more of the product testing to the EMS provider.
As these programs continue we expect to rely more on the EMS provider for
product testing. We expect that moving the initial product testing to the EMS
provider will allow us to use our existing operations infrastructure to produce
higher sales volumes. We also expect that as production volumes increase and are
more accurately predicted the EMS providers will also begin to buy many of the
components required for our products, which will allow us to use our resources
in other ways.
We usually use a particular EMS provider for a specific product family.
There are a number of EMS providers capable of producing our products; however,
switching from one provider to another involves significant costs and risks
related to product quality and timing.
Components are usually available from multiple sources. In some cases,
however, items such as processors and memory chips may be available from limited
or sole sources. Some components have historically needed to be ordered a
significant time in advance of the date we plan to use the components. Other
components may be discontinued by the manufacturer, requiring us to acquire a
substantial supply or to alter our product design.
INTELLECTUAL PROPERTY AND OTHER PROPRIETARY RIGHTS
We believe we have a substantial base of intellectual property, in the
form of software and hardware, some of which is embodied in our products and
applied in our ongoing development programs. We believe that factors such as
technological and creative skills of our personnel, new product developments,
frequent product enhancements, name recognition, and reliable product
manufacturing are essential to establishing and maintaining a technology
leadership position.
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We rely on a combination of patent, copyright, trademark and trade
secret laws to establish and protect our products' proprietary rights. In
addition, we currently require our employees and consultants to enter into
nondisclosure and assignment of invention agreements to limit the use of, access
to and distribution of, proprietary information. There can be no assurance that
our means of protecting our proprietary rights in the U.S. or abroad will be
adequate. The laws of some foreign countries may not protect our proprietary
rights as fully or in the same manner as do the laws of the U.S. Also, despite
the steps we take to protect our proprietary rights, it may be possible for
unauthorized third parties to copy or reverse engineer aspects of our products,
develop similar technology independently or otherwise obtain and use information
that we regard as proprietary. There can be no assurance that others will not
develop technologies similar or superior to our technology or design around the
proprietary rights we own.
Although we are not aware that our products infringe on the proprietary
rights of third parties, there can be no assurance that others will not assert
claims or infringement in the future or that, if made, such claims will not be
successful. If necessary, we may seek to obtain a license under a third party's
intellectual property rights. There can be no assurance that a license will be
available under reasonable terms or that a license will be available at all.
Litigation to determine the validity of any claims against the Company,
whether or not such litigation is determined in favor of the Company, could
result in significant expense to us and divert the efforts of our technical and
management personnel from daily operations. In the event of any adverse ruling
in any litigation regarding intellectual property, we may be required to pay
substantial damages, discontinue the sale of infringing products, expend
significant resources to develop non-infringing technology or obtain licenses to
use infringing or substituted technology. The failure to develop, or license on
acceptable terms, a substitute technology could have a material adverse effect
on our business, financial condition and results of operations.
Litigation may also be necessary to enforce our patents and other
intellectual property rights, to protect our trade secrets, and to determine the
validity of and scope of the proprietary rights of others. Such litigation could
result in substantial costs and diversion of resources and could have a material
adverse effect on our business, financial condition or results of operations.
We currently have 11 United States patents relating to
telecommunications and computing technology and have 13 currently pending
patents relating to telecommunications and computing technology. We seek to
protect our software, documentation and other written materials under trade
secret and copyright laws, which afford only limited protection. Patent
positions frequently are uncertain and involve complex and evolving legal and
factual questions. The coverage sought in a patent application may be denied or
significantly reduced before or after the patent is issued. There can be no
assurance:
o that any patents from pending patent applications or from any
future patent application will be issued,
o that the scope of any patent protection will exclude
competitors or provide competitive advantages to us,
o that any of our patents will be held valid if subsequently
challenged or
o that others will not claim rights in or ownership of the
patents and other proprietary rights held by us.
Since patent applications are secret until patents are issued in the
United States or corresponding applications are published in other countries,
and since publication of discoveries in the scientific or patent literature
often lags behind actual discoveries, we cannot be certain that we were
11
the first to make the inventions covered by each of our pending patent
applications or that we were the first to file patent applications for such
inventions. In addition, there can be no assurance that competitors, many of
which have substantial resources and have made substantial investments in
competing technologies, will not seek to apply for and obtain patents that will
prevent, limit or interfere with our ability to make, use or sell our products
either in the United States or in international markets.
EMPLOYEES
As of March 31, 2002 we had 56 full-time employees, of which 19 were
engaged in engineering and development, 8 were engaged in sales, marketing, and
customer support, 14 were engaged in manufacturing operations, and 15 were
engaged in administration and finance. None of our employees are represented by
a labor organization. We have experienced no material work stoppages and believe
our relations with our employees to be good.
RISK FACTORS
In addition to the other information in this Annual Report on Form
10-K, the following are risk factors that should be considered in evaluating the
Company and an investment in our common stock. The trading price of the common
stock could decline due to any of these risks, and investors in our common stock
could lose all or part of their investment.
RISK FACTORS RELATED TO OUR BUSINESS
A Number of Factors Could Cause Operating Results to Fluctuate
Significantly.
Our revenues and operating results in any reporting period may
fluctuate significantly due to a variety of factors, including:
o changes in the price or availability of components for our
products;
o the mix of products sold to the defense electronics markets
and other markets;
o our ability to introduce new technologies and features ahead
of competitors;
o the timing and size of orders we receive from customers;
o fluctuations in demand for our products;
o delays in acceptance testing by customers;
o production delays due to quality problems with outsourced
components;
o changes in our pricing policies or the pricing policies of our
competitors;
o changes in customers' requirements, including changes or
cancellations of orders from customers;
o manufacturing and shipment delays and deferrals;
o our ability to efficiently produce and ship orders promptly on
a price-competitive basis;
o announcements or introductions of new products by our
competitors;
o our ability to implement our recently announced new business
strategy; and
o changes in general economic conditions as well as those
specific to the defense electronics industry.
Current economic conditions have made it more difficult to make
reliable estimates of future revenues. Fluctuations in our revenue can lead to
even greater fluctuations in our operating profits. In addition, we expect
research and development expenses to continue to increase as we continue to
develop products to serve our markets, all of which are subject to rapidly
changing technology, frequent product performance improvements and evolving
industry standards. The ability to deliver superior technological performance on
a timely and cost effective basis is a critical factor in securing
12
design wins for future generations of defense electronics systems. Significant
research and development spending by the Company does not ensure that our
products will be designed into a customer's system. Because future production
orders are usually contingent upon securing a design win, our operating results
may fluctuate due to either obtaining or failing to obtain design wins for
significant customer systems.
We Have Incurred Significant Losses in the Past and Are Not Currently
Profitable.
We are not currently profitable. Over the past three years we have
incurred net losses of $21,549,000, $29,572,000 and $29,589,000, respectively.
These losses have been funded from borrowings under credit facilities and sales
of common and preferred stock. It is not certain when we will become profitable.
The ability to become profitable will depend, in part, on our ability to
increase net revenue from sales of defense electronics products. If our need for
capital exceeds available resources, there can be no assurance that additional
capital will be available through public or private equity or debt financing.
Our Auditors Have Expressed Doubt as to Our Ability to Continue as a
Going Concern
Our independent certified public accountants have added an explanatory
paragraph to their audit opinion, issued in connection with our consolidated
financial statements. The opinion states that our ability to continue as a going
concern is uncertain due to the amount of debt that is due in 2002 and the
uncertainty of refinancing or restructuring the debt. Our consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty. These adjustments might include changes in the possible future
recoverability and classification of assets or the amounts and classification of
liabilities that might result from the outcome of this uncertainty.
Additional Capital May Dilute Current Stockholders.
In order to provide capital for the operation of the business we may
enter into additional financing arrangements. These arrangements may involve the
issuance of new common stock, preferred stock that is convertible into common
stock, debt securities that are convertible into common stock or warrants for
the purchase of common stock. Any of these items could result in a material
increase in the number of shares of common stock outstanding which would in turn
result in a dilution of the ownership interest of existing common shareholders.
In addition these new securities could contain provisions, such as priorities on
distributions and voting rights, which could affect the value of our existing
common stock.
We Need Additional Financing for the Aegean and Centauri Products,
Which We May Not Be Able to Attain.
Our ability to develop the Aegean and Centauri products is dependent on
the availability of outside financing. We have sought to obtain such financing
by offering equity participation in new product initiatives to strategic and
financial investors. We have not been successful in attracting such financing to
date, and there can be no assurance that we will be successful in attracting
sufficient outside investment in new product initiatives. If we do secure
outside financing, there can be no assurance that we will be able to retain a
meaningful ownership interest in the projects.
13
We May Not Be Able To Successfully Complete Development and Achieve
Commercial Acceptance of the Aegean and Centauri Products.
Even if we are able to obtain financing for the Aegean and Centauri
projects on acceptable terms the successful commercial development of these
projects is subject to substantial risk. The development of these products, from
laboratory prototype to customer trial, and subsequently to general availability
involves a number of steps including the following:
o completion of product development;
o the qualification and multiple sourcing of critical
components;
o validation of manufacturing methods and processes;
o extensive quality assurance and reliability testing, and
staffing of testing infrastructure;
o validation of embedded software; and
o establishment of systems integration and systems test
validation requirements.
Each of these steps in turn presents serious risks of failure, rework
or delay, any one of which could decrease the speed and scope of product
introduction and marketplace acceptance of the product. In addition, unexpected
intellectual property disputes, failure of critical design elements, and a host
of other execution risks may delay or even prevent the introduction of these
products.
Additionally, the markets for our new product lines may be undeveloped.
The commercial acceptance of these types of products may be uncertain. We cannot
assure you that the sales and marketing efforts for these products will be
successful.
We May Not Be Able to Successfully Complete Development and Achieve
Customer Acceptance of New Defense Electronics Products.
It is necessary for us to continually enhance our products. Certain
enhancements to our products are in the development phase and are not yet ready
for commercial manufacturing or deployment. The successful development and
deployment of these products is subject to substantial risk. The development of
these products, from laboratory prototype to customer trial, and subsequently to
general availability involves a number of steps including the following:
o completion of product development;
o the qualification and multiple sourcing of critical
components;
o validation of manufacturing methods and processes;
o extensive quality assurance and reliability testing, and
staffing of testing infrastructure;
o validation of embedded software; and
o establishment of systems integration and systems test
validation requirements.
Each of these steps in turn presents serious risks of failure, rework
or delay, any one of which could decrease the speed and scope of product
introduction and marketplace acceptance of the product. In addition, unexpected
intellectual property disputes, failure of critical design elements, and a host
of other execution risks may delay or even prevent the introduction of these
products.
Additionally, the markets for our new products may be undeveloped. The
commercial acceptance of these types of products may be uncertain. We cannot
assure you that the sales and marketing efforts for these products will be
successful.
14
We are a Party to Lawsuits and May Be Subject to Other Contingent
Liabilities.
We are a named party in a lawsuit and may be subject to significant
other contingent liabilities. There can be no assurance that defending these
matters will not require a substantial amount of our resources, and that any
judgments would not materially affect our financial condition and results of
operations. In connection with the sale of former operations, we agreed to
indemnify the purchaser of those operations for losses which may arise in
connection with product liability claims. During 2000 we settled one such claim
resulting in a cash payment by the Company of approximately $1,100,000 over a
period of two years. Another of these liabilities involves a fire arm product
liability lawsuit which one defendant settled for $5,000,000. That defendant has
asserted third party liability claims against the purchaser for the amount of
the settlement plus attorney's fees and related costs. We may be responsible for
any recovery against the purchaser in this proceeding. Based on information
available to date, it is impossible to predict the outcome of this matter;
however an adverse outcome could materially affect its financial condition and
results of operations. For more information see Item 3. - Legal Proceedings.
Our Failure to Quickly Adopt to Rapidly Changing Competitive and
Economic Conditions Could Have a Material Adverse Effect on Our Business and
Results of Operations.
We operate in a rapidly changing competitive and economic environment.
Our future success will depend in part on our ability to enhance our current
products and to develop new products on a timely and cost-effective basis in
order to respond to technological developments and changing customer needs. The
markets for sophisticated technology are constantly undergoing rapid competitive
and economic changes, the full scope and nature of which are difficult to
predict. The defense electronics market, in particular, demands constant
technological improvements as a means of gaining military advantage. We believe
that technological and regulatory change will continue to attract new entrants
to the market in which we compete. Industry consolidation among competitors may
increase their financial resources, enabling them to reduce their prices. This
would require us to reduce the prices of our products or risk losing market
share.
We Have a Limited Customer Base.
We are dependent on a small number of customers for a large portion of
our revenues. For instance, in fiscal 2001, one customer accounted for 37% of
our revenues. Customers in the defense electronics market purchase our products
in connection with government programs that may have limited duration, leading
to fluctuating sales to any particular customer in the defense electronics
market from year to year. A significant decrease in the sales to any of our
major customers, or the loss of any of our major customers, would have a
material adverse effect on our business, financial condition and results of
operations. In addition, our revenues are largely dependent upon the ability of
our customers to develop and sell products that incorporate our products. There
is no assurance that our customers will not experience financial or other
difficulties that could adversely affect our operations and, in turn, our
results of operations.
15
We May Not Be Successful if We Do Not Attract New Customers.
Our future success will depend on our attracting additional customers.
The growth of our customer base could be adversely affected by:
o customer unwillingness to implement our optical networking
architecture or our defense electronics technology;
o any delays or difficulties that we may incur in completing the
development, introduction and production manufacturing of our
planned products or product enhancements;
o new product introductions by our competitors;
o any failure of our products to perform as expected; or
o any difficulty we may incur in meeting customers' delivery,
installation or performance requirements.
We Must Attract, Retain and Motivate Key Technical and Management
Personnel in a Competitive Market in Order to Sustain and Grow Our Business.
Our success depends to a significant extent upon key technical and
management employees. Competition for highly qualified employees can be intense
and the process of locating key technical and management personnel with the
required combination of skills and attributes can be lengthy and expensive.
There can be no assurance that we will be successful in retaining our existing
key personnel or in attracting and retaining the additional employees we may
require. We must continue to recruit, train, assimilate, motivate, and retain
qualified managers and employees to manage our operations effectively. If we do
not successfully recruit, hire and retain key employees, we may be unable to
execute our business plan effectively and our results of operations could be
significantly adversely affected.
We Are Subject to Numerous and Changing Regulations and Industry
Standards.
The communications and computing industries are subject to numerous and
changing regulations and industry standards, including standards and regulations
imposed by the Federal Communications Commission and other governmental
authorities. If our products do not meet these regulations or are not compatible
with these standards, our ability to sell products and offer services could be
seriously harmed.
We May Be Unable to Secure Necessary Components and Support Because We
Depend Upon a Limited Number of Third-Party Manufacturers and Support
Organizations.
We depend on a limited number of suppliers for components of our
products, as well as for equipment used to design and test our products. Certain
components used in our products are only available from a single source or
limited number of vendors. Some of the sole source and limited source vendors
are companies who, from time to time, allocate parts to telecommunications and
computing equipment manufacturers due to market demand for components and
equipment. Because of the recent worldwide telecommunications market expansion,
many component suppliers have placed critical components on worldwide
allocation. Many of our competitors are much larger and may be able to obtain
priority allocations from these shared vendors, thereby limiting or making
unreliable our sources of supply for these components. Any delay in component
availability for any of our products could result in delays in deployment of
these products and in our ability to recognize revenues.
