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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
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FORM 10-K
MARK ONE
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED
APRIL 30, 2000
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
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FINISAR CORPORATION
(Exact name of Registrant as specified in its charter)
DELAWARE 000-27999 94-3038428
(State or other jurisdiction of (Commission File No.) (I.R.S. Employer
incorporation or organization) Identification No.)
1308 MOFFETT PARK DRIVE
SUNNYVALE, CALIFORNIA 94089
(Address of principal executive (Zip Code)
offices)
Registrant's telephone number, including area code: 408-548-1000
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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, $.001 PAR VALUE
(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 the voting stock held by non-affiliates of the
registrant as of June 30, 2000 was $4,186,000,000 based on the closing price of
such stock on such date of $26.188 per share.
At June 30, 2000 there were 159,862,284 shares of the registrant's common
stock, $.001 par value, issued and outstanding.
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DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive Proxy Statement for the Company's Annual Meeting
of Stockholders to be held September 20, 2000 are incorporated by reference into
Part III of this Form 10-K.
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INDEX TO ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED APRIL 30, 2000
PAGE
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PART I
Item 1. Business.................................................... 3
Item 2. Properties.................................................. 27
Item 3. Legal Proceedings........................................... 28
Item 4. Submission of Matters to a Vote of Security Holders and
Executive Officers of the Company......................... 28
PART II
Item 5. Market for Registrant's Common Stock and Related Stockholder
Matters..................................................... 29
Item 6. Selected Financial Data..................................... 29
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 30
Item 8. Financial Statements and Supplementary Data................. 39
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................. 59
PART III
Item 10. Directors and Executive Officers of the Registrant.......... 59
Item 11. Executive Compensation...................................... 60
Item 12. Security Ownership of Certain Beneficial Owners and
Management.................................................. 60
Item 13. Certain Relationships and Related Transactions.............. 60
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K......................................................... 61
2
PART I
ITEM 1. BUSINESS
This report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. We use words like
"anticipates," "believes," "plans," "expects," "future," "intends" and similar
expressions to identify these forward-looking statements. We have based these
forward-looking statements on our current expectations and projections about
future events. These forward-looking statements are subject to risks,
uncertainties and assumptions about us, including:
- uncertainty regarding the commercial acceptance of high-speed networking
and storage technologies;
- uncertainty regarding our future operating results;
- our ability to introduce new products;
- delays or losses of sales due to long sales and implementation cycles for
our products;
- the possibility of lower prices, reduced gross margins and loss of market
share due to increased competition; and
- increased demands on our resources due to anticipated growth.
Other factors that could cause actual result to differ from expectation are
discussed in FACTORS THAT COULD AFFECT OUR FUTURE PERFORMANCE.
In light of these risks, uncertainties and assumptions, the forward-looking
events discussed in this report might not occur. We undertake no obligation to
publicly update or revise any forward-looking statements, whether as a result of
new information or future events.
BUSINESS
We are a leading provider of fiber optic subsystems and network performance
test systems which enable high-speed data communications over local area
networks, or LANs, and storage area networks, or SANs. Additionally, we have
recently developed products for digitizing the return path of a cable
television, or CATV, network and for aggregating data traffic in extended
networks. We are focused on providing high-performance, reliable, value-added
optical subsystems, which convert electrical signals into optical signals, for
networking and storage equipment manufacturers that develop and market systems
based on Gigabit Ethernet and Fibre Channel, which are advanced transmission
protocols used in LAN and SAN applications. Our line of optical subsystems
supports a wide range of network applications, transmission speeds, distances
and mediums. We also provide unique network performance test systems which
assist networking and storage equipment manufacturers in the efficient design of
reliable, high-speed networking systems and the testing and monitoring of the
performance of these systems. We sell our products to leading networking and
storage equipment manufacturers such as 3Com, EMC, Emulex, IBM, Newbridge
Networks and Sun Microsystems, as well as emerging manufacturers such as Brocade
Communications and Extreme Networks.
INDUSTRY BACKGROUND
The ubiquity of computing by businesses, organizations and individuals
worldwide and the need to interconnect multiple computing and storage devices to
enable widespread communications has given rise to the multi-billion dollar
computer networking and storage industries. There has been a rapid growth in the
number of corporate and residential users accessing communications networks.
This growth has resulted in large-scale equipment expenditures by enterprises
and service providers to develop and expand their network and storage
infrastructures. Networking and storage equipment expenditures are also
accelerating due to the need to upgrade equipment to reliably accommodate data
traffic which requires
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greater transmission capacity, or bandwidth, such as e-commerce and online
transaction processing-related traffic, multimedia file transfers and movement
of large blocks of stored data across networks. The transmission and storage of
data has become increasingly mission-critical as enterprises increasingly rely
on data-intensive applications to support a wider range of functions over a
geographically dispersed employee and customer base. The continuing expansion of
the network infrastructure, the growing number of users accessing networks, the
need to accommodate higher bandwidth, and the increasingly mission-critical
nature of data networking and storage networking have created the need for a new
generation of high-speed, high-performance networking and storage systems that
rely on fiber optic transmission technology.
EVOLUTION OF NETWORKS, NETWORKING SYSTEMS AND NETWORKING PROTOCOLS
GIGABIT ETHERNET AND LOCAL AREA NETWORKS. Early LANs were implemented to
connect a limited number of users within relatively close proximity. Most of
these LANs used the Ethernet transmission protocol which was developed to allow
users to access the LAN and share basic common services such as file servers and
printers. Because these early LANs had relatively limited performance
requirements, short connection distances and low transmission speeds, systems on
these LANs were generally connected by copper cabling.
As deployment of LANs increased, Ethernet became the predominant LAN
technology, with a greater than 95% market share in 1998 in terms of port
shipments according to the Dell'Oro Group. As bandwidth needs and server
processing power increased and larger numbers of users strained the early LAN
infrastructure, Ethernet technology evolved from the original 10 megabits per
second, or Mbps, version to 100 Mbps Fast Ethernet. In response to continually
increasing bandwidth and performance requirements, Gigabit Ethernet technology,
which operates at 1,000 Mbps, was introduced in 1998. Dataquest estimates that
sales of Gigabit Ethernet switches will increase from $364 million in 1998 to
over $3.7 billion in 2002, representing a compound annual growth rate of 79%.
These switches contain varying numbers of ports which serve as the connection to
the network. According to Dataquest, the number of Gigabit Ethernet port
shipments is projected to grow from 211,000 in 1998 to over 6 million in 2002,
representing a compound annual growth rate of 130%. Most of these Gigabit
Ethernet ports will rely on fiber optic subsystems, which allow data to be
transmitted accurately, at very high speeds and over long distances. Although
the transmission speeds currently offered by Gigabit Ethernet are expected to
meet the increasing bandwidth needs of enterprise and service provider networks
for the near future, manufacturers have begun to develop networking systems with
per-port transmission speeds of 10 gigabits per second, or Gbps, ten times
faster than Gigabit Ethernet. Because of the scalability and migration capacity
built into the Gigabit Ethernet protocol, manufacturers developing these systems
are able to leverage this standard much as they did when they migrated from
100 Mbps Fast Ethernet to 1,000 Mbps Gigabit Ethernet. This next generation of
high-speed networking systems will require even higher performance fiber optic
subsystems.
FIBRE CHANNEL AND STORAGE AREA NETWORKS. Like data networking technology,
data storage technology has evolved rapidly over the past decade. Traditionally,
storage devices were connected to a single server and LAN in close proximity
using a standard interface protocol known as the Small Computer Systems
Interface, or SCSI. SCSI currently allows storage devices and servers to
communicate at a maximum speed of 80 megabytes per second, over a maximum
transmission distance of 12 meters and supports a maximum of 15 devices on a
single bus. Although these distances and speeds were sufficient for early
storage applications, SCSI has become a limiting technology for emerging storage
applications, which require networking at high speeds over long distances and
need to interconnect large numbers of users.
In recent years, demand has increased for faster, more efficient
interconnection of data storage systems with servers and LANs. Contributing to
this demand are:
- the need to connect increasing numbers of storage devices and servers to a
growing number of users;
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- the need to interconnect servers and storage systems supplied by multiple
vendors;
- the increasingly mission-critical nature of stored data and the need for
rapid access to this data; and
- the expense and complexity associated with managing increasingly large
amounts of data storage.
Although advances in technology, including the recent development of Gigabit
Ethernet, increased LAN transmission speeds by more than 1,000 times during the
1990s, storage-to-server data transmission speeds on SCSI-based systems
increased by less than ten times during this period. This speed disparity
created a bottleneck between storage systems and servers and the LANs connected
to those servers. Recently, the Fibre Channel interconnect protocol has been
standardized to address the speed, distance and connectivity limitations of
SCSI-based storage while maintaining backward compatibility with the installed
base of SCSI-based storage systems. Fibre Channel allows up to 126 devices to
communicate at rates up to 1.062 Gbps over distances of up to 10 kilometers. The
Fibre Channel protocol has enabled the development of high-speed storage area
networks, or SANs, which provide the interconnection between storage systems and
servers.
Fibre Channel-based SANs provide many benefits, including transmission
speeds comparable to high-speed LANs and transmission distances which allow
broader sharing of resources. SANs also enable enhanced network applications
such as storage backup, and better overall storage management achievable through
centralized storage resources. IDC projects that the market for Fibre Channel
systems will grow from $2.2 billion in 1998 to over $19.6 billion in 2002,
representing a compound annual growth rate of 73%. In addition, emf Associates
forecasts the number of Fibre Channel port shipments will grow from 2.2 million
in 1998 to over 46.7 million in 2002, representing a compound annual growth rate
of 115%. Most of these ports will rely on fiber optic subsystems to transmit and
receive data at very high speeds with high accuracy, and often over long
distances. Like manufacturers of Gigabit Ethernet-based LAN systems, Fibre
Channel-based SAN system manufacturers are already developing the next
generation of SAN products with speeds of 2.125 Gbps, twice as fast as current
Fibre Channel speeds. Like Gigabit Ethernet, the Fibre Channel protocol is
scalable, allowing for the potential development of systems with speeds of over
8 Gbps. The speeds contemplated by future generation SAN systems will require
even higher performance fiber optics subsystems.
In addition to SANs, Fibre Channel technology is being used in other
high-speed data communications applications including the interconnection of
clusters of switches based on the asynchronous transfer mode, or ATM, protocol.
ATM switches are often used in service provider network cores to switch traffic
between multiple networks. In these core networks, multiple switches are often
grouped together in a service provider's central office. The interconnections
between these systems are often provided by Fibre Channel-based subsystems which
allow high-speed, cost-effective communication links between these switches.
EXTENDED LANS AND SANS. As technologies such as Gigabit Ethernet and Fibre
Channel have enabled transmission of data at higher speeds over longer distances
than previous networking technologies permitted, they have allowed the
geographic extension of LANs and SANs over installed but unused fiber optic
cable, known as "dark" fiber lines. Enterprises have recently begun to lease
dark fiber from service providers to implement these extended networks. These
extended LANs and SANs can interconnect network systems throughout a corporate
campus or metropolitan area rather than only within a single building. Extended
networks enable organizations to use their networks for enhanced applications
such as real-time backup storage at distances of up to 120 kilometers for
disaster protection. In addition, by using dark fiber lines, extended data
networks can offer organizations a potentially cost-effective way to address
increased bandwidth requirements. We believe that future extended networks will
incorporate both Fibre Channel and Gigabit Ethernet transmission protocols. As
with shorter-distance LANs and SANs, these extended networks will require
high-performance fiber optic subsystems.
5
CABLE TELEVISION NETWORKS. Cable television networks have traditionally
relied on the use of radio frequency, or RF, analog transmission to broadcast
video signals over copper cable. The initial objective of these networks was to
provide one-way broadcast of video channels to the home. These early networks
relied on multiple amplifiers in order to compensate for the loss of signal
strength over distance caused by the use of copper cable as the transmission
medium.
Since the early 1990's, CATV operators have greatly expanded their ability
to offer a growing array of entertainment services by upgrading their networks
with fiber optic technologies in order to reduce the number of amplifiers needed
to transmit signals to the home, expand capacity and enhance the reliability of
their networks. While operators realize several benefits as a result of
upgrading their networks in this manner, the fiber optic technologies deployed
to date continue to use RF analog transmission to send signals.
With the rapid growth in Internet-related services, the demand for two-way
interactive CATV services has increased dramatically. The transformation of a
one-way broadcast network to a two-way interactive network requires that the
signals originating at each home be aggregated at a node before being sent back
to the CATV network headend. This transformation, using analog signal
transmission for the return path, involves numerous technical challenges because
the electrical noise originating at each home is also aggregated before being
transmitted. This aggregation of noise limits the amount of bandwidth and
distance over which these return signals can be transmitted. For this reason, a
substantial portion of CATV networks have not been upgraded for two-way
transmission and those operators who have implemented analog return path systems
are limited with respect to their ability to carry two-way traffic.
DEMAND FOR HIGH-SPEED DATA COMMUNICATION TEST SYSTEMS
The design and development of data and storage networking systems require
extensive testing to ensure system performance and reliability. As new, highly
complex transmission protocols such as Gigabit Ethernet and Fibre Channel have
emerged, system testing has become more difficult, requiring increasingly
sophisticated and specialized test systems capable of capturing data at high
speeds, filtering the data and identifying various types of intermittent errors
and other network problems. Other new technologies are continually being
developed, such as the Infiniband transmission protocol, which is being
engineered to interconnect clusters of computer devices. In the past, many
systems manufacturers designed their own test equipment each time they developed
a new product. However, as the pace of technological change has accelerated, the
performance requirements of data communications systems have increased and
competition has afforded shorter market windows within which manufacturers can
develop and introduce new products. Thus, system manufacturers have increasingly
focused on the design and development of their own products and turned to
specialized independent suppliers for state-of-the-art test equipment. As
Ethernet and Fibre Channel-based systems reach even higher transmission speeds
and new standards like Infiniband emerge, the internal development of test
equipment by systems manufacturers will become more challenging, further
increasing the demand for high performance, easy-to-use test systems from
independent suppliers.
EVOLUTION OF FIBER OPTIC SUBSYSTEMS FOR NETWORKING
Fiber optic transmission technology was originally developed for use in long
distance telecommunications networks to increase capacity and speed. In
contrast, early LANs and storage systems, with their relatively limited
performance requirements, short connection distances and low transmission
speeds, did not require the performance capabilities of fiber optics. Systems on
these networks were generally interconnected using copper cabling.
As the bandwidth, storage capacity and transmission distance requirements of
enterprises and service providers have increased, it has become necessary to
utilize the superior transmission capabilities of fiber optics to build
practical, high-speed LANs based on Gigabit Ethernet technology and high-speed
SANs based on Fibre Channel. As these fiber optic LANs and SANs are being
deployed, fiber optics is becoming
6
the dominant transmission technology for high-speed data networking and storage
applications. Systems connected with fiber optics require optical subsystems to
convert electrical signals into optical signals and back into electrical signals
at high speeds.
The development and manufacture of high quality, cost-effective fiber optic
subsystems for LANs and SANs present a number of significant technical
challenges, including the following:
- As data rates increase, it becomes significantly more difficult to
maintain data integrity because high speed signals can be degraded unless
subsystem components such as lasers, detectors and integrated circuits are
properly integrated and packaged;
- The increasingly mission-critical nature of data transmission and storage
has magnified the impact of system failures, increasing the need for
system reliability and the importance of real-time performance monitoring;
- Manufacturers of high speed networking equipment require optical
subsystems that support a wide range of transmission distances, protocols
and applications; and
- Compliance with standards set by the Federal Communications Commission, or
FCC, for electromagnetic interference emissions, or EMI, is significantly
more difficult to achieve at higher data rates.
To date, we believe that only a limited number of companies have developed
the specialized expertise required to engineer fiber optic subsystems and test
systems which meet the requirements of manufacturers of high-speed data
networking and storage systems.
THE FINISAR SOLUTION
We are a leading provider of fiber optic subsystems and network performance
test systems which enable high-speed data communications over LANs, SANs, CATV
networks and extended networks. We are focused on providing high-performance,
reliable, value-added optical subsystems for networking and storage equipment
manufacturers that develop and market systems based on Gigabit Ethernet and
Fibre Channel protocols. Our line of optical subsystems supports a wide range of
network applications, transmission speeds, distances and mediums. Our digital
return path technology overcomes many of the limitations associated with analog
components used to provide two-way interactive services over CATV networks. We
also provide unique network performance test systems which assist networking and
storage equipment manufacturers in the efficient design of reliable, high-speed
networking systems and the testing and monitoring of the performance of these
systems. Our products provide the following key benefits to manufacturers of
high-speed data networking and storage systems:
VALUE-ADDED FUNCTIONS AND INTELLIGENCE. Our high-speed fiber optic
subsystems are engineered to deliver value-added functionality and intelligence.
For example, many of our optical subsystems include a microprocessor containing
specially-developed software that allows customers to monitor the optical
performance of each port on their systems in real time. In addition, many of our
subsystems are engineered to automatically recognize different versions of the
Fibre Channel protocol and to interoperate with our customers' older, installed
networking systems, often referred to as legacy systems. Real-time monitoring
and interoperability are particularly important in the Gigabit Ethernet LAN and
Fibre Channel SAN markets where reliability and time to market are critical. Our
test systems also contain value-added software functions that permit users to
simulate and track errors.
HIGH LEVEL OF DATA INTEGRITY. Through the use of advanced packaging and
circuit design, our optical subsystems deliver data at very high speeds over
varying distances with very low error rates. We engineer our subsystems to
exceed the industry standard error rate of 1 bit per trillion bits transmitted.
This degree of data integrity allows our subsystems to operate reliably over a
wide range of temperatures and other field conditions which we believe enables
our customers to design and deliver more robust systems.
7
HIGH RELIABILITY. We design all of our subsystems to provide the high
reliability required for data networking and storage applications that are
critical to an enterprise. Using standard statistical methodology and testing,
we have been able to predict that some of our products can be expected to
operate reliably for up to 40 million hours. Our subsystems are engineered to
operate with minimal power requirements thereby increasing product life, and to
function across a wide range of temperatures and voltages. This reliability and
flexibility have allowed our subsystems to be designed into the products of
manufacturers who provide systems for a variety of mission-critical
applications. In addition, because our subsystems emit lower levels of EMI than
the standards set by the FCC, we offer manufacturers greater flexibility in the
design of their systems and integration of other components and subsystems.
BROAD OPTICAL SUBSYSTEM PRODUCT LINE. We offer a broad line of optical
subsystems which operate at varying protocols, speeds, fiber types, voltages,
wavelengths and distances and are available in a variety of industry standard
packaging configurations, or form factors. Our optical subsystems are designed
to comply with key networking protocols such as Fibre Channel and Gigabit
Ethernet and to plug directly into standard port configurations used in our
customers' products. The breadth of our optical subsystems product line is
important to many of our customers who manufacture a wide range of networking
products for diverse applications.
BROAD TEST SYSTEM PRODUCT LINE. We believe that we are a leading provider of
network performance test systems for Fiber Channel-based networks. We offer a
broad line of test systems to assist our customers in efficiently designing
reliable, high-speed networking systems and testing and monitoring the
performance of these systems. We believe our test systems enable our customers
to focus their attention on the development of new products, reduce overall
development costs and speed time to market.
STRATEGY
Our objective is to be the leading provider of fiber optic subsystems and
test systems to manufacturers of high-speed data networking and storage systems.
Key elements of our strategy include the following:
MAINTAIN TECHNOLOGY LEADERSHIP IN HIGH-SPEED FIBER OPTIC TRANSMISSION. We
have been focused on the development of fiber optic subsystems since 1988.
Current Finisar employees were actively involved in the original development of
the Fibre Channel standard and, more recently, in the development and
implementation of Gigabit Ethernet and the emerging Infiniband protocol. Our
years of engineering experience, our multi-disciplinary technical expertise and
our participation in the development of industry standards have enabled us to
become a leader in the design and development of fiber optic subsystems and test
systems. We intend to maintain our technological leadership through continual
enhancement of our existing products and the development of new products as
evolving technology permits higher speed transmission of data, with greater
capacity, over longer distances. For example, we are designing flexible hardware
and software architectures to support emerging technologies such as 10 Gbps
Ethernet, 2 Gbps Fibre Channel, wavelength division multiplexing, or WDM, and
the Infiniband protocol. We are also focusing on increased product integration
to enhance the price/performance capabilities of our products. An example of
this product integration is our new digital return path links used in broadband
CATV systems that utilize existing technology from our optical subsystems, test
equipment and extended network subsystems. Our CATV products are plug compatible
with existing systems, offer superior performance and allow various system
enhancements. This technology also has the potential to change the product
architecture of CATV systems for use as broadband metropolitan networks.