16
If we are unable to obtain sufficient supply from alternative sources,
reduced supplies and higher prices of components will significantly limit our
ability to meet scheduled product deliveries to customers. A delay in receiving
certain components or the inability to receive certain components could harm our
customer relationships and our results of operations.
Failures of components affect the reliability and performance of our
products, can reduce customer confidence in our products, and may adversely
affect our financial performance. From time to time, we have experienced delays
in receipt of components and have received components that do not perform
according to their specifications. Any future difficulty in obtaining sufficient
and timely delivery of components could result in delays or reductions in
product shipments that could harm our business. In addition, a consolidation
among suppliers of these components or adverse developments in their businesses
that affect their ability to meet our supply demands could adversely impact the
availability of components that we depend on. Delayed deliveries from these
sources could adversely affect our business.
Our defense electronics products are manufactured by a limited number
of third-party manufacturers. If we were required to find alternative
third-party manufacturers, we may be forced to incur significant costs and
risks. There is no assurance that the alternative manufacturers could produce
our products with quality or costs comparable to the existing manufacturers. In
addition the transfer of the manufacturing process could result in significant
delays that could cause us to miss deadlines imposed by our customers.
Defense Electronics Products Business Is Subject to Special Risks.
We expect that essentially all of our net revenues in the future will
come from the sale of our defense electronics products. We supply products to
sub-contractors and prime contractors whose ultimate customer is often times an
agency of the United States government. Reductions in government spending on
programs that incorporate our products could have a material adverse effect on
our business, financial condition and results of operations. The contracts with
the United States government are subject to special risks including the
following: delays or cancellations of funding for programs; ability of the
government to unilaterally cancel the contract; reduction or modification as a
result of budgetary restraints or political changes; and other factors not under
the control of us or the prime contractor.
The Failure to Develop and Introduce New Products That Meet Changing
Customer Requirements and Address Technological Advances Would Limit Our Ability
to Sell Our Products and Services.
New product development often requires long-term forecasting of market
trends, and development and implementation of new technologies. If we fail or
are late to respond to new technological developments, market acceptance of our
products may be significantly reduced or delayed. The markets we participate in
are characterized by rapidly changing technology, evolving industry standards,
changes in end user requirements, and frequent new product introductions and
enhancements. The introduction of products embodying new technologies or the
emergence of new industry standards can render existing products obsolete or
unmarketable.
We May Not Be Able to Secure an Adequate Number of Design Wins.
Before buying our products a customer will evaluate our products, and
those of our competitors, as a part of designing a larger system. When a product
is selected by a customer to be utilized in its system it is referred to as a
"design win." The design-win process is typically lengthy and expensive, and
there can be no assurance that we will be able to continue to meet the product
specifications of our customers in a timely and adequate manner. Regarding the
defense electronics
17
market, military planners historically have funded significantly more design
projects than actual deployments of new equipment. There can be no assurance
that we will secure an adequate number of design wins. Failure to secure future
design-wins could have a material adverse effect on our business, financial
condition and results of operations.
Product Performance Problems Could Limit Sales Prospects.
The production of new products with high technology content involves
occasional problems as the technology and manufacturing methods mature. If
significant reliability, quality or network monitoring problems develop,
including those due to faulty components, a number of negative effects on our
business could result, including:
o costs associated with reworking the manufacturing processes;
o high service and warranty expenses;
o high inventory obsolescence expense;
o high levels of product returns;
o delays in collecting accounts receivable;
o reduced orders from existing customers; and
o declining interest from potential customers.
Although we maintain accruals for product warranties, actual costs
could exceed these amounts. From time to time, there will be interruptions or
delays in the activation of products at a customer's site. These interruptions
or delays may result from product performance problems or from aspects of the
installation and activation activities, some of which are outside our control.
If we experience significant interruptions or delays that cannot be promptly
resolved, confidence in our products could be undermined, which could have a
material adverse effect on operations.
Failure to Protect Our Intellectual Property Will Adversely Affect Our
Ability to Compete in the Industry and the Profitability of Our Operations.
We rely on a combination of patents, copyright, trademark and trade
secret laws, and restrictions on disclosure to protect our intellectual
property. We also enter into confidentiality or license agreements with our
employees, consultants and corporate partners and control access to and
distribution of our software, documentation and other proprietary information.
These intellectual property protection measures may not be sufficient to prevent
wrongful misappropriation of our technology. In addition, these measures will
not prevent competitors from independently developing technologies that are
substantially equivalent or superior to our technology. The laws of many foreign
countries do not protect intellectual property rights to the same extent as the
laws of the United States. Failure to protect proprietary information could
result in, among other things, loss of competitive advantage, loss of customer
orders and decreased revenues. Monitoring the unauthorized use of our products
is difficult and we cannot be certain that the steps we have taken will prevent
unauthorized use of our technology, particularly in foreign countries where the
laws may not protect our proprietary rights as fully as in the United States. If
competitors are able to use our technology, our ability to compete effectively
could be impaired. This litigation could result in substantial costs and
diversion of resources and may not ultimately be successful.
18
We May Be Subject to Intellectual Property Infringement Claims That Are
Costly to Defend and Could Limit Our Ability to Use Some Technologies in the
Future.
Like other participants in the industry, we expect that we will
continue to be subject to infringement claims and other intellectual property
disputes as competition in the marketplace continues to intensify. In the
future, we may be subject to litigation and may be required to defend against
claimed infringements of the rights of others or to determine the scope and
validity of the proprietary rights of others. Any such litigation could be
costly and divert management's attention from operations. Adverse determinations
in such litigation could result in the loss of our proprietary rights to use the
technology, subject us to significant liabilities, require us to seek licenses
from third parties, require us to redesign the products that use the technology,
or prevent manufacturing or sale of our products that employ the technology. If
we are forced to take any of the foregoing actions, our business may be
seriously harmed.
We May Be Unable to License Third-Party Technology at a Reasonable
Cost.
From time to time we may be required to license technology from third
parties to develop new products or product enhancements. We cannot ensure that
third-party licenses will be available to us on commercially reasonable terms.
The inability to obtain any third-party license required to develop new products
and product enhancements could require us to obtain substitute technology of
lower quality or performance standards, or to license such technology at a
greater cost. Both licensing inferior technology at a reasonable cost and
licensing necessary technology at a higher cost could seriously harm the
competitiveness of our products.
Our Products Are Subject to Government Regulation.
Our defense electronics products are utilized in defense and
intelligence related applications and therefore the sale of such products and
any related transfer of technology outside of the United States may be subject
to control and limitation by the federal government. Such sales have not been
material to date.
The telecommunications industry is subject to regulation from federal
and state agencies, including the Federal Communications Commission ("FCC") and
various state public utility and service commissions. Similar regulatory
structures exist in most countries outside the United States. While such
regulation does not affect us directly, the effects of such regulations on our
potential customers may, in turn, adversely impact our business and results of
operations. For example, FCC regulatory policies, affecting the availability of
services and other terms on which telecommunications service providers
("Telcos") conduct their business, may impede our penetration of certain
markets. Current FCC regulations restrict Telcos' ability to charge their
customers based on access cost to local subscribers and may affect the timing of
Telcos' investment in our technology. These FCC regulations and policies are
under continuous review by the federal government and the courts and are subject
to change. Although many FCC restrictions on providing services in previously
restricted markets have been eliminated or modified, the failure to change, or a
substantial delay in changing, the existing restrictions on Telcos may
materially adversely affect their demand for products based upon our technology.
In addition, our business and operating results may also be adversely
affected by the imposition of certain tariffs, duties and other import
restrictions on components that we obtain from non-domestic suppliers or by the
imposition of export restrictions on products that we sell internationally. The
governments of many other countries actively promote and create competition in
the telecommunications industry. We do not believe we have material exposure to
environmental
19
laws. Changes in current or future laws or regulations, in the United States or
elsewhere, could materially and adversely affect our business and results of
operations.
Debt Service Obligations May Adversely Affect Our Cash Flow and We May
Be Unable to Repay the Debt On Time.
We have approximately $6,600,000 of debt outstanding and that is due in
2002. It is unlikely that we will be able to generate sufficient cash flow from
operations to repay all of this debt when it comes due. While we intend to
restructure or refinance this debt, there is no assurance that we will be able
to do so in a timely manner. Even if we are able to refinance or restructure
this debt, we may still be subject to substantial interest and principal
repayment obligations.
RISK FACTORS RELATED TO THE SECURITIES MARKET
The Common Stock Is Subject to Price Volatility.
The price of the Common Stock is volatile. Fluctuations in operating
results, such as revenues or operating results being below the expectations of
public market analysts and investors, may cause additional volatility in the
price of the Common Stock. In such event, the market price of the Common Stock
could decline significantly. A significant decline in the market price of the
Common Stock could result in litigation that could also result in increased
costs and a diversion of management's attention and resources from operations.
There May Not Be a Liquid Market for the Common Stock
The Common Stock currently is traded on the OTC Bulletin Board operated
by Nasdaq. This market generally has less liquidity than the Nasdaq SmallCap
Market and certain institutional investors are precluded from buying stock in
this market. There can be no assurance that our investors will be able to sell
the Common Stock at prices and times that are desirable.
ITEM 2 - PROPERTIES
All of our facilities are leased and are located in Richardson, Texas.
We lease approximately 50,000 square feet that include production, engineering,
sales, marketing and administrative offices and believe it to be suitable for
our operations as currently conducted. We are also obligated under other leases
for properties which are not currently used in our operations. One such
facility, comprising approximately 28,000 square feet is currently utilized by
ITI which reimburses us for the cost of the lease and related expenses. Another
facility, which was formerly utilized by INT and comprises approximately 34,000
square feet, is currently unoccupied.
ITEM 3 - LEGAL PROCEEDINGS
We are involved in various legal proceedings and claims arising in the
ordinary course of business.
Cadence Lawsuit. In July, 1999 we negotiated the sale of a portion of
our engineering design services operations conducted by DNA. The agreement with
Cadence Design Systems, Inc. ("Cadence") provided for a purchase price of $15.0
million in cash. We believe Cadence and the Company signed and delivered an
asset purchase agreement to consummate the transaction. The transaction was
scheduled to close on July 23, 1999. To the best of our knowledge, we met all
conditions to closing; however, Cadence failed to close the transaction.
Therefore, we believe Cadence breached the agreement that had been reached
between the parties. In July, 1999 we filed suit in state
20
district court of Dallas County, Texas to recover damages, alleging breach of
contract, fraud, breach of fiduciary duty and negligent misrepresentation by
Cadence. In March, 2002 the Company and Cadence settled this litigation and
released all claims against one another related to this matter. Under the
settlement Cadence paid $9,450,000, of which we retained $6,300,000 after
payment of legal fees under a contingent fee arrangement with the law firm that
represented us in the case.
Shareholder Class Action. A shareholder class action lawsuit was filed
in the U. S. District Court for the Northern District of Texas in November 1999
on behalf of all persons and entities who purchased the Company's common stock
during the period between February 24, 1998 and November 17, 1998. The named
defendants include the Company and certain former and present officers and
directors of the Company. The complaint alleges that the defendants violated
Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5
promulgated thereunder by making false and misleading statements concerning the
Company's reported financial results during the period, primarily relating to
revenue recognition, asset impairment and capitalization issues. The plaintiffs
seek monetary damages, interest, costs and expenses. In March 2001, our motion
to dismiss the case was denied and discovery has begun. The court has set a
preliminary trial date of April 7, 2003. We believe the case is without merit
and intend to defend the case vigorously in all respects.
United Pacific Insurance Company, an affiliate of Reliance Insurance
Company, the insurance carrier which provides the primary $2 million of
insurance coverage for this matter, has been ordered liquidated by the insurance
commissioner of the State of Pennsylvania. At this time we are unable to
determine what amounts, if any, may be available under this insurance coverage.
We believe we are entitled to receive $300,000 related to this claim from
guarantee funds maintained by the insurance commissioner of the State of Texas.
If we don't receive the full benefit of this coverage, there could be a material
adverse impact on the Company.
Savage Matters. We are contingently liable for certain potential claims
that arise out of Savage Arms, Inc., a manufacturer of sporting bolt action
rifles (Savage Arms). We sold Savage Arms to the Savage Sports Corporation
(Savage Sports), and pursuant to the Stock Purchase Agreement we executed on
October 3, 1995, we agreed to indemnify Savage Sports for certain product
liability claims, environmental clean-up costs and other contractual
liabilities, including certain asserted successor liability claims, that Savage
Sports incurred because of Savage Arms.
A firearms product liability lawsuit has been filed in Alaska Superior
Court (the Taylor litigation). Western Auto Supply Co. is a defendant in the
Taylor litigation, and has settled the claim for $5 million. Western Auto Supply
Co. has now asserted a third-party claim against Savage Sports seeking
indemnification in the amount of the settlement, plus attorneys' fees and
related costs. Savage Sports has asserted certain defenses to the third-party
claim, and we believe additional defenses may be available. At this time, it is
not possible to accurately predict the outcome of the litigation or the effect
it will have on us.
In June 2000, Savage Sports filed suit against us in Superior Court in
Hampton County, Massachusetts seeking reimbursement from us for amounts related
to the settlement of various product liability claims asserted against Savage
Sports by Emhart Industries, Inc. In January 2001, we entered into a settlement
agreement with Savage Sports that disposed of this litigation. Pursuant to the
agreement we agreed to pay Savage Sports approximately $1.1 million over two
years, including approximately $600,000 upon the signing of the agreement. We
also agreed to contribute towards the annual cost of product liability insurance
which covers any future claims.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the quarter ended December 31, 2001, no matters were voted on by
our stockholders.
21
PART II
ITEM 5 - MARKETS FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is traded on the OTC Bulletin Board operated by Nasdaq
under the symbol "TERA." Prior to June 19, 2001, our common stock was traded on
the Nasdaq SmallCap Market. Our common stock was de-listed from the Nasdaq
SmallCap Market on June 19, 2001 for failure to maintain a minimum bid price of
$1.00. On January 30, 2001, we changed our trading symbol to "TERA" from "ICOM"
to reflect our name change to TeraForce Technology Corporation from Intelect
Communications, Inc.
The high and low bid prices for our common stock for each full quarter
of the last two fiscal years, as reported on the OTC Bulletin Board and Nasdaq,
are as follows (these prices are inter-dealer prices, without mark-up, mark-down
or commission included and may not necessarily represent actual transactions):
Quarter period ended High Low
-------------------- ---- ---
2001
March 31 1.438 0.344
June 30 0.960 0.330
September 30 0.420 0.150
December 31 0.200 0.080
2000
March 31 10.438 1.375
June 30 5.563 1.750
September 30 2.656 1.125
December 31 1.719 0.313
As of March 22, 2002, there were approximately 43,000 owners of record
(including nominee holders such as banks and brokerage firms who hold shares for
the benefit of beneficial owners) of our common stock.
The closing bid price of the common stock on the OTC Bulletin Board on
March 22, 2002 was $0.14.
DIVIDEND POLICY
In March 2000, we paid $966,000 of cash dividends upon the redemption
of shares of its Series A Preferred Stock. No other dividends were paid on any
class of equity in 2001 or 2000. We do not currently plan to pay any dividends
on common stock.
22
ITEM 6 - SELECTED FINANCIAL DATA
The following tables set forth certain historical consolidated
financial data for the Company.