LEVERAGE CORE COMPETENCIES ACROSS MULTIPLE, HIGH-GROWTH MARKETS. We believe
that fiber optic technology will increasingly become the transmission technology
of choice for multiple high-growth data communication markets, including Gigabit
Ethernet-based LANs, Fibre Channel-based SANs and CATV and extended networks.
These markets are characterized by differentiated applications with unique
design criteria such as product function, performance, cost, in-system
monitoring, size limitations and software. We intend to target opportunities
where our core competencies in high-speed data transmission protocols
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such as Gigabit Ethernet, Fibre Channel and Infiniband can be leveraged into
leadership positions as these technologies are extended across multiple markets
and applications. Our goal is to be the optical subsystem and network
performance test system provider of choice for multiple protocols and network
applications. Recently, we entered the broadband CATV market with a product that
leverages our core competencies in optical subsystems, test systems and WDM. Our
CATV digital return path product can emulate existing analog return links, plug
into existing sockets, provide better performance, lower cost and reduce system
level diagnostics. Furthermore, this product has traffic aggregation features
that enhance the traditional analog coaxial system.
STRENGTHEN AND EXPAND CUSTOMER RELATIONSHIPS. Over the past 11 years, we
have established valuable relationships and a loyal base of customers by
providing high-quality products and superior service. Our service-oriented
approach has allowed us to work closely with leading data and storage network
system manufacturers, understand and address their current needs and anticipate
their future requirements. We intend to leverage our relationships with our
existing customers as they enter new, high-speed data communications markets. We
have recently established new customer relationships with several emerging
Gigabit Ethernet and Fibre Channel networking equipment manufacturers. We intend
to expand our sales and marketing organization in order to establish new
relationships with other key data communications network manufacturers.
CAPITALIZE ON CROSS-SELLING OPPORTUNITIES. Many manufacturers of high-speed
data networking and storage systems purchase both optical subsystems and test
systems from third-party providers. Frequently, however, different groups or
departments within a manufacturer's organization are responsible for qualifying
and purchasing subsystems and test equipment. We are increasingly able to
capitalize on our customers' satisfaction with one of our product lines and our
service-oriented approach to gain valuable introductions that lead to sales of
our other product lines. As this trend develops, we intend to leverage our
unique expertise in both optical subsystems and test systems. In particular, the
widespread acceptance of our Fibre Channel test systems is providing
opportunities to develop new customers for our optical subsystems. Our entry
into the broadband CATV market targets customers in both the direct CATV digital
return path link market and the extended network subsystems market, allowing
cable operators to offer digital services economically to businesses in their
service area.
EXPAND INTERNATIONAL OPERATIONS. Historically, substantially all of our
sales have been made to system manufacturers located in North America. In the
fiscal year ended April 30, 2000, sales to customers outside North America
represented approximately 5% of our total revenues. Recently, manufacturers in
other parts of the world have developed and introduced high-speed networking
products based on the Gigabit Ethernet and Fibre Channel protocols and
international markets for our products are beginning to expand. To better
address these expanding international markets, we have recently established
relationships with distributors in Japan, the United Kingdom and Israel. We
intend to further extend our international operations by expanding our network
of distributors and sales representatives in key international markets. As
international Fibre Channel and Gigabit Ethernet standards are substantially the
same as those in North America, we do not expect that we will require
substantial product development efforts to enter international markets.
PRODUCTS
We provide a broad line of complementary optical subsystems and test systems
for high-speed data communications over Gigabit Ethernet LANs and Fibre Channel
SANs.
OPTICAL SUBSYSTEMS
Our optical subsystems product line consists of three product
families--optical data links, optical link extenders and Opticity 3000. Our
optical data links are integrated into our customers' systems and used for
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both short- and long-distance fiber optic communications. Our optical link
extenders are external subsystems used for fiber optic communications over long
distances. Our Opticity 3000 is an external link extender subsystem which also
includes multiplexer functionality that permits multi-channel data transmission
over long distances.
OPTICAL DATA LINKS
Our family of optical data link products consists of transmitters, receivers
and transceivers based on the Gigabit Ethernet and Fibre Channel protocols. A
transmitter converts electrical signals into optical signals for transmission
over fiber optics. A receiver converts incoming optical signals into electric
signals. A transceiver combines both transmitter and receiver functions. Our
optical data link products perform these functions with high reliability and
data integrity and support a wide range of protocols, transmission speeds, fiber
types, wavelengths, transmission distances, form factors and software
enhancements.
Our high-speed fiber optic subsystems are engineered to deliver value-added
functionality and intelligence. Most of our optical data link products include a
microprocessor with proprietary embedded software that allows customers to
monitor transmitted and received optical power, temperature, drive current and
other link parameters of each port on their systems in real time. In addition,
our intelligent optical data links are used by many enterprise networking and
storage system manufacturers to enhance the ability of their systems to diagnose
and correct abnormalities in fiber optic networks.
The following table describes our principal optical data link products:
TRANSMISSION WAVELENGTHS TRANSMISSION FORM SOFTWARE
PROTOCOLS SPEED (GBPS) FIBER TYPES (NM) DISTANCES FACTORS ENHANCEMENTS
- ------------------------- ------------ ----------- ----------- ------------ -------- ------------
TRANSMITTERS
Fibre Channel............ 1.062 Multimode 850 500 m 17-pin Built-in diagnostics
Gigabit Ethernet......... 1.25 Singlemode 1310 10 km
1550 30 km
80 km
RECEIVERS
Fibre Channel............ 1.062 Multimode 850 500 m 17-pin Reports on received
optical power levels
Gigabit Ethernet......... 1.25 Singlemode 310 10 km
1550 30 km
80 km
TRANSCEIVERS
Fibre Channel............ 1.062/2.125 Multimode 850 500 m 28-pin Built-in diagnostics
Gigabit Ethernet......... 1.25/2.5 Singlemode 1310 10 km 9-pin OFC auto-sense
1550 30 km GBIC Serial
identification
80 km SFP
SFF
CABLE TELEVISION DIGITAL RETURN PATH SYSTEMS
Over the past year, we have developed a new technical approach to the
transportation of information inside broadband cable television networks.
Traditionally, fiber optic links in CATV networks have used analog modulation to
transport signals. Our design digitizes the return path signal with performance
comparable to the best analog links. We have begun customer trials of our
digital optical return path links for CATV systems.
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Our digital technology enables us to make links that have significant
advantages over traditional analog links. These links are more stable in varying
temperatures, show no analog variation with fiber distance and are more immune
to mishandling problems, such as poor splices and connectors, than traditional
analog links.
Digital return path links allow broadband systems to be better managed and
to support a variety of CATV architectures. Our products are used in nodes that
typically serve between 50 and 500 homes as well as in secondary hub sites and
headends. These products build on our basic optical modules and test systems to
provide our customers with a level of service, reliability and signal integrity
that is superior to the systems they are replacing at a lower cost. These
modules plug into existing nodes, hubs and headends, which facilitates market
acceptance.
OPTICAL LINK EXTENDERS
Our FLX-2000 family of optical link extenders allows enterprises to extend
the distance of fiber optic links in Gigabit Ethernet and Fibre Channel-based
networks while preserving data integrity and reliability. Using our optical link
extenders, Gigabit Ethernet networks can be extended from the maximum standard
distance of 5 kilometers to up to 120 kilometers, and Fibre Channel networks can
be extended from the maximum standard distance of 10 kilometers to up to
120 kilometers. Our optical link extenders enable new network applications such
as remote storage and real-time backup, as well as geographic extensions of a
network. In addition, our optical link extenders provide a value-added
diagnostic function by measuring the bit error rate on data links and monitoring
and reporting system status.
OPTICITY 3000
Introduced in September 1999, our Opticity 3000 is now being evaluated by
several network service providers ranging from application service providers to
competitive local exchange carriers and CATV operators. Our Opticity 3000
combines cost-effective wavelength division multiplexing with the ability to
create reliable ring network topologies. The Opticity 3000 allows enterprises
and service providers to build gigabit metropolitan data networks. The
Opticity 3000 aggregates data traffic on fiber rings. It is able to multiplex up
to 16 channels of Fibre Channel or Gigabit Ethernet traffic on a single fiber
pair, providing aggregate full-duplex bandwidth of up to 20 Gbps. The
Opticity 3000 can be remotely managed using standard network management
protocols such as the Simple Network Management Protocol. Opticity 3000 also has
features such as redundant power supply designed to maximize reliability and
uptime in case of failures.
The Opticity 3000 platform enables our customers to create complex systems
combining both networking and storage based services and to access Ethernet
service at speeds up to 100 Mbps at costs comparable to today's prices for T1 or
DSL connections provided by local telephone companies.
Currently our Opticity 3000 platform can be configured with as few as four
and as many as 16 channels. The Opticity 3000 platform manages a ring topology
matching the fiber layout in most metropolitan areas. The Opticity 3000 can
operate over a single fiber ring and still maintain the ability to provide
failover switching for redundancy and reliability in the event of a fiber
breakage. Extended networks using the Opticity 3000 are configured to remain
operational in the event of any single point of failure throughout the platform
or physical plant.
The effectiveness of the Opticity 3000 relies on a variety of bandwidth
enhancing techniques including time division multiplexing and WDM. All channels
are actively monitored, therefore service levels can be tracked and verified for
each customer served by the system. The Opticity 3000 platform can be managed
using simple network management protocol as well as a web browser. Remote
management of an entire ring system can be accomplished through a single
Internet connection to the system.
11
NETWORK PERFORMANCE TEST SYSTEMS
Our GTX, GT and GLA family of network performance test systems assist
networking and storage system manufacturers in the efficient design of reliable,
high-speed networking systems and the testing and monitoring of the performance
of these systems. We believe we are the leading supplier of test equipment for
the Fibre Channel protocol used in enterprise SANs. We also offer Gigabit
Ethernet test systems. Our test systems allow engineers, service technicians and
network managers to capture data at high speeds, filter the data and identify
various types of intermittent errors and other network problems.