Years ended December 31,
--------------------------------------------------------
2001 2000 1999 1998* 1997*
-------- -------- -------- -------- --------
($ in thousands, except per share data)
STATEMENT OF OPERATIONS:
Net revenues $ 6,822 $ 11,748 $ 12,103 $ 11,194 $ 29,145
======== ======== ======== ======== ========
Operating loss $(17,006) $(29,280) $(23,249) $(38,738) $(17,634)
======== ======== ======== ======== ========
Loss from continuing operations $(17,181) $(28,790) $(26,286) $(42,686) $(19,735)
Loss from discontinued operations (3,412) (782) (2,249) (49) (8)
Loss on disposal of
discontinued operations (956) -- -- (403) (498)
Extraordinary item - loss -- -- (1,054) -- --
-------- -------- -------- -------- --------
Net loss $(21,549) $(29,572) $(29,589) $(43,138) $(20,241)
======== ======== ======== ======== ========
Loss allocable to common
stockholders $(21,549) $(30,538) $(34,517) $(46,105) $(20,798)
======== ======== ======== ======== ========
Basic and diluted loss per share:
Continuing operations $ (0.20) $ (0.36) $ (0.67) $ (1.76) $ (0.99)
Extraordinary item -- -- (0.02) -- --
Discontinued operations (0.05) (0.01) (0.05) (0.02) (0.02)
-------- -------- -------- -------- --------
Net loss $ (0.25) $ (0.37) $ (0.74) $ (1.78) $ (1.01)
======== ======== ======== ======== ========
Weighted average shares (thousands) 86,354 83,229 46,762 25,939 20,558
BALANCE SHEET:
ASSETS:
Current assets $ 8,105 $ 18,805 $ 11,861 $ 16,413 $ 25,552
Excess of cost over assets of
companies acquired -- 3,354 4,115 4,787 13,249
Other long-term assets 2,091 1,845 8,366 11,270 11,008
-------- -------- -------- -------- --------
Total assets $ 10,196 $ 24,004 $ 24,342 $ 32,470 $ 49,809
======== ======== ======== ======== ========
LIABILITIES & STOCKHOLDERS' EQUITY:
Current liabilities including current
maturities of long-term debt $ 11,807 $ 4,593 $ 8,674 $ 9,938 $ 23,517
Long-term liabilities -- -- 15,264 15,000 143
Stockholders' equity (deficit) (1,611) 19,411 404 7,532 26,149
-------- -------- -------- -------- --------
$ 10,196 $ 24,004 $ 24,342 $ 32,470 $ 49,809
======== ======== ======== ======== ========
*Certain amounts have been reclassified to conform to current classifications.
23
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the
Consolidated Financial Statements and their related notes found on pages 36
through 59 of this Form 10-K. Except for historical facts, all statements
included in the following discussion about our financial position, business
strategy, and plans of management for future operations are forward looking
statements. Forward-looking statements involve risks and uncertainties and
actual results could materially differ from those expressed in or implied by the
forward-looking statements.
RESULTS OF OPERATIONS
Continuing operations -
Our engineering design services business is reflected as discontinued
operations in the accompanying financial statements for all years presented.
Therefore, the following results related to continuing operations do not include
amounts related to the operations of the engineering design services business.
The following discussions of revenues, gross profit (loss), engineering and
development expenses, and selling and administrative expenses do not include
amounts related to our engineering design services business for any period
presented.
The following table shows the revenue and gross profit (loss) for our
products:
Years ended December 31,
--------------------------------
2001 2000 1999
-------- -------- --------
($ in Thousands)
Net revenue:
Defense electronic products $ 4,195 $ 3,599 $ 1,411
Optical networking equipment 2,368 6,994 9,479
Other 259 1,155 1,213
-------- -------- --------
$ 6,822 $ 11,748 $ 12,103
-------- -------- --------
Gross profit (loss):
Defense electronic products $ (424) $ 375 $ 245
Optical networking equipment -- (1,813) (1,426)
Other (715) (67) (13)
-------- -------- --------
$ (1,139) $ (1,505) $ (1,194)
-------- -------- --------
Revenues
Revenue from the sale of defense electronics products increased 17%
between 2000 and 2001 and 155% between 1999 and 2000. The increased product
sales reflect our continued penetration of the market for these products and
customer acceptance of our products. Our defense electronic products are
comprised of two broad product lines, one based on the PowerPC line of RISC
processors and one based on Texas Instruments' digital signal processors.
We began shipping the PowerPC-based product line to customers late in
2000 and therefore it made no meaningful contribution to revenue prior to 2001.
Initial shipments of this product line have been generally small quantities used
by customers for evaluation, testing and system development, which is typical
for new products in this industry. Accordingly, during 2001, as well as in 2000
and 1999, the majority of revenues were related to sales of the Texas
Instruments' DSP-based products. We expect that the PowerPC-based products will
contribute an increasing proportion of total revenues,
24
although the Texas Instruments' DSP-based products are expected to continue to
make significant contributions towards total revenue. The increase in sales of
PowerPC-based products is expected to be enhanced as "ruggedized" product
versions and other product enhancements are introduced, and we believe these
introductions will occur later in 2002.
While the majority of our defense electronics products are utilized in
defense and intelligence related applications, in the past they have also been
utilized in commercial telecommunications applications. The severe downturn that
the telecommunications industry is experiencing resulted in a sharp decline in
demand for our products in these applications. Therefore, revenues in 2001 from
sales to the telecommunications market were less than we had anticipated.
Revenue from sales of products for defense and intelligence related applications
in 2001 was also less than we had expected. Prior to September 11, 2001, funding
for various defense and intelligence related programs had been delayed pending
the Bush administration's assessment of the military and its priorities. This
resulted in delays in new orders throughout the industry. The events of
September 11 compounded these delays. We believe these delays are temporary and
that there have been indications in the first quarter 2002 of an increase in
activity in the industry. The magnitude and timing of the impact of this
activity on our revenues and results of operations cannot be predicted at this
time.
Net revenue from optical networking equipment relates almost
exclusively to the OmniLynx product line, which prior to 2000 was marketed under
the SonetLynx(C) and FibreTrax(C) names. In August 2001, we sold essentially all
of the assets related to the OmniLynx product line to ITI. Prior to the
completion of this transaction we had significantly curtailed the operations
related to OmniLynx. Accordingly, revenues from optical networking equipment
declined significantly in 2001. Subsequent to August 2001, we had no revenues
from optical networking equipment. The decision to dispose of the OmniLynx
related assets and operations was made in reaction to rapidly changing market
conditions that resulted in very significant declines in the actual and expected
demand for the OmniLynx product line. There was especially a decline in demand
from small to medium sized competitive local exchange carriers, which had been a
target market for the Company. This decline in demand is demonstrated by the
decline in net revenues from optical networking equipment from 1999 to 2000.
Other revenues consist primarily of the voice and data switching
products used in air traffic control applications and video network products,
which we no longer sell.
Gross profit (loss)
The loss related to defense electronics products for 2001 includes
approximately $750,000 of charges related to the adjustment of the carrying
value of component and finished goods inventories. These charges resulted from
an evaluation of current component costs and the adjustment of certain finished
goods to net realizable value. Without the effect of these charges, the gross
profit related to defense electronic products in 2001 amounted to approximately
$326,000, as compared to $375,000 in 2000. The decline in gross profit, despite
the increase in related net revenue between the periods, reflects the effect of
certain fixed infrastructure costs established to handle higher production
levels expected in the future, higher testing and re-work costs in the early
phases of PowerPC-based product production and higher costs related to
relatively low volume production runs during this early phase. Between 1999 and
2000, gross profit increased due to related net revenue, however the cost of
revenue in 2000 was impacted by many of the same factors as discussed above
related to 2001.
As of December 31, 2000, our assets related to the OmniLynx product
line, including inventories, were reduced to estimated net realizable value.
Therefore, revenue from the sales of such OmniLynx products in 2001 produced no
gross profit or loss. The gross loss in 2001 represents manufacturing and
production overhead costs incurred in 2001. During 2000 and 1999, gross loss
25
from optical networking equipment reflects the effect of relatively low
production levels for our manufacturing operations. The lower production levels
resulted in unabsorbed overhead of approximately $1,400,000 in 2000 and
$1,700,000 in 1999. The amortization of technology costs and capitalized
software development costs of approximately $1,300,000 in 2000 and $1,400,000 in
1999 also affected the gross loss. In the fourth quarter of 1999, we reduced the
carrying value of our inventory by approximately $1,600,000. This adjustment was
based on cost variances and a periodic review of the components of inventory in
relation to anticipated sales and production, product design changes, and
current market prices for components and completed products.
Engineering and development expenses
Engineering and development ("E&D") expense decreased to $5,096,000 in
2001, as compared to $5,258,000 in 2000 and $10,040,000 in 1999. In 2000 and
1999, certain amounts of software development costs were capitalized. Including
those capitalized amounts, the total E&D expenditures were $5,096,000,
$6,153,000 and $10,647,000, respectively, in the years 2001, 2000, and 1999.
Total E&D expense by product line were distributed as follows:
Years ended December 31,
---------------------------
2001 2000 1999
------- ------- -------
($ in Thousands)
Defense electronic products $ 2,286 $ 1,722 $ 886
Optical networking products 1,336 3,504 4,700
CS4 -- -- 3,565
Other 1,474 32 889
------- ------- -------
$ 5,096 $ 5,258 $10,040
------- ------- -------
E&D costs related to defense electronics products have increased each
year from 1999 through 2001. This increase represents development activities
related to the PowerPC-based products that were first shipped to customers in
late 2000. Product enhancements and extensions have continued, including the
introduction of the four processor, or "quad" version in the first quarter of
2001. Continuing development activities include ruggedized product versions and
other design changes that we expect to be introduced later in 2002.
In 2000 and 1999 we incurred E&D costs relating to optical networking
equipment primarily from enhancements and extensions of the OmniLynx product
line. Such costs in 2001 relate to the Aegean product line that we began
developing in 2000. In the fourth quarter of 2001, we curtailed activity related
to the Aegean product line because we have been unable to arrange outside
funding for these activities. During 2002, development activity related to the
Aegean product line is continuing at a much reduced level. However, if we are
not able to arrange outside funding for these activities we expect to suspend
all activities related to this product line.
Other E&D costs in 2001 include approximately $670,000 related to the
engineering organization involved with the OmniLynx product line, which was
eliminated during 2001. The balance of other E&D costs in 2001 arose from
development activities on the Centauri product line. In the first quarter of
2002, we suspended all development activities related to the Centauri project.
During 1999, we incurred significant engineering and development costs
related to our CS4 Intelligent Switching Platform. We have completed or
suspended all development activities related to this project and accordingly do
not plan to incur further E&D costs related to it. All E&D costs related to this
project have been expensed.
26
Selling and administrative expenses
Selling and administrative expenses decreased $4,596,000, or 35%,
between 2000 and 2001. This decrease resulted from the curtailment and sale of
the operations related to the OmniLynx product line. The decrease was offset by
increased general and administrative expenses related to our defense electronics
business. In addition, however, we have reduced other selling and administrative
costs, including headcount, in response to the elimination of various business
operations. Selling and administrative expenses increased $1,251,000, or 10%
between 2000 and 1999. The increase in costs in 2000 reflects our efforts to
introduce the OmniLynx product line into public network markets and increased
marketing efforts relating to DSP products.
Asset write downs and costs related to sale of assets
In the fourth quarter of 2000, we determined that, due to changes in
certain target customer markets, our OmniLynx line of optical networking
products no longer fit within our long-term objectives and began plans to sell
the product line and related operations. A transaction for the sale of the
OmniLynx business failed in the first quarter of 2001 due to business
difficulties experienced by the potential purchaser. At that time, we
significantly curtailed the ongoing operations of the OmniLynx business and
began to pursue other methods of disposing of the business, including
liquidating the assets. As of December 31, 2000, the carrying values of the
assets related to the OmniLynx product line were adjusted to the lower of cost
and estimated net realizable value. A charge to operations was recorded as of
December 31, 2000 as follows:
($ in Thousands)
Reduction of inventory to net realizable value $5,642
Reduction of property and equipment
to net realizable value 2,199
Write-off of capitalized software development
costs and purchased intangibles 1,383
Other 27
------
Asset writedown $9,251
======
In August 2001 we sold substantially all of the OmniLynx assets to ITI.
We received a cash payment of $1,000,000 and are entitled to receive additional
amounts from ITI based upon the utilization of inventory acquired from us and
based on the financial position of ITI at certain points in time. The total
additional amount to be received cannot be determined at this time. The amounts
due from ITI have been recorded at the carrying value of the assets disposed of,
less amounts received from ITI. Accordingly, no gain or loss has been recorded
as a result of this transaction.
In 2001, we recognized certain non-recurring costs in connection with
the sale of the OmniLynx assets that amounted to $2,101,000, related to
maintaining the assets until the sale and the settlement of certain contractual
obligations related to those assets such as warranty obligations, employee
retention agreements and lease obligations.
Earnings of unconsolidated affiliate
Subsequent to the sale to ITI of substantially all of the assets
related to the OmniLynx product line, ITI has conducted all operations related
to the OmniLynx product. We have a 33% equity interest in ITI, minority board of
director representation, no funding obligations and no involvement in day-to-day
operations. We account for our investment in ITI using the equity method of
27
accounting. Earnings of unconsolidated affiliate for the year ended December 31,
2001, represents our proportionate share of the net earnings of ITI for the
period from September 1, 2001 through December 31, 2001. Such amounts have not
been distributed to us.
Interest expense
Interest expense, including non-cash financing charges, consists of the
following:
Years ended December 31,
------------------------
2001 2000 1999
------ ------ ------
(in Thousands)
Interest on debt instruments $ 151 $ 348 $1,603
Non-cash financing costs 82 426 1,019
Other costs of financing -- -- 8
Other interest 29 24 43
------ ------ ------
$ 262 $ 798 $2,673
------ ------ ------
Interest on debt instruments in 2001 relates to amounts borrowed under
bank credit agreements and short-term notes. In 2000 and 1999, such amounts were
primarily attributable to amounts borrowed from St. James Capital Corp., SJMB,
L.P., and the Coastal Corporation Second Pension Trust.
Non-cash financing costs in 2001, 2000 and 1999 were the result of
warrants to purchase common stock issued in connection with various financings.
The reported expense amount is amortization of the value of the warrants
determined by using the Black-Scholes pricing model.
Interest income and other
Interest income and other includes interest on the temporary investment
of cash balances of approximately $47,000 in 2001 and $1,028,000 in 2000. The
year 2000 also includes approximately $1,070,000 from the settlement of a
dispute with a professional service provider offset by a charge of approximately
$875,000 related to the settlement of certain litigation.
Loss on debt retirement
Pursuant to a restructuring of its debt obligations in August 1999, we
repaid $3,000,000 of a note payable through the issuance of 3,864,271 shares of
common stock. This repayment resulted in a loss on debt retirement of
$1,054,000.
Discontinued operations -
Effective December 31, 2001 we commenced a plan to dispose of our
engineering design services business and on January 11, 2002 sold substantially
all of the assets related to this business for total consideration of
$2,800,000. Accordingly, this business segment has been accounted for as a
discontinued operation.
The loss on disposal of discontinued operations is computed based on
the consideration received less the net book value of the assets disposed of,
including goodwill, and the operating loss of the business from December 31,
2001 to the date of disposal, which amount includes severance costs related to
certain employees, and an estimate of the costs related to a real estate lease
utilized by the discontinued operation. The amount of the cost related to the
real estate lease was estimated based on the monthly rental costs for the period
of time (one year) that management estimates before the
28
related facility can be utilized by other operations or the costs mitigated in
some other manner. The amount of the loss is as follows:
($ in Thousands)
Proceeds $ 2,800
Net book value of assets sold (517)
Goodwill (2,682)
Operating loss through date of sale (308)
Estimated cost of real estate lease (249)
-------
Loss on disposal of discontinued operation $ 956
=======
The results of operations related to our engineering design services
business are reflected as loss from discontinued operations.