Our GTX, GT and GLA family of test system products includes data generators,
data analyzers, error injector/data jammers and low-cost, real-time link
monitors. The following table describes our GTX, GT and GLA family of test
products:
INTRODUCTION PROTOCOL TRANSMISSION
PRODUCT DESCRIPTION DATE SUPPORTED SPEED APPLICATION CONFIGURATION
- ------------------- ------------ ---------- ---------------- ----------------- -------------
GIGABIT LINK ANALYZERS
GLA-3100ES............................ 10/96 ESCON 200 Mbps R&D Service PC-Hosted
GLA-3100FC............................ 1/97 Fibre 1.062 Gbps R&D Service PC-Hosted
Channel
GT-G Data Generator Module............ 1/98 Fibre 1.062 Gbps Inter-operability PC-Hosted
Channel
GT-J Error Injector Module............ 2/99 Fibre 1.062 Gbps Error Recovery PC-Hosted
Channel
GT-J22 Error Stimulus Response 2/99 Fibre 1.062 Gbps Error Recovery High
System.............................. Channel, Performance
FICON Tower PC
GT GIGABIT TRAFFIC CHECK
GT-C-FC Link Monitor.................. 5/98 Fibre 1.062 Gbps Field Service Hand Held
Channel
GT-C-GE Link Monitor.................. 5/98 Gigabit 1.25 Gbps Field Service Hand Held
Ethernet
GTX GIGABIT TRAFFIC SYSTEM
GTX-A................................. 11/99 Fibre 1.062 Gbps R&D PC-Hosted
Channel 2.125 Gbps
GTX-B bit error rate tester........... 3/00 Fibre 1.062 Gbps Hardware Test PC-Hosted
Channel, 1.25 Gbps
Gigabit 2.125 Gbps
Ethernet, 2.5 Gbps
Infiniband
GTX-J Error Injector.................. 7/00 Fibre 1.062 Gbps Error Recovery PC-Hosted
Channel, 2.125 Gbps
FICON
SANmetrics--Loop...................... 4/00 Fibre 1.062/2.125 Gbps SAN Performance NA
Channel Analysis Software
SANmetrics--Switch.................... 6/00 Fibre 1.062/2.125 Gbps SAN Performance NA
Channel Analysis Software
12
CUSTOMERS
Sales to our two principal customers, Newbridge Networks and EMC
Corporation, accounted for 25.1% and 24.1% of our revenues in fiscal 1999 and
24.5% and 24.0% in fiscal 2000.
TECHNOLOGY
The development of high quality fiber optic subsystems and test systems for
high-speed data communications requires multidisciplinary expertise in the
following six technology areas:
HIGH FREQUENCY SEMICONDUCTOR DESIGN. Our fiber optic subsystems development
efforts are supported by an engineering team that specializes in analog/digital
integrated circuit design. This group works in both silicon and gallium
arsenide, or GaAs, semiconductor technologies where circuit element frequencies
are very fast and can be as high as 60 GHz. We have designed proprietary
circuits including laser drivers and receiver pre- and post-amplifiers. Our
designs have made us early entrants in the 1.0 Gbps data communications market
and more recently in the 2.5 Gbps data communications market. These advanced
semiconductor devices provide significant cost advantages and will be critical
in the development of future products capable of even faster data rates.
OPTICAL SUBSYSTEM DESIGN. Finisar has established itself as a low-cost
design leader beginning with its initial Gbps optical subsystems in 1992. From
that base we have developed new singlemode laser alignment approaches and
low-cost, all-metal packaging techniques for improved EMI performance and
environmental tolerance. We develop our own component and packaging and designs
and integrate these designs with proprietary manufacturing processes that allow
our products to be manufactured in high volume.
COMPLEX LOGIC DESIGN. Our test equipment designs are based on field
programmable gate arrays, or FPGAs. In recent customer trials, our newest
products are being used to operate with clock frequencies of up to 125 MHz and
logic densities up to 1 million gates per chip. Our test systems use FPGAs that
are programmed by the host PC and therefore can be configured differently for
different tests. All of our logic design is done in the VHDL hardware
description language which will enable migration to ASICs as volumes warrant. We
develop VHDL code in a modular fashion for reuse in logic design which comprises
a critical portion of our intellectual property. This re-usable technology base
of logic design is available for use in both our test system and optical
subsystem product lines and allows us to reduce the time to market for our new
and enhanced products.
SOFTWARE TECHNOLOGY. We devote substantial engineering resources to the
development of software technology for use in all of our product lines. We have
developed software to control our test systems, analyze data collected by our
test systems, and monitor, maintain, test and calibrate our optical subsystems.
A majority of our software technology and expertise is focused on the use of
object-oriented development techniques to develop software subsystems that can
be reused across multiple product lines. We have created substantial
intellectual property in the area of data analysis software for our Fibre
Channel test equipment. This technology allows us to rapidly sort, filter and
analyze large amounts of data using a proprietary database format. This database
format is both hardware platform-independent and protocol-independent. This
independence allows all of the software tools developed for our existing test
products to be utilized in all of our new test products that collect data
traces. Because the database format is also protocol-independent, new protocols
can be added quickly and easily. Another important component of our intellectual
property is our graphical user interface, or GUI, design. Many years of customer
experience with our test products have enabled us to define a simple yet
effective method to display complex protocols in clear and concise GUIs for
intuitive use by engineers.
SYSTEM DESIGN. The design of all of our products requires a combination of
sophisticated technical competencies--optical engineering, high-speed digital
and analog design, ASIC design and software engineering. We have built an
organization of people with skills in all of these areas. It is the integration
of these technical competencies that enables us to produce products that meet
the needs of our customers.
13
Our combination of these technical competencies has enabled us to design and
manufacturer optical subsystems with built-in optical test multiplexing, and
network monitoring, as well as test systems that integrate optical and protocol
testing with user interface software.
MANUFACTURING SYSTEM DESIGN. The design skills gained in our test systems
group are also used in the manufacturing of our optical subsystems. We utilize
our high-speed FPGA design blocks and concepts and GUI software elements to
provide specialized manufacturing test systems for our internal use. These test
systems are optimized for test capacity and broad test coverage. We use
automated, software-controlled testing to enhance the field reliability of all
Finisar products. All of our products are subjected to temperature testing of
powered systems as well as full functional tests.
COMPETITION
The market for optical subsystems and network performance test systems for
use in LANs, SANs and extended networks are highly competitive. We believe the
principal competitive factors in the optical subsystem and test system markets
are:
- product performance, features, functionality and reliability;
- price/performance characteristics;
- timeliness of new product introductions;
- adoption of emerging industry standards;
- service and support;
- size and scope of distribution network;
- brand name;
- access to customers; and
- size of installed customer base.
We believe we compete favorably with our competitors with respect to most of
the foregoing factors. However, we cannot assure you that we will be able to
compete successfully against either current or future competitors.
SALES, MARKETING AND TECHNICAL SUPPORT
We sell our products in North America through our direct sales force and a
network of twelve independent manufacturers' representatives. Our direct sales
force maintains close contact with our customers and provides technical support
to our manufacturers' representatives. In our international markets, our direct
sales force works with local resellers who assist us in providing support and
maintenance to the territories they cover. We have recently established
relationships with distributors in Japan, the United Kingdom, Israel, Germany
and Korea.
Both our optical subsystems and our network performance test systems are
often sold to the same customer. We are increasingly able to capitalize on our
customers' satisfaction with one of our product lines and our service-oriented
approach to gain valuable introductions that can lead to sales of our other
product line. We anticipate that we will continue to benefit from these trends
in the future.
Our marketing efforts are focused on increasing awareness of our optical
subsystems and test systems product lines and our brand name. Key components of
our marketing efforts include:
- continuing our active participation in industry associations and standards
committees to promote and further enhance Gigabit Ethernet and Fibre
Channel technologies, promote standardization in the LAN and SAN markets,
and increase our visibility as industry experts; and
14
- leveraging major trade show events and LAN and SAN conferences to promote
our broad product lines.
In addition, our marketing group provides marketing support services for our
executive staff, our direct sales force and our manufacturers' representatives
and resellers. Through our marketing activities, we provide technical and
strategic sales support to our direct sales personnel and resellers including
in-depth product presentations, technical manuals, sales tools, pricing,
marketing communications, marketing research, trademark administration and other
support functions.
A high level of continuing service and support is critical to our objective
of developing long-term customer relationships. We emphasize customer service
and technical support in order to provide our customers and their end users with
the knowledge and resources necessary to successfully utilize our product line.
Our customer service utilizes a technical team of field and factory applications
engineers, technical marketing personnel and, when required, product design
engineers. We provide extensive customer support throughout the qualification
and sale process. In addition, we also provide many resources through our World
Wide Web site, including product documentation and technical information. We
intend to continue to provide our customers with comprehensive product support
and believe it is critical to remaining competitive.
MANUFACTURING
We outsource the majority of our assembly operations, and we conduct
manufacturing engineering, supply chain management, quality assurance and
documentation control operations at our facility in Sunnyvale, California. This
approach enables us to focus on our design strengths, reduce fixed costs and
capital expenditures and provide flexibility in meeting market demand.
We currently rely on three Asia based and one U.S. based contract
manufacturers for substantially all of our assembly operations. We do not have
long-term contracts with any of our contract manufacturers, and none of them are
obligated to perform assembly services for us for any specific period or at any
specified price, except as may be provided in a particular purchase order.
We design and develop a number of the key components of our products,
including ASICs, printed circuit boards and software. In addition, our
manufacturing team works closely with our engineers to manage the supply chain.
Product testing and burn-in are performed at our facility. We also use
inspection, testing and statistical process controls to assure the quality and
reliability of our products. In addition, most of our optical subsystems have an
intelligent interface that allows us to monitor product quality during the
manufacturing process.
Although we use standard parts and components for our products where
possible, we currently purchase a few key components used in the manufacture of
our products from single or limited sources. Our principal single source
components include ASICs and lasers. Generally, purchase commitments with our
single or limited source suppliers are on a purchase order basis. Any
interruption or delay in the supply of any of these components, or the inability
to procure these components from alternate sources at acceptable prices and
within a reasonable time, would substantially harm our business. In addition,
qualifying additional suppliers can be time-consuming and expensive and may
increase the likelihood of errors.
We use a rolling 12-month forecast based on anticipated product orders to
determine our material requirements. Lead times for materials and components we
order vary significantly, and depend on factors such as the specific supplier,
contract terms and demand for a component at a given time. It is our practice to
maintain a 12-month inventory of sole source components to decrease the risk of
a component shortage.
15
RESEARCH AND DEVELOPMENT
In fiscal 1999 and fiscal 2000, our research and development expenses were
$7.9 million and $13.8 million, respectively. We believe that our future success
depends on our ability to continue to enhance our existing products and to
develop new products that maintain technological competitiveness. We focus our
product development activities on addressing the evolving needs of our customers
within the LAN, SAN, CATV networks and extended network markets. We work closely
with our original equipment manufacturers and system integrators to monitor
changes in the marketplace. We design our products around current industry
standards and will continue to support emerging standards that are consistent
with our product strategy. Our research and development groups are aligned with
our different product lines and we have specific groups devoted to ASIC design
and test, gigabit per second subsystem design, test equipment hardware and
software design. In addition, our research and development also includes
manufacturing engineer efforts whereby we examine each product for its
manufacturability, predicted reliability, expected lifetime and manufacturing
costs.
We are currently undertaking development efforts for our product lines with
emphasis on increasing reliability, integrity and performance, as well as
value-added functions. Some examples of products that we are working on are
10 Gbps Ethernet and 2.125 Gbps Fibre Channel optical subsystems. We also intend
to focus on increased product integration to enhance the price/performance
capabilities of our products. We believe that our research and development
efforts are key to our ability to maintain technical competitiveness and to
deliver innovative products that address the needs of the market. However, there
can be no assurance that our product development efforts will result in
commercially successful products, or that our products will not be rendered
obsolete by changing technology or new product announcements by other companies.
INTELLECTUAL PROPERTY
Our success and ability to compete is dependent in part on our proprietary
technology. We rely on a combination of patent, copyright, trademark and trade
secret laws, as well as confidentiality agreements and licensing arrangements,
to establish and protect our proprietary rights. To date, we have relied
primarily on proprietary processes and know-how to protect our intellectual
property. Although we have filed for several patents, some of which have issued,
we cannot assure you that any patents will issue as a result of pending patent
applications or that our issued patents will be upheld. Any infringement of our
proprietary rights could result in significant litigation costs, and any failure
to adequately protect our proprietary rights could result in our competitors
offering similar products, potentially resulting in loss of a competitive
advantage and decreased revenues. Despite our efforts to protect our proprietary
rights, existing patent, copyright, trademark and trade secret laws afford only
limited protection. In addition, the laws of some foreign countries do not
protect our proprietary rights to the same extent as do the laws of the United
States. Attempts may be made to copy or reverse engineer aspects of our products
or to obtain and use information that we regard as proprietary. Accordingly, we
may not be able to prevent misappropriation of our technology or deter others
from developing similar technology. Furthermore, policing the unauthorized use
of our products is difficult. Litigation may be necessary in the future to
enforce our intellectual property rights or to determine the validity and scope
of the proprietary rights of others. This litigation could result in substantial
costs and diversion of resources and could significantly harm our business.
The networking industry is characterized by the existence of a large number
of patents and frequent litigation based on allegations of patent infringement.
From time to time, third parties may assert patent, copyright, trademark and
other intellectual property rights to technologies and in various jurisdictions
that are important to our business. Any claims asserting that our products
infringe or may infringe proprietary rights of third parties, if determined
adversely to us, could signifiantly harm our business. Any claims, with or
without merit, could be time-consuming, result in costly litigation, divert the
efforts of our technical and management personnel, cause product shipment delays
or require us to enter into royalty or licensing
16
agreements, any of which could significantly harm our business. Royalty or
licensing agreements, if required, may not be available on terms acceptable to
us, if at all. In addition, our agreements with our customers typically require
us to indemnify our customers from any expense or liability resulting from
claimed infringement of third party intellectual property rights. In the event a
claim against us was successful and we could not obtain a license to the
relevant technology on acceptable terms or license a substitute technology or
redesign our products to avoid infringement, our business would be significantly
harmed.
EMPLOYEES
As of April 30, 2000, we employed a total of 252 full-time employees. We
also from time to time employ part-time employees and hire contractors. Our
employees are not represented by any collective bargaining agreement, and we
have never experienced a work stoppage. We believe that our employee relations
are good.
FACTORS THAT COULD AFFECT OUR FUTURE PERFORMANCE
OUR FUTURE PERFORMANCE IS SUBJECT TO A VARIETY OF RISKS. IF ANY OF THE
FOLLOWING RISKS ACTUALLY OCCUR, OUR BUSINESS COULD BE HARMED AND THE TRADING
PRICE OF OUR COMMON STOCK COULD DECLINE. YOU SHOULD ALSO REFER TO THE OTHER
INFORMATION CONTAINED IN THIS REPORT, INCLUDING OUR FINANCIAL STATEMENTS AND THE
RELATED NOTES.
OUR FUTURE REVENUES ARE UNPREDICTABLE, OUR OPERATING RESULTS ARE LIKELY TO
FLUCTUATE FROM QUARTER TO QUARTER, AND IF WE FAIL TO MEET THE EXPECTATIONS OF
SECURITIES ANALYSTS OR INVESTORS, OUR STOCK PRICE COULD DECLINE SIGNIFICANTLY
Our quarterly and annual operating results have fluctuated in the past and
are likely to fluctuate significantly in the future due to a variety of factors,
some of which are outside of our control. Accordingly, we believe that
period-to-period comparisons of our results of operations are not meaningful and
should not be relied upon as indications of future performance. Some of the
factors that could cause our quarterly or annual operating results to fluctuate
include market acceptance of our products and the Gigabit Ethernet and Fibre
Channel standards, product development and production, competitive pressures and
customer retention.
We may experience a delay in generating or recognizing revenues for a number
of reasons. Orders at the beginning of each quarter typically do not equal
expected revenues for that quarter and are generally cancelable at any time.
Accordingly, we depend on obtaining orders during a quarter for shipment in that
quarter to achieve our revenue objectives. Failure to ship these products by the
end of a quarter may adversely affect our operating results. Furthermore, our
customer agreements typically provide that the customer may delay scheduled
delivery dates and cancel orders within specified time frames without
significant penalty. Because we base our operating expenses on anticipated
revenue trends and a high percentage of our expenses are fixed in the short
term, any delay in generating or recognizing forecasted revenues could
significantly harm our business.
It is likely that in some future quarters our operating results may fall
below the expectations of securities analysts and investors. In this event, the
trading price of our common stock would significantly decline.
OUR SUCCESS IS DEPENDENT ON THE CONTINUED DEVELOPMENT OF THE EMERGING HIGH-SPEED
LAN, SAN, CATV NETWORK AND EXTENDED NETWORK MARKETS
Our optical subsystem and network performance test system products are used
exclusively in high-speed local area networks, or LANs, storage area networks,
or SANs, cable television, or CATV, networks and extended networks. Accordingly,
widespread adoption of high-speed LANs, SANs and extended
17
networks and the adoption of digital return path technology for CATV network
applications is critical to our future success. The markets for high-speed LANs,
SANs, CATV networks and extended networks have only recently begun to develop
and are rapidly evolving. Because these markets are new and evolving, it is
difficult to predict their potential size or future growth rate. Potential
end-user customers who have invested substantial resources in their existing
data storage and management systems may be reluctant or slow to adopt a new
approach, like high-speed LANs, SANs, CATV networks or extended networks. Our
success in generating revenue in these emerging markets will depend, among other
things, on the growth of these markets. There is significant uncertainty as to
whether these markets ultimately will develop or, if they do develop, that they
will develop rapidly. If the markets for high-speed LANs, SANs, CATV networks or
extended networks fail to develop or develop more slowly than expected, or if
our products do not achieve widespread market acceptance in these markets, our
business would be significantly harmed.
WE WILL FACE CHALLENGES TO OUR BUSINESS IF OUR TARGET MARKETS ADOPT ALTERNATE
STANDARDS TO FIBRE CHANNEL AND GIGABIT ETHERNET TECHNOLOGY OR IF OUR PRODUCTS
FAIL TO COMPLY WITH EVOLVING INDUSTRY STANDARDS AND GOVERNMENT REGULATIONS
We have based our product offerings principally on Fibre Channel and Gigabit
Ethernet standards and our future success is substantially dependent on the
continued market acceptance of these standards. If an alternative technology is
adopted as an industry standard within our target markets, we would have to
dedicate significant time and resources to redesign our products to meet this
new industry standard. For example, manufacturers have begun to develop
networking systems with per-port transmission speeds of 10 gigabits per second,
or Gbps, ten times faster than Gigabit Ethernet. We cannot assure you that we
will be successful in redesigning our products or developing new products to
meet this new standard or any other standard that may emerge. Our products
comprise only a part of an entire networking system, and we depend on the
companies that provide other components to support industry standards as they
evolve. The failure of these companies, many of which are significantly larger
than we are, to support these industry standards could negatively impact market
acceptance of our products. Moreover, if we introduce a product before an
industry standard has become widely accepted, we may incur significant expenses
and losses due to lack of customer demand, unusable purchased components for
these products and the diversion of our engineers from future product
development efforts. In addition, because we may develop some products prior to
the adoption of industry standards, we may develop products that do not comply
with the eventual industry standard. Our failure to develop products that comply
with industry standards would limit our ability to sell our products. Finally,
if new standards evolve, we may not be able to successfully design and
manufacture new products in a timely fashion, if at all, that meet these new
standards.
In the United States, our products must comply with various regulations and
standards defined by the Federal Communications Commission and Underwriters
Laboratories. Internationally, products that we develop also will be required to
comply with standards established by local authorities in various countries.
Failure to comply with existing or evolving standards established by regulatory
authorities or to obtain timely domestic or foreign regulatory approvals or
certificates could significantly harm our business.
WE DEPEND ON LARGE PURCHASES FROM A FEW SIGNIFICANT CUSTOMERS, AND ANY LOSS,
CANCELLATION, REDUCTION OR DELAY IN PURCHASES BY THESE CUSTOMERS COULD HARM
OUR BUSINESS
A small number of customers have accounted for a significant portion of our
revenues. Our success will depend on our continued ability to develop and manage
relationships with significant customers. Sales to Newbridge Networks
Corporation and EMC Corporation represented 24.5% and 24.0% of our revenues
during fiscal 2000 and 25.1% and 24.1% of our revenues for fiscal 1999. Although
we are attempting to expand our customer base, we expect that significant
customer concentration will continue for the foreseeable future.