Between 2000 and 2001, the loss related to the engineering design
services operations increased to $3,412,000 from $782,000, primarily as a result
of a decline in revenues from these operations to $3,405,000 in 2001 as compared
to $7,002,000 in 2000. This decline resulted from the drastic downturn in the
telecommunications industry over this same period of time. The majority of our
engineering design services were provided to companies involved in the
telecommunications industry. During the course of 2001, there was a significant
decline in demand for our services as customers reduced or eliminated product
development programs. This situation was also impacted by the inability of many
start-up organizations that utilized our services to obtain additional funding.
In 2000, the loss from the engineering design services operations declined to
$782,000 from $2,249,000 in 1999. This was a result of the increase in net
revenues to $7,002,000 in 2000 from $4,596,000 in 1999. During 1999, these
operations were negatively impacted by the effect of the aborted sale of the
operations to Cadence. During the negotiation and preparation for the
anticipated sale, we were limited in our ability to engage in new projects.
Therefore, as existing projects were completed, we experienced a decline in
revenues. In addition, after the transaction failed to close we were forced to
reduce staffing levels, further impacting the ability to bring on new business.
Outlook for 2002 -
During the course of 2001 and in the first quarter of 2002, Management
has undertaken a series of initiatives to reduce costs, improve our operating
results and reduce our dependency on outside sources of capital. These
initiatives include the following:
o Sale of OmniLynx assets and related operations
o Sale of engineering design services business
o Curtailment of development activity related to the Aegean
product line
o Suspension of all development activity related to the Centauri
product line
o Reduction of selling and administrative expenses
o Increased focus and emphasis on defense electronics business
As a result of these actions, we have significantly reduced the level
of fixed and on-going costs as compared to previous periods and therefore the
level of net revenues required to generate an operating profit and positive cash
flow from operations is less than in prior periods. Of our net loss in 2001,
approximately $4,368,000 relates to the engineering design services business,
approximately $5,770,000 relates to the OmniLynx product line and related assets
and approximately $2,140,000 relates to the Aegean and Centauri projects.
29
In 2002, Management expects the Company to focus on its defense
electronics business. We have increased revenues from this business each of the
last three years and expect to continue to do so. Our ability to generate a
profit from operations and to generate positive cash flow from operations
largely depends on the continued growth in revenue from sales of defense
electronics products. In turn, our ability to achieve higher levels of net
revenue is dependent upon a number of factors such as customer acceptance of our
products, including new and enhanced products, our ability to meet customer
demands as to product availability, price and performance, availability of
funding for programs in which our products will be deployed, the performance of
other companies who provide products or services to these programs and access to
adequate working capital, as well as other factors that may not be within our
control (See Item 1 - Business - Risk Factors).
In order to execute our business plan we need access to capital. See
Liquidity and Capital Resources - Financing activities for a discussion of these
requirements and how we expect to meet them.
Liquidity and Capital Resources
As of December 31, 2001 we had cash and temporary investments of
$54,000, negative working capital of $3,702,000 and funded debt of $7,554,000.
For the year ended December 31, 2001 cash flow used in operations amounted to
$13,789,000.
Operating activities
Net cash applied in operations primarily reflects the $21,549,000 net
loss offset by $2,103,000 of non-cash charges, and the $5,657,000 net increase
in working capital.
o Inventory decreased $1,139,000.
o Accounts receivable decreased $4,569,000.
o The non-cash charges consist primarily of $1,417,000 of
depreciation and amortization of fixed assets and intangible
assets.
Investing activities
Investments during 2001 were $325,000 of fixed asset additions and the
investment in ITI of $1,250,000. The fixed asset additions were concentrated in
computers, software and test equipment to support engineering activities.
Management does not anticipate significant fixed asset additions in 2002.
Financing activities
During 2001 and January of 2002 our operations were largely financed by
a series of short-term financings. These financings have taken the form of bank
facilities that have been secured by letters of credit or guarantees by certain
individual investors and by short-term notes issued in favor of certain of these
same investors. These short-term borrowings totaled approximately $7,554,000,
$954,000 of which we repaid on March 27, 2002. Of the balance remaining after
March 27, 2002, $6,000,000 is due on May 31, 2002 and $600,000 is due October,
2002.
Despite the costs which have been eliminated in 2001 and the first
quarter of 2002 and the expected growth in our defense electronics business, we
don't expect to generate cash flow from operations until the third quarter of
2002. Therefore, we will require working capital to provide for the expected
growth in the defense electronics business and to meet other contractual
obligations.
30
In January, 2002 we received a cash payment of $1,660,000 as a result
of the sale of our engineering design services business. In addition, in March
2002, we settled the outstanding litigation with Cadence whereby we received a
cash payment of $6,300,000, net of attorney fees. During the course of 2002 we
are entitled to additional payments from ITI arising from the sale of the
OmniLynx assets in August, 2001; however the timing of such payments and the
amounts which will be ultimately received are uncertain. We expect that the
above amounts will be sufficient to meet our needs for working capital during
2002.
It is unlikely, however, that we will be able to repay the remaining
outstanding debt when it comes due with cash flow from operations and the
amounts above. Therefore, we intend to restructure this debt by either replacing
it with other debt with different terms, repaying it from the proceeds of
issuing new equity securities or debt securities which are convertible into
common stock, or amending the terms of the obligations so that the debt is not
due in 2002. While we expect to accomplish this restructuring, we have not yet
done so, and there is no assurance that we will before the debt becomes due. If
we were to issue equity securities or debt which is convertible into common
stock, there could be significant dilution to existing common shareholders.
If we are not able to restructure the outstanding debt by May 31, 2002,
which is the date $6,000,000 of the debt becomes due, it is likely that we will
default upon those obligations. In that case, the parties that have guaranteed
that debt will be obligated to repay those borrowings and we will have demand
obligations to those parties in an amount equal to the debt that they repay. In
that event, these parties will have collateral rights in most of our accounts
receivable and inventory. In addition, they will be our largest creditor and
could demand payment at any time. They could therefore be in a position to
obtain a judgment against the Company and exert significant influence over our
actions.
Due to the uncertainty regarding the restructuring or refinancing of
our outstanding debt, our auditors have added an explanatory paragraph to their
audit opinion which states there is doubt concerning our ability to continue as
a going concern. Our consolidated financial statements have been prepared on the
basis that we are a going concern and do not include any adjustments that might
be necessary if this were not the case. These adjustments include changes in the
possible future recoverability and classification of assets or the amount and
classification of liabilities.
As discussed above we are obligated under various contracts and
commercial commitments. The following table summarized these obligations:
Period in which payments due (in thousands)
---------------------------------------------
Nature of Obligation 2002 2003 2004 2005
-------------------------------- ------ ------ ------ ------
Notes payable $7,454 $ -- $ -- $ --
Operating leases 822 718 412 85
Non-cancelable purchase
commitments 100 -- -- --
Settlement payments 260 60 -- --
------ ------ ------ ------
Total $8,636 $ 778 $ 412 $ 85
Our estimate of capital needs is subject to a number of risks and
uncertainties which could result in additional capital needs that have not been
anticipated. An important aspect of our estimated capital requirements is our
ability to begin to generate positive cash flow from operations. As discussed
above, this in turn is dependent upon our ability to increase revenues from our
defense electronics business, to generate adequate gross profit from those sales
and to control other costs and
31
expenses. Our capital needs could increase materially if any of our contingent
liabilities are resolved adversely to the Company. In addition, we could require
additional working capital if the defense electronics business increases more
rapidly than we currently anticipate.
Potential sources of additional capital include the sale of additional
debt or equity securities, other debt, such as bank debt, and the sale of
assets. A sale of additional securities could result in dilution to existing
common shareholders. There is no assurance that additional capital will be
available under terms which are acceptable.
Contingent liabilities
As discussed in Item 3 - "Legal Proceedings," we are exposed to certain
contingent liabilities which, if resolved adversely to us, could adversely
affect our liquidity, our results of operations, and/or our financial position.
Critical Accounting Policies
We have identified the policies below as critical to our business
operations and the understanding of our results operations. The impact and any
associated risks related to these policies on our business operations is
discussed below. For a more detailed discussion on the application of these and
other accounting policies, see the Notes to the Consolidated Financial
Statements included in this Annual Report on Form 10-K. The preparation of
financial statements in accordance with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amount of assets, liabilities, revenue and expenses and the disclosure of
contingent assets and liabilities. There can be no assurance that the actual
results will not differ from those estimates.
Estimates
Management has made estimates regarding the following matters which
could have a material effect on our consolidated financial statements:
o The amount and likelihood of occurrence of contingent
liabilities, including that related to outstanding litigation
and claims.
o The recoverability of amounts due from ITI and any potential
impairment to our investment in ITI.
o Costs associated with discontinued operations, including the
amount of lease obligations related to our engineering design
services business.
Inventories
Our inventories consist primarily of electronic components which are
subject to obsolescence and variations in market prices. We have adjusted the
amount of excess and obsolete inventory based on current and expected sales
trends, the number of parts on hand, the current market value for those parts
and the viability and potential technical obsolescence of the components.
32
Revenue recognition
We generally recognize revenue when our products are shipped to the
customer. This is normally the point at which all of the following factors have
been achieved:
o Persuasive evidence of a sales arrangement exists
o The product has been delivered
o The price is fixed or determinable
o Collection of the resulting receivable is reasonably assured
In some cases product is shipped to a customer for evaluation or
testing. In such cases revenue is not recognized until the customer has
evidenced intent to purchase the product by issuing a non-cancelable purchase
order to us for the product.
ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have outstanding debt amounting to $6,000,000 that bears interest at
a variable interest rate. This interest rate is based on a widely used reference
interest rate known as LIBOR. An increase of 50 basis points in LIBOR would
result in an increase in our annual interest expense of $30,000.
33
ITEM 8 - FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Report of Independent Certified Public Accountants................................................ 35
Consolidated Balance Sheets....................................................................... 36
Consolidated Statements of Operations............................................................. 37
Consolidated Statements of Stockholders' Equity................................................... 38
Consolidated Statements of Cash Flows............................................................. 41
Notes to Consolidated Financial Statements........................................................ 42
34
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors and Stockholders
TeraForce Technology Corporation
We have audited the accompanying consolidated balance sheets of TeraForce
Technology Corporation (formerly Intelect Communications, Inc.), and
subsidiaries as of December 31, 2001 and 2000, and the related consolidated
statements of operations, stockholders' equity (deficit), and cash flows for
each of the three years in the period ended December 31, 2001. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits 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 audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of TeraForce
Technology Corporation and subsidiaries as of December 31, 2001 and 2000, and
the consolidated results of their operations and their consolidated cash flows
for each of the three years in the period ended December 31, 2001 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. As discussed in Note 3 to the
financial statements, the Company has significant operating losses in 2001, 2000
and 1999. As of December 31, 2001, notes payable in the amount of $7,554,000 are
due within one year. The Company's continued existence is dependent on
restructuring or refinancing these obligations, neither of which is assured.
These matters raise substantial doubt about the Company's ability to continue as
a going concern. Management's plans with respect to these matters are also
discussed in Note 3. The financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
/s/ Grant Thornton LLP
Dallas, Texas
March 22, 2002
35
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 2001 and 2000
(Thousands of dollars, except share data)
2001 2000
--------- ---------
Assets
Current assets:
Cash and cash equivalents $ 1 $ 5,587
Investments 53 110
Accounts receivable, net of allowances of $1,606 in 2001
and $1,691 in 2000 869 4,303
Receivable from affiliate 816 --
Assets held for sale -- 4,893
Inventories 3,262 2,143
Net current assets of discontinued operations 2,880 1,287
Prepaid expenses 224 482
--------- ---------
Total current assets 8,105 18,805
Property and equipment, net 638 698
Net long-term assets of discontinued operations -- 3,844
Investment in affiliate 1,284 --
Other assets 169 657
--------- ---------
$ 10,196 $ 24,004
========= =========
Liabilities and Stockholders' Equity (Deficit)
Current liabilities:
Notes payable $ 7,554 $ 100
Accounts payable 1,864 2,121
Accrued liabilities 2,389 2,372
--------- ---------
Total current liabilities 11,807 4,593
Commitments and contingencies (Notes 10 and 15)
Stockholders' equity (deficit):
Common Stock, $.01 par value. Authorized 200,000,000 shares,
87,088,850 and 86,098,850 shares issued in 2001 and 2000,
respectively 871 861
Additional paid-in capital 181,898 181,381
Accumulated deficit (182,793) (161,244)
--------- ---------
(24) 20,998
Less 400,474 shares of common stock in treasury at cost (1,587) (1,587)
--------- ---------
Total stockholders' equity (deficit) (1,611) 19,411
--------- ---------
$ 10,196 $ 24,004
========= =========
See accompanying notes to consolidated financial statements.
36
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Consolidated Statements of Operations
(Thousands of dollars, except share data)
Years ended December 31,
--------------------------------
2001 2000 1999
-------- -------- --------
Net revenue $ 6,822 $ 11,748 $ 12,103
Cost of revenue 7,961 13,253 13,297
-------- -------- --------
Gross loss (1,139) (1,505) (1,194)
-------- -------- --------
Expenses:
Engineering and development 5,096 5,258 10,040
Selling and administrative 8,670 13,266 12,015
Asset writedowns -- 9,251 --
Costs related to sale of assets 2,101 -- --
-------- -------- --------
15,867 27,775 22,055
-------- -------- --------
Operating loss (17,006) (29,280) (23,249)
-------- -------- --------
Other income (expense):
Earnings of unconsolidated affiliate 34 -- --
Interest expense (262) (798) (2,673)
Interest income and other, net 53 1,288 (364)
-------- -------- --------
(175) 490 (3,037)
-------- -------- --------
Loss from continuing operations (17,181) (28,790) (26,286)
Extraordinary item - loss on debt retirement -- -- (1,054)
Discontinued operations:
Loss from discontinued operations (3,412) (782) (2,249)
Loss on disposal of discontinued
operations (956) -- --
-------- -------- --------
Net loss (21,549) (29,572) (29,589)
Dividends on preferred stock -- (966) (4,928)
-------- -------- --------
Loss allocable to common stockholders $(21,549) $(30,538) $(34,517)
======== ======== ========
Basic and diluted loss per share:
Continuing operations $ (0.20) $ (0.36) $ (0.67)
Extraordinary item -- -- (0.02)
Discontinued operations (0.05) (0.01) (0.05)
-------- -------- --------
Net loss per share $ (0.25) $ (0.37) $ (0.74)
======== ======== ========
Weighted average number of common
shares outstanding (thousands) 86,354 83,229 46,762
======== ======== ========
See accompanying notes to consolidated financial statements.
37
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
Years ended December 31, 2001, 2000 and 1999
(Thousands of dollars, except share data)
Preferred Stock
---------------------------------------------------------------------------------------
Series A Series C Series D
-------------------------- -------------------------- --------------------------
Shares Par Shares Par Shares Par
----------- ----------- ----------- ----------- ----------- -----------
Balances at January 1, 1999 4,219,409 $ 42 1,843 $ 1 8,250 $ 1
Net Loss -- -- -- -- -- --
Warrants issued in connection
with debt retirement -- -- -- -- -- --
Private placements
Preferred, Series E -- -- -- -- -- --
Common Stock -- -- -- -- -- --
Conversion of notes payable -- -- -- -- -- --
Conversion of preferred stock (500,000) (5) (1,843) (1) (8,250) (1)
Warrants issued with notes
and preferred stock -- -- -- -- -- --
Warrants issued for services -- -- -- -- -- --
Stock option compensation -- -- -- -- -- --
Preferred dividends paid
with stock -- -- -- -- -- --
Directors' fees paid in stock -- -- -- -- -- --
Preferred dividends accrued -- -- -- -- -- --
Amortization of beneficial
conversion features of
preferred stock -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Balances at December 31, 1999 3,719,409 $ 37 -- $ -- -- $ --
=========== =========== =========== =========== =========== ===========
(table continued)
Preferred Stock
-------------------------
Series E Common Stock Additional
------------------------- ------------------------- paid-in Accumulated
Shares Par Shares Par capital deficit
----------- ----------- ----------- ----------- ----------- -----------
Balances at January 1, 1999 -- $ -- 32,333,085 $ 323 $ 104,451 $ (96,189)
Net Loss -- -- -- -- -- (29,589)
Warrants issued in connection
with debt retirement -- -- -- -- 1,054 --
Private placements
Preferred, Series E 6,000 -- -- -- 5,690 --
Common Stock -- -- 3,860,659 39 3,270 --
Conversion of notes payable -- -- 11,642,049 116 10,884 --
Conversion of preferred stock (6,000) -- 17,001,757 170 (163) --
Warrants issued with notes
and preferred stock -- -- -- -- 1,692 (636)
Warrants issued for services -- -- -- -- 73 --
Stock option compensation -- -- -- -- 51 --
Preferred dividends paid
with stock -- -- 933,204 9 821 (830)
Directors' fees paid in stock -- -- 165,819 2 226 --
Preferred dividends accrued -- -- -- -- 187 (187)
Amortization of beneficial
conversion features of
preferred stock -- -- -- -- 3,275 (3,275)
----------- ----------- ----------- ----------- ----------- -----------
Balances at December 31, 1999 -- $ -- 65,936,573 $ 659 $ 131,511 $ (130,706)
=========== =========== =========== =========== =========== ===========
(table continued)
Total
Treasury Stock stock
-------------------------- holders'
Shares Cost equity
----------- ----------- -----------
Balances at January 1, 1999 191,435 $ (1,097) $ 7,532
Net Loss -- -- (29,589)
Warrants issued in connection
with debt retirement -- -- 1,054
Private placements
Preferred, Series E -- -- 5,690
Common Stock -- -- 3,309
Conversion of notes payable -- -- 11,000
Conversion of preferred stock -- -- --
Warrants issued with notes
and preferred stock -- -- 1,056
Warrants issued for services -- -- 73
Stock option compensation -- -- 51
Preferred dividends paid
with stock -- -- --
Directors' fees paid in stock -- -- 228
Preferred dividends accrued -- -- --
Amortization of beneficial
conversion features of
preferred stock -- -- --
----------- ----------- -----------
Balances at December 31, 1999 191,435 $ (1,097) $ 404
=========== =========== ===========
See accompanying notes to consolidated financial statements.
38
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
Years ended December 31, 2001, 2000 and 1999
(Thousands of dollars, except share data)
Preferred Stock
Series A Common Stock Additional Accumu-
------------------------ ----------------------- paid-in lated
Shares Par Shares Par capital deficit
--------- ----------- ---------- ---------- ---------- -----------
Balances at December 31, 1999 3,719,409 $ 37 65,936,573 $ 659 $ 131,511 $ (130,706)
Net Loss -- -- -- -- -- (29,572)
Private placements of
common stock -- -- 11,801,666 118 42,523 --
Exercise of warrants -- -- 2,495,000 25 5,155 --
Exercise of employee
stock options -- -- 418,795 5 886 --
Conversion of notes payable -- -- 4,705,749 47 8,003 --
Redemption of preferred stock (3,719,409) (37) -- -- (7,456) --
Preferred dividends paid in cash -- -- -- -- -- (966)
Preferred dividends paid with
stock -- -- 142,719 1 186 --
Settlement of royalty agreement -- -- 350,000 3 371 --
Directors' fees paid in stock -- -- 48,972 1 44 --
Preferred dividends accrued -- -- -- -- (187) --
Interest expense paid with stock -- -- 184,376 2 311 --
Stock issued for services -- -- 15,000 -- 34 --
Stock received in legal settlement -- -- -- -- -- --
---------- ---------- ---------- ---------- ---------- ----------
Balances at December 31, 2000 -- $ -- 86,098,850 $ 861 $ 181,381 $ (161,244)
========== ========== ========== ========== ========== ==========
(table continued)
Total
Treasury Stock stock-
----------------------- holders'
Shares Cost equity
--------- ----------- -----------
Balances at December 31, 1999 191,435 $ (1,097) $ 404
Net Loss -- -- (29,572)
Private placements of
common stock -- -- 42,641
Exercise of warrants -- -- 5,180
Exercise of employee
stock options -- -- 891
Conversion of notes payable -- -- 8,050
Redemption of preferred stock -- -- (7,493)
Preferred dividends paid in cash -- -- (966)
Preferred dividends paid with
stock -- -- 187
Settlement of royalty agreement -- -- 374
Directors' fees paid in stock -- 45
Preferred dividends accrued -- -- (187)
Interest expense paid with stock -- -- 313
Stock issued for services -- -- 34
Stock received in legal settlement 209,039 (490) (490)
---------- ---------- ----------
Balances at December 31, 2000 400,474 $ (1,587) $ 19,411
========== ========== ==========
See accompanying notes to consolidated financial statements.
39
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity (Deficit)
Years ended December 31, 2001, 2000 and 1999
(Thousands of dollars, except share data)
Common Stock Additional Accumu- Treasury Stock Total
----------------------- paid-in lated ----------------------- Stockholders'
Shares Par capital deficit Shares Cost equity (deficit)
---------- ---------- ---------- ---------- ---------- ---------- ----------------
Balances at December 31, 2000 86,098,850 $ 861 $ 181,381 $ (161,244) 400,474 $ (1,587) $ 19,411
Net loss -- -- -- (21,549) -- -- (21,549)
Stock issued in settlement of
contractual obligations 990,000 10 377 -- -- -- 387
Warrants issued with notes -- -- 140 -- -- -- 140
---------- ---------- ---------- ---------- ---------- ---------- ----------
Balances at December 31, 2001 87,088,850 $ 871 $ 181,898 $ (182,793) 400,474 $ (1,587) $ (1,611)
========== ========== ========== ========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
40
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended December 31, 2001, 2000 and 1999
(Thousands of dollars)
Years ended December 31,
---------------------------------
2001 2000 1999
--------- --------- ---------
Cash flows from operating activities:
Net loss $(21,549) $(29,572) $(29,589)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation and amortization 1,417 4,650 4,721
Amortization of loan discount -- 426 1,013
Asset writedowns -- 9,251 --
Loss on debt retirement -- -- 1,054
Income from joint venture (34) -- --
Other 720 467 306
Change in operating assets and liabilities:
Accounts receivable 4,569 (242) 1,780
Inventories (1,139) (5,506) 882
Assets held for sale 2,643 -- --
Other assets (574) (131) 446
Accounts payable and accrued liabilities 158 (1,785) 242
-------- -------- --------
Net cash used in operating activities (13,789) (22,442) (19,145)
-------- -------- --------
Cash flows from investing activities:
Proceeds from sale of assets 2,250 -- --
Investment in joint venture (1,250) -- --
Capital expenditures (325) (1,888) (1,045)
Software development costs -- (896) (607)
Investment and other 73 (235) 356
-------- -------- --------
Net cash provided by (used in)
investing activities 748 (3,019) (1,296)
-------- -------- --------
Cash flows from financing activities:
Proceeds from issuance of notes payable 7,455 400 11,300
Proceeds from issuance of common shares -- 42,641 3,309
Proceeds from issuance of preferred shares -- -- 5,690
Principal payments on notes payable -- (9,654) (738)
Redemption of preferred stock -- (7,493) --
Proceeds from exercise of common stock warrants -- 5,180 --
Proceeds from exercise of employee stock options -- 891 --
Preferred stock dividends paid -- (966) --
Other -- 49 (111)
-------- -------- --------
Net cash provided by financing
activities 7,455 31,048 19,450
-------- -------- --------
Net increase (decrease) in cash and cash equivalents (5,586) 5,587 (991)
Cash and cash equivalents, beginning of year 5,587 -- 991
-------- -------- --------
Cash and cash equivalents, end of year $ 1 $ 5,587 $ --
======== ======== ========
See accompanying notes to consolidated financial statements.
41
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(1) Description of Business
The Company has historically operated, through various subsidiaries, in
three business segments, optical networking equipment, engineering design
services, and defense electronics products (formerly referred to as
digital signal processor or DSP). In addition, during 2001 the Company
initiated limited development activities regarding high-density computing
systems.
Prior to 2001 the Company's optical networking equipment business was
conducted primarily through its wholly-owned subsidiary, Intelect Network
Technologies Company ("INT"). In August 2001 substantially all of the
assets of this company, which related to the OmniLynx product line, were
sold to a new entity, Intelect Technologies, Inc. ("ITI"). ITI is owned
67% by an unrelated third party and 33% by the Company. The Company also
conducts limited development activities related to a new generation of
optical networking equipment through a wholly-owned subsidiary, Aegean
Networks, Incorporated.
The Company's engineering design services business, which was conducted
through its wholly-owned subsidiary, DNA Enterprises, Inc., historically
provided high-value product design and development services, primarily to
telecommunications and networking companies. As of December 31, 2001 the
Company commenced a plan to dispose of this business segment.
Accordingly, the operations related to the design services business have
been accounted for as discontinued operations.
The Company's defense electronics business designs, develops, produces
and sells high-capacity computing products which are used primarily in
defense related applications. Beginning in 2001 this business is
conducted through the Company's wholly-owned subsidiary, DNA Computing
Solutions, Inc.
(2) Significant Accounting Policies and Practices
Estimates
The accompanying consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States of America. These principles require management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
Principles of Consolidation
The consolidated financial statements include the financial statements of
the Company and its wholly-owned subsidiaries since their dates of
acquisition. All significant intercompany balances and transactions have
been eliminated in consolidation. The Company's investment in ITI is
accounted for using the equity method of accounting.
42
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
Fair Value of Financial Instruments
Statement of Financial Accounting Standards (SFAS) No. 107, "Disclosures
about Fair Value of Financial Instruments," requires disclosure of the
fair value of certain financial instruments for which it is practicable
to estimate fair value. For purposes of the disclosure requirements, the
fair value of a financial instrument is the amount at which the
instrument could be exchanged in a current transaction between willing
parties, other than in a forced sale or liquidation. The carrying values
of cash, accounts receivable, investments, notes payable and accounts
payable are reasonable estimates of their fair value due to the
short-term maturity of underlying financial instruments.
Revenue and Expense Recognition
Revenue from product sales is recognized upon shipment of products.
Reserves for estimated sales returns and allowances are recorded in the
same accounting period as the related revenues.
Inventories
Inventories consist of raw materials, work in progress and finished
goods, and are stated at the lower of cost (determined on a first-in,
first-out basis) or market.
Property and Equipment
Property and equipment are generally stated at cost. Property and
equipment which in the opinion of management will no longer be utilized
in the Company's operations is valued at the lower of cost and estimated
net realizable value.
Depreciation of equipment is calculated on a straight-line method over
the estimated useful lives of the assets. Equipment held under capital
leases and leasehold improvements are amortized on a straight-line basis
over the shorter of the lease term or estimated useful life of the assets
and included in depreciation expense. The estimated useful lives are as
follows:
Years
-----
Machinery and equipment 5 to 7
Computer equipment 3 to 5
Software 3
Furniture and fixtures 5 to 7
Leasehold improvements 5
Deferred Financing Costs
Deferred financing costs in connection with the issuance of debt are
amortized to interest expense using the effective interest method over
the term of the related debt instrument. A portion of the proceeds from
the issuance of convertible debt securities with beneficial conversion
features and/or detachable stock purchase warrants is recognized as
additional paid-in capital and as a discount to its related debt
instrument. The discount related to beneficial conversion features is
amortized to interest expense ratably from the date of issuance to the
date the related debt first becomes convertible. The discount related to
detachable stock purchase warrants is amortized on the
43
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
straight-line method over the term of the debt. Other costs in
connection with the issuance of the same securities are also deferred
and amortized in the same manner.
Engineering and Development and Software Development Costs
Engineering and development costs are expensed as incurred.
Capitalization of software development costs commences upon the
establishment of technological feasibility and ceases when the product is
generally available for sale. Both the establishment of technological
feasibility and the ongoing assessment of recoverability of capitalized
development costs involve judgments by management with respect to certain
external factors, including, but not limited to, anticipated future
revenues, estimated economic life and possible developments in software
and hardware technologies. During the years ended December 31, 2000 and
1999, the Company capitalized $896,000 and $607,000 of software
development costs and charged operations for $1,832,000 and $1,646,000 of
amortization, respectively. In addition, in 2000 the Company wrote off
and charged operations for the remaining $1,156,000 of unamortized
capitalized software as a result of curtailment of operations related to
its OmniLynx product line (Note 6). Amortization is based on the greater
of estimated product revenues or two years.
Earnings (Loss) Per Common Share
The Company uses the weighted average number of shares outstanding to
compute basic loss per share. Diluted loss per share is computed using
the weighted average number of common shares and dilutive potential
common shares outstanding. In 2001, 2000 and 1999 all potential common
shares were anti-dilutive.
Income Taxes
The Company accounts for income taxes under the liability method as
required by SFAS No. 109, "Accounting for Income Taxes." Under this
method, deferred tax assets and liabilities are determined based on
differences between the financial reporting and income tax bases of
assets and liabilities and are measured using the enacted tax rates and
laws expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. 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.
Cash and Cash Equivalents
For purposes of the consolidated statements of cash flows, cash and cash
equivalents include cash held in banks and time deposits having
maturities within three months of the date of purchase by the Company.
Goodwill
Goodwill, which represents the excess of purchase price over fair value
of net assets acquired, is amortized on a straight-line basis over 10 to
15 years. As of December 31, 2000 the remaining goodwill related entirely
to the engineering design services business. This amount was written off
in connection with the disposal of the business (Note 4). Accumulated
amortization at December 31, 2000 was $3,388,000.
44
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
The Company assesses the recoverability of goodwill by determining
whether the amortization of the goodwill balance over its remaining life
can be recovered through undiscounted future operating cash flows of the
acquired operation. The amount of the goodwill impairment, if any, is
measured based on projected discounted future operating cash flows using
a discount rate reflecting the Company's average cost of funds.
Stock Option Plan
The Company accounts for its stock option plan in accordance with the
provisions of Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees," and related interpretations.
As such, compensation expense is recorded on the date of grant only if
the current market price of the underlying stock exceeded the exercise
price. SFAS No. 123, "Accounting for Stock-Based Compensation," requires
pro forma net income and pro forma earnings per share disclosures for
employee stock option grants as if the fair-value-based method defined in
SFAS No. 123 had been applied.
Warranty Reserve
The Company accrues a reserve for warranty expense based on estimated
future costs.
Reclassification
Certain prior period balances have been reclassified to conform to the
current year presentation.