The markets in which we sell our products are dominated by a relatively
small number of systems manufacturers, thereby limiting the number of our
potential customers. Our dependence on large orders
18
from a relatively small number of customers makes our relationship with each
customer critically important to our business. We cannot assure you that we will
be able to retain our largest customers, that we will be able to attract
additional customers or that our customers will be successful in selling their
products that incorporate our products. We have in the past experienced delays
and reductions in orders from some of our major customers. In addition, our
customers have in the past sought price concessions from us and will continue to
do so in the future. Further, some of our customers may in the future shift
their purchases of products from us to our competitors or to joint ventures
between these customers and our competitors. The loss of one or more of our
largest customers, any reduction or delay in sales to these customers, our
inability to successfully develop relationships with additional customers or
future price concessions that we may make could significantly harm our business.
BECAUSE WE DO NOT HAVE LONG-TERM CONTRACTS WITH OUR CUSTOMERS, OUR CUSTOMERS MAY
CEASE PURCHASING OUR PRODUCTS AT ANY TIME IF WE FAIL TO MEET OUR CUSTOMERS'
NEEDS
We do not have long-term contracts with our customers. As a result, our
agreements with our customers do not provide any assurance of future sales.
Accordingly:
- our customers can stop purchasing our products at any time without
penalty;
- our customers are free to purchase products from our competitors; and
- our customers are not required to make minimum purchases.
Sales are typically made pursuant to individual purchase orders, often with
extremely short lead times. If we are unable to fulfill these orders in a timely
manner, we will lose sales and customers.
OUR MARKET IS SUBJECT TO RAPID TECHNOLOGICAL CHANGE, AND TO COMPETE EFFECTIVELY,
WE MUST CONTINUALLY INTRODUCE NEW PRODUCTS THAT ACHIEVE MARKET ACCEPTANCE
The markets for our products are characterized by rapid technological
change, frequent new product introductions, changes in customer requirements and
evolving industry standards. We expect that new technologies will emerge as
competition and the need for higher and more cost effective bandwidth increases.
Our future performance will depend on the successful development, introduction
and market acceptance of new and enhanced products that address these changes as
well as current and potential customer requirements. The introduction of new and
enhanced products may cause our customers to defer or cancel orders for existing
products. We have in the past experienced delays in product development and such
delays may occur in the future. Therefore, to the extent customers defer or
cancel orders in the expectation of a new product release or there is any delay
in development or introduction of our new products or enhancements of our
products, our operating results would suffer. We also may not be able to develop
the underlying core technologies necessary to create new products and
enhancements, or to license these technologies from third parties. Product
development delays may result from numerous factors, including:
- changing product specifications and customer requirements;
- difficulties in hiring and retaining necessary technical personnel;
- difficulties in reallocating engineering resources and overcoming resource
limitations;
- difficulties with contract manufacturers;
- changing market or competitive product requirements; and
- unanticipated engineering complexities.
The development of new, technologically advanced products is a complex and
uncertain process requiring high levels of innovation and highly skilled
engineering and development personnel, as well as
19
the accurate anticipation of technological and market trends. We cannot assure
you that we will be able to identify, develop, manufacture, market or support
new or enhanced products successfully, if at all, or on a timely basis. Further,
we cannot assure you that our new products will gain market acceptance or that
we will be able to respond effectively to product announcements by competitors,
technological changes or emerging industry standards. Any failure to respond to
technological change would significantly harm our business.
CONTINUED COMPETITION IN OUR MARKETS MAY LEAD TO A REDUCTION IN OUR PRICES,
REVENUES AND MARKET SHARE
The markets for optical subsystems and network performance test systems for
use in LANs, SANs, CATV networks and extended networks are highly competitive.
Our current competitors include a number of domestic and international
companies, many of which have substantially greater financial, technical,
marketing, distribution resources and brand name recognition than we have. We
expect that more companies, including some of our customers, will enter the
market for optical subsystems and network performance test systems. We may not
be able to compete successfully against either current or future competitors.
Increased competition could result in significant price erosion, reduced
revenue, lower margins or loss of market share, any of which would significantly
harm our business. For optical subsystems, we compete primarily with Agilent
Technologies, Inc., Infineon Technologies, International Business Machines
Corporation, Stratos Lightwave (formerly Methode Electronics), Molex Premise
Networks and Vixel Corporation. For network performance test systems, we compete
primarily with Ancot Corporation, I-Tech Corporation and Xyratex International.
Our competitors continue to introduce improved products with lower prices, and
we will have to do the same to remain competitive. In addition, some of our
current and potential customers may attempt to integrate their operations by
producing their own optical subsystems and network performance test systems or
acquiring one of our competitors, thereby eliminating the need to purchase our
products. Furthermore, larger companies in other related industries, such as the
telecommunications industry, may develop or acquire technologies and apply their
significant resources, including their distribution channels and brand name
recognition, to capture significant market share.
DECREASES IN AVERAGE SELLING PRICES OF OUR PRODUCTS MAY REDUCE GROSS MARGINS
The market for optical subsystems is characterized by declining average
selling prices resulting from factors such as increased competition, the
introduction of new products and increased unit volumes as manufacturers
continue to deploy network and storage systems. We have in the past experienced,
and in the future may experience, substantial period-to-period fluctuations in
operating results due to declining average selling prices. We anticipate that
average selling prices will decrease in the future in response to product
introductions by competitors or us, or by other factors, including price
pressures from significant customers. Therefore, we must continue to develop and
introduce on a timely basis new products that incorporate features that can be
sold at higher average selling prices. Failure to do so could cause our revenues
and gross margins to decline, which would significantly harm our business.
We may be unable to reduce the cost of our products sufficiently to enable
us to compete with others. Our cost reduction efforts may not allow us to keep
pace with competitive pricing pressures or lead to improved gross margins. In
order to remain competitive, we must continually reduce the cost of
manufacturing our products through design and engineering changes. We may not be
successful in redesigning our products or delivering our products to market in a
timely manner. We cannot assure you that any redesign will result in sufficient
cost reductions to allow us to reduce the price of our products to remain
competitive or improve our gross margin.
20
SHIFTS IN OUR PRODUCT MIX MAY RESULT IN DECLINES IN GROSS MARGINS
Our gross profit margins vary among our product families, and our gross
margins are generally higher on our network performance test systems than on our
optical subsystems. Our gross margins are generally lower for newly introduced
products and improve as unit volumes increase. Our overall gross margins have
fluctuated from period to period as a result of shifts in product mix, the
introduction of new products, decreases in average selling prices for older
products and our ability to reduce product costs. As a result of a significant
growth in sales of optical subsystem products over the past several quarters,
including sales of new products to a number of new customers, we have
experienced a sustained product shift toward a greater percentage of optical
subsystem products resulting in a decline in overall gross margins. We expect
this trend to continue at least through the first quarter ended July 31, 2000.
WE ARE SUBJECT TO A PENDING LEGAL PROCEEDING
In April 1999, Methode, a manufacturer of electronic component devices,
filed a lawsuit against us and another manufacturer alleging that our
optoelectronic products infringe four patents held by Methode. The original
complaint sought monetary damages and injunctive relief. Methode has amended its
complaint to add another manufacturer as an additional defendant, to allege
infringement of a fifth Methode patent and to allege that we breached our
obligations under a license and supply agreement with Methode by failing to
provide Methode with unspecified information regarding new technology related to
the products licensed under the agreement. The amended complaint seeks
additional compensatory damages of at least $224.3 million plus interest for the
alleged breach of this license and supply agreement. In addition, Methode has
notified us that it intends to file another amended complaint alleging
infringement of a sixth Methode patent. We believe that we have strong defenses
against Methode's lawsuit, and we have filed a counterclaim against Methode.
Portions of our counterclaim, based on principles of state law, were dismissed
in May 2000 on grounds of federal preemption; however, our basic claims of
ownership of the patents remain subject to our pending counterclaim. On June 5,
2000, Methode transferred the patents at issue in the litigation, as well as a
number of other patents, to Stratos Lightwave LLC, and on June 21, 2000, Stratos
Lightwave LLC transferred the same patents to Stratos Lightwave, Inc. Methode
has made a motion to add Stratos Lightwave, Inc. to the lawsuit as an additional
plaintiff.
We intend to defend Methode's lawsuit and pursue our counterclaim
vigorously. However, the litigation is in the preliminary stage, and we cannot
predict its outcome with certainty. The litigation process is inherently
uncertain and we may not prevail. Patent litigation is particularly complex and
can extend for a protracted time, which can substantially increase the cost of
such litigation. In connection with the Methode litigation, we have incurred,
and expect to continue to incur, substantial legal fees and expenses. The
Methode litigation has also diverted, and is expected to continue to divert, the
efforts and attention of some of our key management and technical personnel. As
a result, our defense of this litigation, regardless of its eventual outcome,
has been, and will likely continue to be, costly and time consuming. Should the
outcome of the litigation be adverse to us, we could be required to pay
significant monetary damages to Methode and could be enjoined from selling those
of our products found to infringe Methode's patents unless and until we are able
to negotiate a license from Methode. In the event that we obtain a license from
Methode, we would likely be required to make royalty payments with respect to
sales of our products covered by the license. Any such royalty payments would
increase our cost of revenues and reduce our gross profit. If we are required to
pay significant monetary damages, are enjoined from selling any of our products
or are required to make substantial royalty payments pursuant to any such
license agreement, our business would be significantly harmed. For a more
complete discussion of this litigation matter, please refer to "Item 3.--Legal
Proceedings."
21
OUR CUSTOMERS OFTEN EVALUATE OUR PRODUCTS FOR LONG AND VARIABLE PERIODS, WHICH
CAUSES THE TIMING OF OUR REVENUES AND RESULTS OF OPERATIONS TO BE
UNPREDICTABLE
The period of time between our initial contact with a customer and the
receipt of an actual purchase order may span a year or more. During this time,
customers may perform, or require us to perform, extensive and lengthy
evaluation and testing of our products before purchasing and using them in their
equipment. Our customers do not typically share information on the duration or
magnitude of these qualification procedures. The length of these qualification
processes also may vary substantially by product and customer, and, thus, cause
our results of operations to be unpredictable. While our potential customers are
qualifying our products and before they place an order with us, we may incur
substantial sales and marketing expenses and expend significant management
effort. Even after incurring such costs we ultimately may not sell any products
to such potential customers. In addition, these qualification processes often
make it difficult to obtain new customers, as customers are reluctant to expend
the resources necessary to qualify a new supplier if they have one or more
existing qualified sources. Once our products have been qualified, our
agreements with our customers have no minimum purchase commitments. Failure of
our customers to incorporate our products into their systems would significantly
harm our business.