(3) Liquidity Matters
The Company has incurred significant operating losses in 2001, 2000 and
1999. These losses were funded by proceeds from the issuance of equity
securities and notes payable, and as of December 31, 2001 notes payable
due within one year amounted to $7,554,000. In 2001 and through January
2002, the Company has disposed of certain operations and assets and has
reduced operating expenses. In addition, revenues from the Company's
defense electronics business have increased in each of the last three
years, and management expects the revenue to continue to increase in
2002. Accordingly, management expects the Company to generate positive
cash flow from operations by the end of 2002. However, until that point,
the Company expects to generate losses and negative cash flow from
operations.
In January, 2002 the Company received cash proceeds of $1,660,000 from
the sale of its engineering design services business (Note 4) and in
March, 2002 received cash proceeds of $6,300,000 from the settlement of
litigation (Note 5). Management believes that these amounts will be
sufficient to fund its negative cash flow from operations during 2002;
however, management does not believe these amounts will be sufficient to
repay all outstanding debt as it comes due. Therefore, the continued
existence of the Company is dependent on the refinancing or restructuring
of these obligations.
The Company believes that it will be able to refinance or restructure the
outstanding notes payable due in 2002 through either the issuance of
equity securities, the incurrence of new debt or the modification of the
terms of the exiting notes payable. There can be no assurance the Company
45
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
can refinance or restructure this outstanding debt or that it can do so
under acceptable terms. These financial statements have been prepared
assuming the Company will continue as a going concern and do not include
any adjustments that might result from the outcome of this uncertainty.
(4) Discontinued Operations
As of December 31, 2001 the Company had commenced a plan to dispose of
its engineering design services business. In January 2002 substantially
all of the assets related to this business were sold to Flextronics
International, Ltd. ("Flextronics"). Proceeds from the sale amounted to
$2,800,000 and consisted of $1,660,000 in cash at closing, a hold-back of
$140,000 which is payable six months after the closing to the extent not
offset by indemnity claims and a hold-back of $1,000,000 to be applied
against amounts due to Flextronics pursuant to the design services
agreement discussed below.
In conjunction with the sale, the Company and Flextronics entered into a
design services agreement whereby the Company has agreed to purchase and
Flextronics has agreed to provide a specified number of hours of
engineering design services over the next year. Such services will be
charged at agreed upon rates and will aggregate approximately $1,000,000.
The disposal of these operations has resulted in a loss of $956,000 which
has been recognized as of December 31, 2001. The loss includes the loss
from operations of the design services business from December 31, 2001 to
the date of disposal, certain costs associated with the disposal and
costs associated with a real estate lease related to those operations.
The Company estimates that after approximately one year the real estate
lease will be utilized in other operations or that the cost of the lease
will be mitigated through a sub-lease or other means. Accordingly,
approximately one year of lease costs, or $249,000 has been charged to
the discontinued operations. As of December 31, 2001 and 2000 the net
assets of discontinued operations are comprised of the following (in
thousands):
December 31,
---------------
2001 2000
------ ------
Accounts receivable $ 120 $1,255
Inventories 53 32
Other current assets 14 --
Property and equipment, net 410 827
Goodwill, net 2,283 3,354
------ ------
$2,880 $5,468
====== ======
(5) Subsequent Events
In March 2002, the Company and Cadence Design Systems, Inc. ("Cadence")
settled the litigation the Company had brought against Cadence concerning
the aborted purchase of the Company's engineering design services
business in 1999. Pursuant to the settlement agreement Cadence paid
$9,450,000 in cash, of which the Company retained $6,300,000 after the
payment of legal fees under a contingent fee arrangement. The Company
will recognize a gain of approximately $6,300,000 in the first quarter of
2002 as a result of this settlement.
46
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
(6) Investment in Affiliate
On August 30, 2001 the Company completed the sale of essentially all of
the assets related to the OmniLynx product line to ITI, which is a
corporation owned 67% by Singapore Technologies Electronics Ltd. and 33%
by the Company. Concurrent with the sale of the assets the Company
contributed $1,250,000 to ITI for its 33% equity interest. The Company
has minority board of director representation in ITI and exercises no
day-to-day control over the operations of ITI; therefore, the Company
accounts for its equity interest using the equity method of accounting.
As of December 31, 2001 the Company's proportionate share of the net
assets of ITI amounts to approximately $1,300,000.
Summary unaudited financial information for ITI is as follows (in
thousands):
As of
December 31,
2001
------------
Current assets $7,057
Non-current assets 39
------
$7,096
======
Current liabilities $3,154
Non-current liabilities --
Stockholders' equity 3,942
------
$7,096
======
Four months
ended
December 31,
2001
------------
Net sales $2,823
Cost of sales 1,312
Operating expenses 1,253
------
Operating profit 258
Other expenses 19
------
Income before taxes 239
Income taxes 129
------
Net income $ 110
======
47
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
The Company had, in the fourth quarter of 2000 determined that, due to
changes in certain target markets, its OmniLynx product line of optical
networking equipment no longer fit into its long-term objectives and
began plans to sell the product line and related operations. From that
point until the ultimate disposal of those assets to ITI the operations
related to the OmniLynx product line were significantly curtailed. As of
December 31, 2000 the Company adjusted the carrying value of these assets
to their estimated net realizable value and classified such assets as
Assets Held for Sale. This resulted in a charge to operations in the
fourth quarter of 2000 as follows (in thousands):
Reduction of inventory to estimated net
realizable value $5,642
Reduction of property and equipment
to estimated net realizable value 2,199
Write-off of capitalized software development
costs and purchased intangibles 1,383
Other 27
------
Asset writedown $9,251
======
Assets held for sale as of December 31, 2000 consisted of the following
(in thousands):
Inventory $3,661
Property and equipment 1,232
------
$4,893
======
Pursuant to the sale of the OmniLynx assets to ITI, the Company received
a net cash payment of $1,000,000 and is entitled to receive additional
amounts from ITI based upon the utilization of inventory acquired from
the Company and based on the financial position of ITI at certain points
in time. The maximum additional amount that could be received from ITI is
approximately $2,700,000, although the Company estimates the actual
amount will be significantly less. Because of uncertainties regarding the
amount to be received, the Company has recognized no gain or loss on the
sale. This resulted in the receivable from ITI being recorded at
$780,000. The Company retained accounts receivable arising prior to this
transaction, as well as accounts payable and other liabilities, such as
warranty obligations, which arose prior to the sale. As a result of
exiting the OmniLynx business, the Company incurred certain non-recurring
expenses totaling $2,101,000 which have been classified as Costs Related
to Sale of Assets in the Statement of Operations.
(7) Inventories
The components of inventories are as follows (in thousands):
December 31,
---------------
2001 2000
------ ------
Raw materials $2,615 $1,827
Work in progress 493 289
Finished goods 154 27
------ ------
Total $3,262 $2,143
====== ======
48
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
(8) Property and Equipment
Property and equipment are summarized as follows (in thousands):
December 31,
------------------
2001 2000
------- -------
Machinery and equipment $ 940 $ 854
Computer equipment 288 278
Software 326 282
Furniture and fixtures 144 90
Leasehold improvements 101 37
------- -------
1,799 1,541
Less:
Accumulated depreciation and amortization (1,161) (843)
------- -------
Total $ 638 $ 698
======= =======
(9) Notes
Notes payable consist of the following (in thousands):
December 31,
---------------
2001 2000
------ ------
Guaranteed bank facilities (A) $6,000 $ --
Short-term notes (B) 1,454 --
Other (C) 100 100
------ ------
$7,554 $ 100
====== ======
(A) In June 2001 the Company entered into a loan agreement with Bank One,
N.A. which provides for borrowings of up to $4,500,000 on a non-revolving
basis. Amounts borrowed are to be repaid with the proceeds of certain
asset sales with all outstanding amounts due May 31, 2002. Interest is
payable monthly at LIBOR plus 1.75% (3.69% at December 31, 2001). This
facility is secured by letters of credit with an aggregate face amount of
$5,000,000 issued by certain individuals.
In October 2001 the Company entered into another loan agreement with Bank
One, N.A. which provides for borrowings of up to $1,500,000 on a
revolving basis. Amounts outstanding under this facility are due May 31,
2002. Interest is payable monthly at prime (4.75% at December 31, 2001).
This facility is secured by the guaranty of an individual.
In connection with the letters of credit and guaranty of the above
facilities, the Company has entered into reimbursement agreements with
the parties providing the security. The agreements provide that the
Company will reimburse the securing parties for any costs associated with
the letters of credit and guaranty, including any amounts which those
parties may be required to fund to the bank. The Company has agreed to
grant these parties a security interest in certain accounts receivable
and inventories in the event they must fund amounts to the bank. In
addition, the Company has agreed not to pledge any of its assets or to
incur indebtedness in excess of $1,000,000 without the consent of the
securing parties. As consideration for providing this security
49
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
the Company has issued warrants for the purchase of the Company's common
stock to the securing parties. These warrants, all of which expire May
31, 2004, provide for the purchase of 360,000 shares at $0.20 per share,
1,200,000 shares at $0.75 per share and 600,000 shares at $0.80 per
share. In addition certain existing warrants for the purchase of 800,000
shares of common stock have been amended to provide for an exercise price
of $0.75 per share. These warrants had original exercise prices ranging
from $2.00 to $2.998 per share. The fair value of the new warrants and
the amendment to the existing warrants is $140,000 using the
Black-Scholes pricing model. This amount is being amortized over the term
of the loans and is included in interest expense.
(B) Certain of the parties providing security for the loan agreements
described above, also have provided the Company with a series of cash
advances. These advances are pursuant to a series of short-term notes.
The notes provide for interest at 8% annually, payable upon maturity of
the note. Of the amounts outstanding at December 31, 2001 $854,000 is
payable upon demand and $600,000 is payable on October 12, 2002.
(C) Consists of $100,000 payable to an officer and director under a
demand note bearing interest of prime plus 3%. This note may be converted
into common stock at the option of the holder at the rate of $1.00 per
share.
(10) Commitments
Leases -
The Company leases office space and certain equipment under leases
expiring at various dates through 2005. Rental expense under operating
leases was approximately $1,008,000, $1,284,000, and $1,345,000 for the
years ended December 31, 2001, 2000 and 1999, respectively.
Future minimum commitments as of December 31, 2001 under operating leases
are as follows (in thousands).
Years ending December 31,
2002 $ 827
2003 723
2004 416
------
2005 88
======
Total minimum lease payments $2,054
Other -
As of December 31, 2001 the Company was obligated under non-cancelable
purchase orders for goods and services amounting to approximately
$100,000.
50
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
(11) Employee Benefit Plans
The Company sponsors defined contribution 401(k) plans for substantially
all employees. Pursuant to the plans, employees may request the Company
to deduct and contribute amounts from their salary on a pre-tax basis.
Employee contributions are subject to certain limitations and the Company
may make matching contributions, at its discretion. The Company may also
make discretionary contributions in addition to matching contributions.
Company contributions vest ratably over periods of four to five years,
beginning in the second or first year of employment, respectively.
Company contributions to the plans were $158,000, $231,000 and $326,000
for the years ended December 31, 2001, 2000 and 1999, respectively.
(12) Income Taxes
The difference between the actual income tax benefit and the benefit
computed by applying the statutory corporate income tax rate of 34% to
pretax losses from continuing operations is attributable to the following
(in thousands):
Years ended December 31,
---------------------------------
2001 2000 1999
--------- --------- ---------
Computed expected tax benefit $ (7,327) $(10,054) $(10,060)
Increase in valuation allowance 7,187 9,328 9,837
Non-deductible expenses 230 251 394
Other (90) 475 (171)
-------- -------- --------
Tax expense $ -- $ -- $ --
======== ======== ========
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at
December 31, 2001 and 2000 are as follows (in thousands):
December 31,
--------------------
2001 2000
-------- --------
Deferred tax assets:
Preacquisition net operating loss carryforwards $ 4,831 $ 4,831
Postacquisition net operating loss carryforwards 52,768 42,287
Accounts receivable 546 575
Inventories 176 2,026
Property and equipment -- 748
Software development costs -- 393
Accrued liabilities 470 666
Alternative minimum tax and other credit
carryforwards 38 38
Other -- 78
-------- --------
58,829 51,642
Less valuation allowance (58,784) (51,597)
-------- --------
Deferred tax assets $ 45 $ 45
Deferred tax liabilities (45) (45)
-------- --------
$ -- $ --
======== ========
51
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
At December 31, 2001, the Company had federal operating loss
carryforwards of approximately $169,408,000. The future utilization of
$14,210,000 of the preacquisition net operating losses will be limited
under Internal Revenue Code Sections 382 and 383.
Following is a summary of the carryforwards and the expiration dates as
of December 31, 2001 (in thousands):
Expiration
Amounts Dates
---------------- ----------------
Postacquisition net operating loss carryforwards $ 155,198 2012-2021
Preacquisition net operating loss carryforwards $ 14,210 2008-2009
(13) Warrant Issuances
The Company has issued various series of warrants in connection with debt
and equity financings, and as compensation for investment banking and
other services. As of December 31, 2001 there are outstanding warrants to
purchase 33,315,510 shares of the Company's common stock as follows:
Shares Subject to Warrants Exercise Price Expiration Date
--------------------------------- -------------------------------- --------------------
29,277,308 $0.16 to $0.75 2002-2004
840,000 $2.00 2002-2004
2,705,000 $2.27 2003
493,202 Greater than $2.27 2003
All of the warrants outstanding above are exercisable. Warrants for
19,500,000 common shares may be redeemed by the Company any time at a
price of $6.75 per share. In February and March of 2000, warrants for the
purchase of 2,495,000 shares of common stock were exercised, resulting in
net proceeds to the Company of approximately $5,180,000.
The issuance of warrants during the three year period ended December 31,
2001 is as follows:
2001
In June, 2001 and October, 2001, the Company issued warrants for the
purchase of an aggregate of 2,160,000 shares of common stock in
connection with certain credit arrangements (Note 9).
2000
In January, 2000 the Company issued warrants for the purchase of
4,780,166 shares of common stock in connection with a private placement
of common stock.
In November, 2000 the Company issued warrants for the purchase of
19,500,000 shares of common stock in connection with the settlement with
St. James Capital Partners, L.P. and certain of its affiliates ("St.
James") involving the anti-dilution provisions of warrants previously
issued to St. James. In connection with this settlement St. James
returned to the Company, and the Company cancelled, warrants for the
purchase of 2,035,000 shares of common stock.
52
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
1999
In August, 1999 and December, 1999 the Company issued to The Coastal
Corporation Second Pension Trust warrants for the purchase of 1,067,308
and 5,000,000 shares of common stock, respectively. These warrants were
issued in connection with restructuring of the Company's capital
structure and the purchase of the Company's common stock. As a part of
the December, 1999 transaction the August warrants and warrants for the
purchase of 450,000 shares of common stock previously issued to Coastal
were amended to adjust the exercise price to $0.75. The value of the
warrants issued in August, which was attributable to the refinancing of
debt of approximately $707,000 based on a Black-Scholes pricing model was
treated as deferred financing costs and is being amortized over the
remaining term of the debt.
In February, 1999 in connection with the issuance of Series E preferred
stock, the Company issued warrants for the purchase of an aggregate of
600,000 shares of common stock. In connection with the issuance of common
stock in January of 1999, the Company issued warrants for the purchase of
690,000 shares of common stock. The value of those warrants was
approximately $636,000 using a Black Scholes pricing model.