WE DEPEND ON CONTRACT MANUFACTURERS FOR SUBSTANTIALLY ALL OF OUR ASSEMBLY
REQUIREMENTS AND IF THESE MANUFACTURERS FAIL TO PROVIDE US WITH ADEQUATE
SUPPLIES OF HIGH-QUALITY PRODUCTS, OUR COMPETITIVE POSITION, REPUTATION AND
BUSINESS COULD BE HARMED
We currently rely on four contract manufacturers for substantially all of
our assembly requirements. We do not have long term contracts with any of these
manufacturers. We have experienced delays in product shipments from contract
manufacturers in the past, which in turn delayed product shipments to our
customers. We may in the future experience similar delays or other problems,
such as inferior quality and insufficient quantity of product, any of which
could significantly harm our business. We cannot assure you that we will be able
to effectively manage our contract manufacturers or that these manufacturers
will meet our future requirements for timely delivery of products of sufficient
quality and quantity. We intend to regularly introduce new products and product
enhancements, which will require that we rapidly achieve volume production by
coordinating our efforts with those of our suppliers and contract manufacturers.
The inability of our contract manufacturers to provide us with adequate supplies
of high-quality products or the loss of any of our contract manufacturers would
cause a delay in our ability to fulfill orders while we obtain a replacement
manufacturer and would significantly harm our business.
If the demand for our products grows, we will need to increase our material
purchases, contract manufacturing capacity and internal test and quality
assurance functions. Any disruptions in product flow could limit our revenue,
adversely affect our competitive position and reputation and result in
additional costs or cancellation of orders under agreements with our customers.
In addition, we have recently begun outsourcing a portion of our contract
manufacturing internationally, and we intend to increase the use of
international contract manufacturers over time. Additional risks associated with
international contract manufacturing include:
- unexpected changes in regulatory requirements;
- legal uncertainties regarding liability, tariffs and other trade barriers;
- inadequate protection of intellectual property in some countries;
- greater incidence of shipping delays;
- limited oversight of manufacturing operations;
- potential political and economic instability; and
22
- currency fluctuations.
Any of these factors could significantly impair our ability to source our
contract manufacturing requirements internationally.
WE MAY LOSE SALES IF OUR SUPPLIERS FAIL TO MEET OUR NEEDS
We currently purchase several key components used in the manufacture of our
products from single or limited sources. We depend on these sources to meet our
needs. Moreover, we depend on the quality of the products supplied to us over
which we have limited control. We have encountered shortages and delays in
obtaining components in the past and expect to encounter shortages and delays in
the future. If we cannot supply products due to a lack of components, or are
unable to redesign products with other components in a timely manner, our
business will be significantly harmed. We have no long-term or short-term
contracts for any of our components. As a result, a supplier can discontinue
supplying components to us without penalty. If a supplier discontinued supplying
a component, our business may be harmed by the resulting product manufacturing
and delivery delays.
We use rolling forecasts based on anticipated product orders to determine
our component requirements. Lead times for materials and components that we
order vary significantly and depend on factors such as specific supplier
requirements, contract terms and current market demand for particular
components. If we overestimate our component requirements, we may have excess
inventory, which would increase our costs. If we underestimate our component
requirements, we may have inadequate inventory, which could interrupt our
manufacturing and delay delivery of our products to our customers. Any of these
occurrences would significantly harm our business.
WE ARE DEPENDENT ON WIDESPREAD MARKET ACCEPTANCE OF TWO PRODUCT FAMILIES, AND
OUR REVENUES WILL DECLINE IF THE MARKET DOES NOT CONTINUE TO ACCEPT EITHER OF
THESE PRODUCT FAMILIES
We currently derive substantially all of our revenue from sales of our
optical subsystems and network performance test systems. We expect that revenue
from these products will continue to account for substantially all of our
revenue for the foreseeable future. Accordingly, widespread acceptance of these
products is critical to our future success. If the market does not continue to
accept either our optical subsystems or our network performance test systems,
our revenues will decline significantly. Factors that may affect the market
acceptance of our products include the continued growth of the markets for LANs,
SANs, CATV networks and extended versions of these networks and, in particular,
Gigabit Ethernet and Fibre Channel-based technologies as well as the
performance, price and total cost of ownership of our products and the
availability, functionality and price of competing products and technologies.
Many of these factors are beyond our control. In addition, in order to achieve
widespread market acceptance, we must differentiate ourselves from the
competition through product offerings and brand name recognition. We cannot
assure you that we will be successful in making this differentiation or
achieving widespread acceptance of our products. Failure of our existing or
future products to maintain and achieve widespread levels of market acceptance
will significantly impair our revenue growth.
BECAUSE OF INTENSE COMPETITION FOR TECHNICAL PERSONNEL, WE MAY NOT BE ABLE TO
RECRUIT OR RETAIN NECESSARY PERSONNEL
We believe our future success will depend in large part upon our ability to
attract and retain highly skilled managerial, technical, sales and marketing,
finance and manufacturing personnel. In particular, we will need to increase the
number of technical staff members with experience in high-speed networking
applications as we further develop our product lines. Competition for these
highly skilled employees in our industry is intense. Our failure to attract and
retain these qualified employees could significantly harm our business. The loss
of the services of any of our qualified employees, the inability to attract or
retain qualified personnel in the future or delays in hiring required personnel
could hinder the development and
23
introduction of and negatively impact our ability to sell our products. In
addition, employees may leave our company and subsequently compete against us.
Moreover, companies in our industry whose employees accept positions with
competitors frequently claim that their competitors have engaged in unfair
hiring practices. We have been subject to claims of this type and may be subject
to such claims in the future as we seek to hire qualified personnel. Some of
these claims may result in material litigation. We could incur substantial costs
in defending ourselves against these claims, regardless of their merits.
CONTINUED RAPID GROWTH WILL STRAIN OUR OPERATIONS AND REQUIRE US TO INCUR COSTS
TO UPGRADE OUR INFRASTRUCTURE
We have experienced a period of rapid growth, which has placed a significant
strain on our resources. Unless we manage our growth effectively, we may make
mistakes in operating our business, such as inaccurate sales forecasting,
material planning and financial reporting, which may result in fluctuations in
our operating results and cause the price of our stock to decline. We plan to
continue to expand our operations significantly. This anticipated growth will
continue to place a significant strain on our management and operational
resources. In order to manage our growth effectively, we must implement and
improve our operational systems, procedures and controls on a timely basis. If
we cannot manage growth effectively, our business could be significantly harmed.
OUR PRODUCTS MAY CONTAIN DEFECTS THAT MAY CAUSE US TO INCUR SIGNIFICANT COSTS,
DIVERT OUR ATTENTION FROM PRODUCT DEVELOPMENT EFFORTS AND RESULT IN A LOSS OF
CUSTOMERS
Networking products frequently contain undetected software or hardware
defects when first introduced or as new versions are released. Our products are
complex and defects may be found from time to time. In addition, our products
are often embedded in or deployed in conjunction with our customers' products
which incorporate a variety of components produced by third parties. As a
result, when problems occur, it may be difficult to identify the source of the
problem. These problems may cause us to incur significant damages or warranty
and repair costs, divert the attention of our engineering personnel from our
product development efforts and cause significant customer relation problems or
loss of customers, all of which would harm our business.
OUR FAILURE TO PROTECT OUR INTELLECTUAL PROPERTY MAY SIGNIFICANTLY HARM OUR
BUSINESS
Our success and ability to compete is dependent in part on our proprietary
technology. We rely on a combination of patent, copyright, trademark and trade
secret laws, as well as confidentiality agreements and licensing arrangements,
to establish and protect our proprietary rights. To date, we have relied
primarily on proprietary processes and know-how to protect our intellectual
property. Although we have filed for several patents, some of which have issued,
we cannot assure you that any patents will issue as a result of pending patent
applications or that our issued patents will be upheld. Any infringement of our
proprietary rights could result in significant litigation costs, and any failure
to adequately protect our proprietary rights could result in our competitors
offering similar products, potentially resulting in loss of a competitive
advantage and decreased revenues. Despite our efforts to protect our proprietary
rights, existing patent, copyright, trademark and trade secret laws afford only
limited protection. In addition, the laws of some foreign countries do not
protect our proprietary rights to the same extent as do the laws of the United
States. Attempts may be made to copy or reverse engineer aspects of our products
or to obtain and use information that we regard as proprietary. Accordingly, we
may not be able to prevent misappropriation of our technology or deter others
from developing similar technology. Furthermore, policing the unauthorized use
of our products is difficult. Litigation may be necessary in the future to
enforce our intellectual property rights or to determine the validity and scope
of the proprietary rights of others. This litigation could result in substantial
costs and diversion of resources and could significantly harm our business.
24
CLAIMS THAT WE INFRINGE THIRD-PARTY INTELLECTUAL PROPERTY RIGHTS COULD RESULT IN
SIGNIFICANT EXPENSES OR RESTRICTIONS ON OUR ABILITY TO SELL OUR PRODUCTS
The networking industry is characterized by the existence of a large number
of patents and frequent litigation based on allegations of patent infringement.
We are currently involved in a patent infringement lawsuit. For a more detailed
discussion of this lawsuit, please refer to "--We are subject to a pending legal
proceeding." In addition, from time to time, other parties may assert patent,
copyright, trademark and other intellectual property rights to technologies and
in various jurisdictions that are important to our business. Any claims
asserting that our products infringe or may infringe proprietary rights of third
parties, if determined adversely to us, could significantly harm our business.
Any claims, with or without merit, could be time-consuming, result in costly
litigation, divert the efforts of our technical and management personnel, cause
product shipment delays or require us to enter into royalty or licensing
agreements, any of which could significantly harm our business. Royalty or
licensing agreements, if required, may not be available on terms acceptable to
us, if at all. In addition, our agreements with our customers typically require
us to indemnify our customers from any expense or liability resulting from
claimed infringement of third party intellectual property rights. In the event a
claim against us was successful and we could not obtain a license to the
relevant technology on acceptable terms or license a substitute technology or
redesign our products to avoid infringement, our business would be significantly
harmed.