In January, 1999 in connection with the extension of debt obligations to
St. James, the Company issued warrants for the purchase of 535,000 shares
of common stock. The value of these warrants, approximately $349,000
using a Black-Scholes pricing model, was treated as deferred financing
costs and amortized over the term of the remaining debt.
In December, 1999 the Company issued warrants for the purchase of 250,000
shares of common stock for investment banking services related to the
private placement of common stock which was completed in January, 2000.
(14) Employee Stock Option Plan
In 1995, the Company adopted a stock option plan (the "Plan") pursuant to
which the Company's Board of Directors may grant stock options to
directors, officers and key employees. The Plan, as amended by the
shareholders in June 2001, authorizes grants of options to purchase up to
9,000,000 shares of authorized common stock. The exercise price for stock
options granted may range from 75% to 110% of the fair market value of
the shares on the date of grant. All stock options have 10-year terms and
vest and become fully exercisable according to schedules determined by
the Board of Directors, generally one-third on each of the first three
anniversaries of the date of grant. At December 31, 2001, there were
1,270,757 shares available for grant under the Plan. The Plan replaced a
predecessor plan which continues only to the extent that there are
140,000 unexercised options outstanding at December 31, 2001.
53
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
The weighted-average fair value per share of stock options granted during
2001, 2000 and 1999 was $0.43, $1.77 and $0.64 , respectively, on the
dates of grants. The fair value of each option grant is estimated on the
date of grant using the Black-Scholes option pricing model, with the
following weighted-average assumptions:
Years ended December 31,
-----------------------------------------------------
2001 2000 1999
------- ------------ -------
Expected dividend yield 0% 0% 0%
Stock price volatility 150% 130% 100%
Risk free interest rate 4.8% to
5.4% 6.2% 4.6%
Expected option term 7 years 3 to 5 years 3 years
The Company applies APB Opinion No. 25 in accounting for its Plan and,
accordingly, recognizes compensation expense with respect to certain
options granted at exercise prices less than the stock's market value on
the date of grant. During the three years ended December 31, 2001 no
compensation expense related to below market options has been recognized.
Had the Company determined compensation cost based on the fair value on
the grant date for its stock options under SFAS No. 123, the Company's
net losses would have been increased to pro forma amounts as follows:
Years ended December 31,
-------------------------------------------
2001 2000 1999
--------- --------- ---------
$ (in Thousands)
Net loss allocable to
common shareholders:
As reported $(21,549) $(30,538) $(34,517)
Pro forma $(22,751) $(33,085) $(37,693)
Loss per share:
As reported $ (0.25) $ (0.37) $ (0.74)
Pro forma $ (0.26) $ (0.40) $ (0.81)
Stock option activity during the periods indicated was as follows:
Years ended December 31,
---------------------------------------
2001 2000 1999
---------- ---------- -----------
Number of options:
Outstanding, beginning of
Period 5,530,305 4,372,197 4,031,044
Granted 1,917,000 2,458,000 1,913,000
Exercised -- (452,159) --
Canceled (1,178,837) (847,733) (1,571,847)
---------- ---------- ----------
Outstanding, end of period 6,268,468 5,530,305 4,372,197
54
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
Weighted average exercise price:
Outstanding, beginning of
period $1.50 $1.39 $2.23
Granted $0.44 $2.05 $1.13
Exercised $ - $2.61 $ -
Canceled $1.62 $1.91 $2.14
Outstanding, end of period $1.15 $1.50 $1.39
In January 2002 in connection with the disposal of discontinued
operations 672,636 options were canceled.
In October 1999 the exercise price of 1,535,000 options was reduced to
$1.00 per share from approximately $2.00 per share.
At December 31, 2001, 2000 and 1999, the number of options exercisable
was 3,724,046, 2,169,995, and 2,066,675, respectively, and the
weighted-average exercise price of those options was $1.40, $1.92, and
$2.49, respectively.
Additional information with respect to options outstanding at December
31, 2001 is as follows:
Options outstanding Options exercisable
----------------------------------------------------------------- -------------------------
Weighted Weighted
Weighted average Option average Option average
Exercise prices remaining shares exercise shares exercise
per share contractual life outstanding price exercisable price
---------------- ---------------- -------------- --------- ------------ --------
$0.380-$1.000 8.49 years 4,109,999 $0.748 2,446,596 $0.850
$1.010-$2.660 7.87 years 1,486,803 $1.397 959,124 $1.511
$2.661-$3.156 7.32 years 671,666 $3.104 318,326 $3.072
--------- ---------
6,268,468 3,724,046
========= =========
(15) Contingencies
The Company is contingently liable for certain potential liabilities
related to a discontinued operation. Specifically, under a stock purchase
agreement dated October 3, 1995 ("1995 Agreement"), the Company agreed to
indemnify Savage Sports Corporation, the purchaser of Savage Arms, Inc.
(a manufacturer of firearms), for certain product liability,
environmental clean-up costs and other contractual liabilities, including
certain asserted successor liability claims. One of the liabilities
assumed involves a firearms product liability lawsuit filed in Alaska
Superior Court (the "Taylor litigation"). The Company is informed that a
defendant in the Taylor litigation, Western Auto Supply Co., settled the
lawsuit for $5 million and, in turn, has asserted a third-party claim
against Savage Arms, Inc. for indemnification in the amount of the
settlement plus attorneys' fees and related costs. Savage Arms has
asserted defenses to the claims and the Company believes additional
defenses may be available. Based on the information available to date, it
is impossible to predict the outcome of this litigation or to assess the
probability of any verdict.
55
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
A shareholders class action lawsuit was filed in the U. S. District Court
for the Northern District of Texas purported to have been filed on behalf
of all persons and entities who purchased Intelect common stock during
the period between February 24, 1998 and November 17, 1998. The named
defendants include the Company and certain former and present officers
and directors of the Company. The complaint alleges that the defendants
violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934
and Rule 10b-5 promulgated thereunder by making false and misleading
statements concerning Intelect's reported financial results during the
period, primarily relating to revenue recognition, asset impairment and
capitalization issues. The plaintiffs seek monetary damages, interest,
costs and expenses. The Company intends to defend the suit vigorously in
all aspects.
In June 2000 Savage filed suit against the Company in Superior Court in
Hampton County, Massachusetts seeking reimbursement from the Company of
various amounts related to a settlement of various product liability
claims between Savage and Emhart Industries, Inc. In January 2001, the
Company and Savage entered into a settlement agreement disposing of this
litigation. Pursuant to the agreement the Company agreed to pay Savage
approximately $1,200,000 over two years, including approximately $600,000
upon the signing of the agreement, and agreed to contribute towards the
annual cost of product liability insurance which covers any future
claims. The settlement was recorded in the financial statements as of
December 31, 2000.
During 2000, the Company settled a dispute with a former professional
service provider which resulted in cash and non-cash proceeds to the
Company totaling approximately $1,070,000.
(16) Segments of Business and Geographic Areas
The Company's primary business segments consist of (a) optical networking
equipment in which the Company designs, develops, manufactures and
markets optical networking equipment used in the telecommunications
industry and (b) defense electronics (formerly referred to as digital
signal processor (or DSP) in which the Company provides state-of-the-art
digital processing products to product manufacturers and application
developers.
The accounting policies of the segments are the same as those described
in the significant accounting policies and practices (Note 2).
Sales to external customers (in thousands):
Years ended December 31,
---------------------------
2001 2000 1999
------- ------- -------
Optical networking equipment $ 2,368 $ 6,994 $ 9,479
Defense electronics 4,195 3,599 1,411
Other 259 1,155 1,213
------- ------- -------
Total $ 6,822 $11,748 $12,103
======= ======= =======
Included in the above were direct and indirect export sales of
(in thousands):
------ ------ ------
Total $ 863 $1,732 $ 363
====== ====== ======
56
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
Segment-specific margins (gross profit less total engineering and
development costs, including capitalized software, and asset write downs
for the segment) (in thousands):
Years ended December 31,
---------------------------------
2001 2000 1999
--------- --------- ---------
Optical networking equipment $ (1,336) $(15,463) $ (6,734)
Defense electronics (2,710) (1,347) (641)
Other (2,189) 498 (4,465)
-------- -------- --------
Subtotal segment specific (6,235) (16,312) (11,840)
Capitalized software costs -- 896 606
All other expenses (10,771) (13,864) (12,015)
-------- -------- --------
Operating loss $(17,006) $(29,280) $(23,249)
======== ======== ========
Assets, capital expenditures and depreciation are identifiable only by
combined segments, as grouped below (in thousands):
At December 31,
---------------------------
ASSETS 2001 2000 1999
------- ------- -------
Optical networking equipment
and other $ 2,625 $ 8,902 $15,638
Defense electronics 4,052 8,450 6,790
Not allocable to a segment 3,519 6,652 1,914
------- ------- -------
Total $10,196 $24,004 $24,342
======= ======= =======
Years ended December 31,
------------------------
2001 2000 1999
------ ------ ------
CAPITAL EXPENDITURES
Optical networking equipment
and other $ -- $1,165 $ 876
Defense electronics 83 688 99
Not allocable to a segment 242 35 70
------ ------ ------
Total $ 325 $1,888 $1,045
====== ====== ======
DEPRECIATION
Optical networking equipment
and other $ -- $1,509 $1,545
Defense electronics 130 531 471
Not allocable to a segment 528 16 31
------ ------ ------
Total $ 658 $2,056 $2,047
====== ====== ======
(17) Related Party Transactions
During the years ended December 31, 2000 and 1999 the Company paid legal
fees in the amounts of $379,000 and $1,503,000, respectively, for legal
services from a law firm affiliated with a former director.
57
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (continued)
(18) Significant Customers and Concentration of Credit Risk
In 2001 one defense electronics customer accounted for 37% of
consolidated net revenues.
In 2000 one optical networking customer accounted for 28% and one defense
electronics customer accounted for 20%, of consolidated net revenues.
In 1999 three optical networking customers accounted for 26%, 18% and
13%, respectively, of consolidated net revenue.
The Company is subject to credit risk through trade receivables.
(19) Supplemental Disclosure of Cash Flow Information
Years ended December 31,
------------------------------------------------------------
2001 2000 1999
------------------ ------------------ -----------------
(in thousands)
Cash paid during the period for:
Interest $131 $665 $622
Noncash Financing and Investment Transactions
During the years ended December 31, 2001, 2000 and 1999 the Company
recorded the following non-cash financing transactions:
2001:
o Issued common stock in settlement of approximately $387,000 due to
certain former employees pursuant to retention and termination
agreements.
2000:
o Issued common stock in repayment of approximately $8,300,000 of
interest and principal on a note payable.
1999:
o Issued common stock in repayment of $11,000,000 of interest and
principal on notes payable.
o Issued common stock in exchange for all outstanding Series C, D
and E Preferred Stock.
o Issued common stock in payment of preferred stock dividends of
$830,000.
o Issued common stock in payment of directors' fees of $228,000.
58
TERAFORCE TECHNOLOGY CORPORATION AND SUBSIDIARIES
Notes to Consolidated Financial Statements (concluded)
(20) Valuation and Qualifying Accounts
Additions Additions
Balance at charged to charged to Balances
beginning of costs and other at end
period expenses accounts Deductions of period
-------------- -------------- ------------- --------------- -----------
(In thousands)
Allowance for doubtful accounts:
For the year ended December 31, 2001 $1,691 $ 405 $ - $490(a) $1,606
For the year ended December 31, 2000 $1,228 $1,322 $ - $859(a) $1,691
For the year ended December 31, 1999 $ 870 $ 810 $ - $452(a) $1,228
Notes:
(a) Accounts written off
(21) Quarterly Information (Unaudited)
Quarter ended:
-------------------------------------------------
March 31 June 30 September 30 December 31
--------- -------- ------------ -----------
(In thousands, except per share amounts)
Year ended December 31, 2001:
Net revenue $ 3,054 $ 1,892 $ 925 $ 951
Gross profit (loss) $ (120) $ (61) $ (585) $ (373)
Net income (loss) $ (4,905) $ (4,345) $ (6,747) $ (5,552)
Net income (loss) per share $ (0.06) $ (0.05) $ (0.08) $ (0.06)
Year ended December 31, 2000:
Net revenue $ 3,075 $ 3,351 $ 2,112 $ 3,210
Gross profit (loss) $ 94 $ (368) $ (369) $ (862)
Net income (loss) $ (4,552) $ (4,690) $ (4,627) $(15,703)
Net income (loss) per share $ (0.07) $ (0.06) $ (0.05) $ (0.18)
59
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The Company will file with the Securities and Exchange Commission a
definitive Proxy Statement no later than 120 days after the close of its fiscal
year ended December 31, 2001 (the "Proxy Statement"). The information required
by this Item is incorporated by reference from the Proxy Statement.
ITEM 11 - EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference from
the Proxy Statement.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated by reference from
the Proxy Statement.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item is incorporated by reference from
the Proxy Statement.
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
A. The Financial Statements filed as part of this report are listed and
indexed on Page 34. Schedules other than those listed in the index have been
omitted because they are not applicable or the required information has been
included elsewhere in this report.
B. Listed below are all Exhibits filed as part of this report. Certain
Exhibits are incorporated by reference to documents previously filed by the
Registrant with the Securities and Exchange Commission pursuant to Rule 12b-32
under the Securities Exchange Act of 1934, as amended. Exhibits which are
incorporated by reference are indicated by the information in the parenthetical
following such exhibit.
Exhibit Description of Exhibit
------- ----------------------
3.1 Amended and Restated Certificate of Incorporation of the Company, as
currently in effect (2)
3.2 Amended and Restated By-Laws of the Company (1)
4.1 Registration Rights Agreement dated as of May 8, 1997 between the
Company and The Coastal Corporation Second Pension Trust (4)
4.2 Warrant issued to Hambrecht & Quist LLC exercisable to purchase up to
33,036 shares of Common Stock at an exercise price of $10.292 per
share, expiring May 20, 2003 (5)
60
Exhibit Description of Exhibit
------- ----------------------
4.3 Amended and Restated Warrant issued to AJC, Inc. exercisable to
purchase up to 300,000 shares of Common Stock (6)
4.4 Form of Registration Rights Agreement between the Company and the
Buyers, dated as of December 22, 1998 (3)
4.5 Form of Warrant to Purchase Common Stock of Intelect Communications,
Inc. at an exercise price of $2.998 (3)
4.6 Form of Warrant to Purchase Common Stock of Intelect Communications,
Inc. issued to St. James Capital Partners, L.P. and SJMB, L.P. dated
November 30, 2000 (3)
4.7 Registration Rights Agreement between the Company and Coastal (7)
4.8 Registration Rights Agreement among the Company and the Buyers, dated
February 24, 1999, relating to the Series E Convertible Preferred
Stock and warrants (3)
4.9 Form of Warrant to Purchase Common Stock of Intelect Communications,
Inc., relating to the Series E Preferred Stock (3)
4.10 Warrant issued to Coastal to purchase 5,000,000 shares of common
stock of Intelect at $0.75 per share (8)
4.11 Warrant issued to Coastal to purchase 450,000 shares of common stock
of Intelect at $0.75 per share (8)
4.12 Warrant issued to Coastal to purchase 1,067,308 shares of common
stock of Intelect at $0.75 per share (8)
4.13 Registration Rights Agreement dated December 21, 1999 between
Intelect and Coastal (8)
4.14 Form of Warrant issued to Stonegate and the Investors to purchase
common stock of Intelect Communications, Inc. at $2.50 per share,
subject to adjustment (9)
4.15 Warrant issued to Stonegate to purchase 250,000 shares of common
stock of Intelect Communications, Inc. at $1.00 per share (9)
4.16 Form of Registration Rights Agreement dated January 27, 2000 between
Intelect Communications, Inc., the Investors names therein, and
Stonegate (9)
4.17 Form of Warrant issued to Stonegate affiliates to purchase common
stock of Intelect Communications, Inc. at $6.00 per share, subject to
adjustment (10)
4.18 Form of Registration Rights Agreement dated March 14, 2000 between
Intelect Communications, Inc., the Investors named therein, and
Stonegate (10)
4.19 Form of Amended and Restated Promissory Notes held by affiliate,
convertible into Common Stock of the Company at a rate of $1.00 per
share (14)
4.20 Form of Warrant with exercise price of $0.75 per share expiring on
May 31, 2004(18)
4.21 Registration Rights Agreement dated June 1, 2001 among the Company
and Oscar S. Wyatt, Jr. Fayez Sarofim and Morton Cohn (18)
4.22 Form of Warrant with exercise price of $0.80 per share expiring on
May 31, 2004(20)
4.23 Form of Warrant with exercise price of $0.20 per share expiring on
May 31, 2004(20)
10.1 Employment Agreement between the Company and Herman Frietsch and
Amendment thereto* (14)
10.2 Employment Agreement dated as of January 1, 2001 between the Company
and Eugene Helms*
10.3 Lease Agreement between TCIT Dallas Industrial and Intelect Network
Technologies, dated February 25, 1997 (12)
10.4 Lease Agreement between Campbell Place One Joint Venture and DNA
Enterprises, dated February 1, 1997 (12)
10.5 Settlement Agreement and Mutual Release dated November 30, 2000 among
the Company and St. James Capital Partners, L.P. and SJMB, L.P. (13)
10.6 Agreement to Form Joint Venture dated August 17, 2001 between the
Company and Singapore Technologies Electronics Limited (16)
61
Exhibit Description of Exhibit
------- ----------------------
10.7 Sharing Agreement dated August 30, 2001 among the Company, Intelect
Network Technologies Company and Intelect Technologies Inc. (16)
10.8 Stockholders Agreement dated August 30, 2001 among the Company,
Intelect Technologies Inc. and Singapore Technologies Electronics
Limited (16)
10.9 Transition Services Agreement dated August 30, 2001 between the
Company and Intelect Technologies Inc. (16)
10.10 Asset Purchase Agreement dated January 11, 2002 among the Company,
Flextronics Design S.D., Inc. and DNA Enterprises, Inc. (17)
10.11 Design / Engineering Services Agreement dated January 11, 2002
between the Company and Flextronics Design S.D. (17)
10.12 Form of Promissory Note dated June 1, 2001 in favor of Bank One, N.A.
(18)
10.13 Business Loan Agreement dated June 1, 2001 between the Company and
Bank One, N.A. (18)
10.14 Reimbursement Agreement dated June 1, 2001 among the Company and
Oscar S. Wyatt, Jr., Fayez Sarofim and Morton Cohn (18)
10.15 Form of Subsidiary Stock Incentive Plan (19)
10.16 Form of Promissory Note dated October 12, 2001 in favor of Bank One,
N.A. (20)
10.17 Loan Agreement dated October 12, 2001 between the Company and Bank
One, N.A. (20)
10.18 Reimbursement Agreement dated October 12, 2001 between the Company
and Oscar S. Wyatt, Jr. (20)
10.19 Promissory Note dated October 5, 2001(20)
10.20 Promissory Note dated October 12, 2001(20)
10.21 Promissory Note dated September 29, 2001
10.22 Promissory Note dated November 30, 2001
10.23 Promissory Note dated December 14, 2001
10.24 Promissory Note dated February 11, 2001
10.25 Employment Agreement dated January 1, 2001 between the Company and
Robert P. Capps *
10.26 Release and Settlement Agreement dated January 19, 2001 between the
Company and Savage Arms, Inc.
10.27 Settlement and Release Agreement dated March 4, 2002 among the
Company, DNA Enterprises, Inc. and Cadence Design Systems, Inc.
10.28 Amended and Restated Stock Incentive Plan *(19)
21.1 Subsidiaries of the Company
23.1 Consent of Grant Thornton LLP
-------------------
*Management contract or other compensatory plan or arrangement.
(1) Incorporated herein by reference to the Company's Form S-4 filed October
30, 1997
(2) Incorporated herein by reference to the Company's Form 8-K filed on
February 1, 2001
(3) Incorporated herein by reference to the Company's Form 8-K filed on March
2, 1999
(4) Incorporated herein by reference to the Company's Form 10-Q filed August
14, 1997
(5) Incorporated herein by reference to the Company's Form 10-Q filed on
August 14, 1998
(6) Incorporated herein by reference to the Company's Form 10-Q filed on
November 17, 1998
(7) Incorporated herein by reference to the Company's Form 8-K filed on
August 18, 1999
(8) Incorporated herein by reference to the Company's Form 8-K filed on
December 22, 1999
(9) Incorporated herein by reference to the Company's Form 8-K filed on
February 8, 2000
(10) Incorporated herein by reference to the Company's Form 8-K filed on March
21, 2000
(11) Incorporated herein by reference to the Company's Form 10-Q filed
November 13, 1996
(12) Incorporated herein by reference to the Company's Form 10-Q filed May 15,
1997
62
(13) Incorporated herein by reference to the Company's Form 8-K filed on
December 4, 2000
(14) Incorporated herein by reference to the Company's Form 10-K filed on
March 30, 2000
(15) Incorporated herein by reference to the Company's Definitive Proxy
Statement filed on April 30, 1999
(16) Incorporated herein by reference to the Company's Form 8-K filed
September 7, 2001
(17) Incorporated herein by reference to the Company's Form 8-K filed January
15, 2002
(18) Incorporated herein by reference to the Company's Form 10-Q filed August
14, 2001
(19) Incorporated herein by reference to the Company's Definitive Proxy
Statement filed on April 30, 2001
(20) Incorporated herein by reference to the Company's Form 10-Q filed
November 14, 2001
C. The Registrant has not filed any reports on Form 8-K during the last
quarter of the period covered by this Report, except as follows:
Form 8-K/A filed on November 6, 2001 - Item 7 "Financial Statements and
Exhibits"
63
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.
TERAFORCE TECHNOLOGY CORPORATION
(Registrant)
Date: April 12, 2002 By: /s/ HERMAN M. FRIETSCH
------------------------
Herman M. Frietsch
Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities indicated on April 12, 2002.
/s/ HERMAN M. FRIETSCH /s/ ANTON VON AND ZU LIECHTENSTEIN
-------------------------------------------------------------- ------------------------------------------------------------
Herman M. Frietsch Anton von and zu Liechtenstein, Director
Chief Executive Officer and Director
(Principal Executive Officer)
/s/ ROBERT P. CAPPS /s/ ROBERT E. GARRISON, II
-------------------------------------------------------------- ------------------------------------------------------------
Robert P. Capps Robert E. Garrison, II, Director
Chief Financial Officer
(Principal Financial and Accounting Officer)
/s/ DAVID H. YEDWAB
------------------------------------------------------------
David H. Yedwab, Director
64
INDEX TO EXHIBITS
Exhibit Description of Exhibit
------- ----------------------
3.1 Amended and Restated Certificate of Incorporation of the Company, as
currently in effect (2)
3.2 Amended and Restated By-Laws of the Company (1)
4.1 Registration Rights Agreement dated as of May 8, 1997 between the
Company and The Coastal Corporation Second Pension Trust (4)
4.2 Warrant issued to Hambrecht & Quist LLC exercisable to purchase up to
33,036 shares of Common Stock at an exercise price of $10.292 per
share, expiring May 20, 2003 (5)
Exhibit Description of Exhibit
------- ----------------------
4.3 Amended and Restated Warrant issued to AJC, Inc. exercisable to
purchase up to 300,000 shares of Common Stock (6)
4.4 Form of Registration Rights Agreement between the Company and the
Buyers, dated as of December 22, 1998 (3)
4.5 Form of Warrant to Purchase Common Stock of Intelect Communications,
Inc. at an exercise price of $2.998 (3)
4.6 Form of Warrant to Purchase Common Stock of Intelect Communications,
Inc. issued to St. James Capital Partners, L.P. and SJMB, L.P. dated
November 30, 2000 (3)
4.7 Registration Rights Agreement between the Company and Coastal (7)
4.8 Registration Rights Agreement among the Company and the Buyers, dated
February 24, 1999, relating to the Series E Convertible Preferred
Stock and warrants (3)
4.9 Form of Warrant to Purchase Common Stock of Intelect Communications,
Inc., relating to the Series E Preferred Stock (3)
4.10 Warrant issued to Coastal to purchase 5,000,000 shares of common
stock of Intelect at $0.75 per share (8)
4.11 Warrant issued to Coastal to purchase 450,000 shares of common stock
of Intelect at $0.75 per share (8)
4.12 Warrant issued to Coastal to purchase 1,067,308 shares of common
stock of Intelect at $0.75 per share (8)
4.13 Registration Rights Agreement dated December 21, 1999 between
Intelect and Coastal (8)
4.14 Form of Warrant issued to Stonegate and the Investors to purchase
common stock of Intelect Communications, Inc. at $2.50 per share,
subject to adjustment (9)
4.15 Warrant issued to Stonegate to purchase 250,000 shares of common
stock of Intelect Communications, Inc. at $1.00 per share (9)
4.16 Form of Registration Rights Agreement dated January 27, 2000 between
Intelect Communications, Inc., the Investors names therein, and
Stonegate (9)
4.17 Form of Warrant issued to Stonegate affiliates to purchase common
stock of Intelect Communications, Inc. at $6.00 per share, subject to
adjustment (10)
4.18 Form of Registration Rights Agreement dated March 14, 2000 between
Intelect Communications, Inc., the Investors named therein, and
Stonegate (10)
4.19 Form of Amended and Restated Promissory Notes held by affiliate,
convertible into Common Stock of the Company at a rate of $1.00 per
share (14)
4.20 Form of Warrant with exercise price of $0.75 per share expiring on
May 31, 2004(18)
4.21 Registration Rights Agreement dated June 1, 2001 among the Company
and Oscar S. Wyatt, Jr. Fayez Sarofim and Morton Cohn (18)
4.22 Form of Warrant with exercise price of $0.80 per share expiring on
May 31, 2004(20)
4.23 Form of Warrant with exercise price of $0.20 per share expiring on
May 31, 2004(20)
10.1 Employment Agreement between the Company and Herman Frietsch and
Amendment thereto* (14)
10.2 Employment Agreement dated as of January 1, 2001 between the Company
and Eugene Helms*
10.3 Lease Agreement between TCIT Dallas Industrial and Intelect Network
Technologies, dated February 25, 1997 (12)
10.4 Lease Agreement between Campbell Place One Joint Venture and DNA
Enterprises, dated February 1, 1997 (12)
10.5 Settlement Agreement and Mutual Release dated November 30, 2000 among
the Company and St. James Capital Partners, L.P. and SJMB, L.P. (13)
10.6 Agreement to Form Joint Venture dated August 17, 2001 between the
Company and Singapore Technologies Electronics Limited (16)
Exhibit Description of Exhibit
------- ----------------------
10.7 Sharing Agreement dated August 30, 2001 among the Company, Intelect
Network Technologies Company and Intelect Technologies Inc. (16)
10.8 Stockholders Agreement dated August 30, 2001 among the Company,
Intelect Technologies Inc. and Singapore Technologies Electronics
Limited (16)
10.9 Transition Services Agreement dated August 30, 2001 between the
Company and Intelect Technologies Inc. (16)
10.10 Asset Purchase Agreement dated January 11, 2002 among the Company,
Flextronics Design S.D., Inc. and DNA Enterprises, Inc. (17)
10.11 Design / Engineering Services Agreement dated January 11, 2002
between the Company and Flextronics Design S.D. (17)
10.12 Form of Promissory Note dated June 1, 2001 in favor of Bank One, N.A.
(18)
10.13 Business Loan Agreement dated June 1, 2001 between the Company and
Bank One, N.A. (18)
10.14 Reimbursement Agreement dated June 1, 2001 among the Company and
Oscar S. Wyatt, Jr., Fayez Sarofim and Morton Cohn (18)
10.15 Form of Subsidiary Stock Incentive Plan (19)
10.16 Form of Promissory Note dated October 12, 2001 in favor of Bank One,
N.A. (20)
10.17 Loan Agreement dated October 12, 2001 between the Company and Bank
One, N.A. (20)
10.18 Reimbursement Agreement dated October 12, 2001 between the Company
and Oscar S. Wyatt, Jr. (20)
10.19 Promissory Note dated October 5, 2001(20)
10.20 Promissory Note dated October 12, 2001(20)
10.21 Promissory Note dated September 29, 2001
10.22 Promissory Note dated November 30, 2001
10.23 Promissory Note dated December 14, 2001
10.24 Promissory Note dated February 11, 2001
10.25 Employment Agreement dated January 1, 2001 between the Company and
Robert P. Capps *
10.26 Release and Settlement Agreement dated January 19, 2001 between the
Company and Savage Arms, Inc.
10.27 Settlement and Release Agreement dated March 4, 2002 among the
Company, DNA Enterprises, Inc. and Cadence Design Systems, Inc.
10.28 Amended and Restated Stock Incentive Plan *(19)
21.1 Subsidiaries of the Company
23.1 Consent of Grant Thornton LLP
-------------------
*Management contract or other compensatory plan or arrangement.
(1) Incorporated herein by reference to the Company's Form S-4 filed October
30, 1997
(2) Incorporated herein by reference to the Company's Form 8-K filed on
February 1, 2001
(3) Incorporated herein by reference to the Company's Form 8-K filed on March
2, 1999
(4) Incorporated herein by reference to the Company's Form 10-Q filed August
14, 1997
(5) Incorporated herein by reference to the Company's Form 10-Q filed on
August 14, 1998
(6) Incorporated herein by reference to the Company's Form 10-Q filed on
November 17, 1998
(7) Incorporated herein by reference to the Company's Form 8-K filed on
August 18, 1999
(8) Incorporated herein by reference to the Company's Form 8-K filed on
December 22, 1999
(9) Incorporated herein by reference to the Company's Form 8-K filed on
February 8, 2000
(10) Incorporated herein by reference to the Company's Form 8-K filed on March
21, 2000
(11) Incorporated herein by reference to the Company's Form 10-Q filed
November 13, 1996
(12) Incorporated herein by reference to the Company's Form 10-Q filed May 15,
1997
(13) Incorporated herein by reference to the Company's Form 8-K filed on
December 4, 2000
(14) Incorporated herein by reference to the Company's Form 10-K filed on
March 30, 2000
(15) Incorporated herein by reference to the Company's Definitive Proxy
Statement filed on April 30, 1999
(16) Incorporated herein by reference to the Company's Form 8-K filed
September 7, 2001
(17) Incorporated herein by reference to the Company's Form 8-K filed January
15, 2002
(18) Incorporated herein by reference to the Company's Form 10-Q filed August
14, 2001
(19) Incorporated herein by reference to the Company's Definitive Proxy
Statement filed on April 30, 2001
(20) Incorporated herein by reference to the Company's Form 10-Q filed
November 14, 2001
C. The Registrant has not filed any reports on Form 8-K during the last
quarter of the period covered by this Report, except as follows:
Form 8-K/A filed on November 6, 2001 - Item 7 "Financial Statements and
Exhibits"