IF WE ARE UNABLE TO EXPAND OUR DIRECT SALES OPERATION AND RESELLER DISTRIBUTION
CHANNELS OR SUCCESSFULLY MANAGE OUR EXPANDED SALES ORGANIZATION, OUR ABILITY
TO INCREASE OUR REVENUES WILL BE HARMED
Historically, we have relied primarily on a limited direct sales
organization, supported by third party manufacturers' representatives, to sell
our products domestically and on indirect distribution channels to sell our
products internationally. Our distribution strategy focuses primarily on
developing and expanding our direct sales organization in North America and our
indirect distribution channels internationally. We may not be able to
successfully expand our direct sales organization and the cost of any expansion
may exceed the revenue generated. To the extent that we are successful in
expanding our direct sales organization, we cannot assure you that we will be
able to compete successfully against the significantly larger and well-funded
sales and marketing operations of many of our current or potential competitors.
In addition, if we fail to develop relationships with significant international
resellers or domestic manufacturers' representatives, of if these resellers or
representatives are not successful in their sales or marketing efforts, sales of
our products may decrease and our business would be significantly harmed. We
have granted exclusive rights to substantially all of our resellers to sell our
product and to our representatives to market our products in their specified
territories. Our resellers and representatives may not market our products
effectively or continue to devote the resources necessary to provide us with
effective sales, marketing and technical support. Our inability to effectively
manage the expansion of our domestic sales and support staff or maintain
existing or establish new relationships with domestic manufacturer
representatives and international resellers would harm our business.
ANY ACQUISITIONS THAT WE UNDERTAKE COULD BE DIFFICULT TO INTEGRATE, DISRUPT OUR
BUSINESS, DILUTE STOCKHOLDER VALUE AND HARM OUR OPERATING RESULTS
We expect to review opportunities to buy other businesses or technologies
that would complement our current products, expand the breadth of our markets or
enhance our technical capabilities, or that may otherwise offer growth
opportunities. We may buy businesses, products or technologies in the future. If
we make any future acquisitions, we could issue stock that would dilute existing
stockholders' percentage ownership, incur substantial debt or assume contingent
liabilities. Our experience in acquiring other business and technologies is
limited. Potential acquisitions also involve numerous risks, including:
- problems assimilating the purchased operations, technologies or products;
- unanticipated costs associated with the acquisition;
25
- diversion of management's attention from our core business;
- adverse effects on existing business relationships with suppliers and
customers;
- risks associated with entering markets in which we have no or limited
prior experience; and
- potential loss of key employees of purchased organizations.
We cannot assure you that we would be successful in overcoming problems
encountered in connection with such acquisitions, and our inability to do so
could significantly harm our business.
OUR EXECUTIVE OFFICERS AND DIRECTORS AND ENTITIES AFFILIATED WITH THEM OWN A
LARGE PERCENTAGE OF OUR VOTING STOCK, WHICH WILL ALLOW THEM TO CONTROL ALL
MATTERS REQUIRING STOCKHOLDER APPROVAL
Our executive officers, directors and 5% or greater stockholders
beneficially own 86,076,120 shares or approximately 53.9% of the outstanding
shares of our common stock. These stockholders, acting together, would be able
to control all matters requiring approval by stockholders, including the
election or removal of directors and the approval of mergers or other business
combination transactions. This concentration of ownership could have the effect
of delaying or preventing a change in our control or otherwise discouraging a
potential acquirer from attempting to obtain control of us, which in turn could
have an adverse effect on the market price of our common stock or prevent our
stockholders from realizing a premium over the market price for their shares of
common stock. See "Item 12--Security Ownership of Certain Beneficial Owners and
Management."
IF WE ARE UNABLE TO EXPAND OUR INTERNATIONAL OPERATIONS OR MANAGE THEM
EFFECTIVELY, OUR BUSINESS WOULD BE SIGNIFICANTLY HARMED
Historically, substantially all of our sales have been made to customers in
North America. To address expanding international markets, we have recently
established relationships with distributors in Japan, the United Kingdom,
Israel, Germany and Korea. The growth of our distribution channels outside of
North America will be subject to a number of risks and uncertainties, including:
- the difficulties and costs of obtaining regulatory approvals for our
products;
- unexpected changes in regulatory requirements;
- legal uncertainties regarding liability, tariffs and other trade barriers;
- inadequate protection of intellectual property in some countries;
- increased difficulty in collecting delinquent or unpaid accounts;
- potentially adverse tax consequences;
- adoption of different local standards; and
- potential political and economic instability.
Any of these factors could significantly harm our existing international
operations and business or significantly impair our ability to expand into
international markets.
Our international sales currently are U.S. dollar-denominated. As a result,
an increase in the value of the U.S. dollar relative to foreign currencies could
make our products less competitive in international markets. In the future, we
may elect to invoice some of our international customers in local currency.
Doing so will subject us to fluctuations in exchange rates between the U.S.
dollar and the particular local currency.
26
DELAWARE LAW AND OUR CHARTER DOCUMENTS CONTAIN PROVISIONS THAT COULD DISCOURAGE
OR PREVENT A POTENTIAL TAKEOVER, EVEN IF SUCH A TRANSACTION WOULD BE
BENEFICIAL TO OUR STOCKHOLDERS
Some provisions of our Certificate of Incorporation and Bylaws, as well as
provisions of Delaware law, may discourage, delay or prevent a merger or
acquisition that a stockholder may consider favorable. These provisions include:
- authorizing the board to issue additional preferred stock;
- prohibiting cumulative voting in the election of directors;
- limiting the persons who may call special meetings of stockholders;
- prohibiting stockholder actions by written consent;
- creating a classified Board of Directors pursuant to which our directors
are elected for staggered three-year terms; and
- establishing advance notice requirements for nominations for election to
the board of directors or for proposing matters that can be acted on by
stockholders at stockholder meetings.
OUR HEADQUARTERS AND MOST OF OUR CONTRACT MANUFACTURERS ARE LOCATED IN NORTHERN
CALIFORNIA WHERE NATURAL DISASTERS MAY OCCUR
Currently, our corporate headquarters and most of our contract manufacturers
are located in Northern California. Northern California historically has been
vulnerable to natural disasters and other risks, such as earthquakes, fires and
floods, which at times have disrupted the local economy and posed physical risks
to our and our manufacturers' property. We presently do not have redundant,
multiple site capacity in the event of a natural disaster. In the event of such
disaster, our business would suffer.
OUR STOCK PRICE IS VOLATILE AND YOU MAY BE UNABLE TO RESELL YOUR SHARES AT OR
ABOVE YOUR PURCHASE PRICE
The trading price of our common stock has fluctuated substantially since our
initial public offering in November 1999. The stock market in general, and the
Nasdaq National Market and stocks of technology companies in particular, have
experienced extreme price and volume fluctuations. This volatility is often
unrelated or disproportionate to the operating performance of these companies.
Broad market and industry factors may adversely affect the market price of our
common stock, regardless of our actual operating performance. In the past,
following periods of volatility in the market price of a company's securities,
securities class-action litigation has often been initiated against these
companies. This litigation, if initiated, could result in substantial costs and
a diversion of management's attention and resources, which would significantly
harm our business.
ITEM 2. PROPERTIES
Our facility is located in Sunnyvale, California. We lease approximately
75,000 square feet for our corporate headquarters which includes research and
development, sales and marketing, general and administrative and manufacturing
operations. This lease expires in July 2006. We currently sublease approximately
15,000 square feet of this facility. We believe our current facilities will be
adequate to meet our needs through fiscal 2001.
In addition, we continue to lease our prior facility in Mountain View,
California under a lease expiring in May 2002. We intend to continue subleasing
this 20,000 square foot facility through the expiration of the lease term.
27
ITEM 3. LEGAL PROCEEDINGS
In April 1999, Methode, a manufacturer of electronic component devices,
filed a lawsuit against us and another manufacturer alleging that our
optoelectronic products infringe four patents held by Methode. The original
complaint sought monetary damages and injunctive relief. Methode has amended its
complaint to add another manufacturer as an additional defendant, to allege
infringement of a fifth Methode patent and to allege that we breached our
obligations under a license and supply agreement with Methode by failing to
provide Methode with unspecified information regarding new technology related to
the products licensed under the agreement. The amended complaint seeks
additional compensatory damages of at least $224.3 million plus interest for the
alleged breach of this license and supply agreement. In addition, Methode has
notified us that it intends to file another amended complaint alleging
infringement of a sixth Methode patent. We believe that we have strong defenses
against Methode's lawsuit, and we have filed a counterclaim against Methode.
Portions of our counterclaim, based on principles of state law, were dismissed
in May 2000 on grounds of federal preemption; however, our basic claims of
ownership of the patents remain subject to our pending counterclaim. On June 5,
2000, Methode transferred the patents at issue in the litigation, as well as a
number of other patents, to Stratos Lightwave LLC, and on June 21, 2000, Stratos
Lightwave LLC transferred the same patents to Stratos Lightwave, Inc. Methode
has made a motion to add Stratos Lightwave, Inc. to the lawsuit as an additional
plaintiff.
We intend to defend Methode's lawsuit and pursue our counterclaim
vigorously. However, the litigation is in the preliminary stage, and we cannot
predict its outcome with certainty. The litigation process is inherently
uncertain and we may not prevail. Patent litigation is particularly complex and
can extend for a protracted time, which can substantially increase the cost of
such litigation. In connection with the Methode litigation, we have incurred,
and expect to continue to incur, substantial legal fees and expenses. The
Methode litigation has also diverted, and is expected to continue to divert, the
efforts and attention of some of our key management and technical personnel. As
a result, our defense of this litigation, regardless of its eventual outcome,
has been, and will likely continue to be, costly and time consuming. Should the
outcome of the litigation be adverse to us, we could be required to pay
significant monetary damages to Methode and could be enjoined from selling those
of our products found to infringe Methode's patents unless and until we are able
to negotiate a license from Methode. In the event that we obtain a license from
Methode, we would likely be required to make royalty payments with respect to
sales of our products covered by the license. Any such royalty payments would
increase our cost of revenues and reduce our gross profit. If we are required to
pay significant monetary damages, are enjoined from selling any of our products
or are required to make substantial royalty payments pursuant to any such
license agreement, our business would be significantly harmed.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of the Company's security holders
during the quarter ended April 30, 2000.
28
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Since our initial public offering on November 11, 1999, our common stock has
traded on the Nasdaq National Market under the symbol "FNSR." The following
table sets forth the range of high and low closing sales prices of our common
stock for the periods indicated, as adjusted for a three-for-one stock split
effective in April 2000:
FISCAL YEAR ENDING APRIL 30, 2000 HIGH LOW
- --------------------------------- -------- --------
Third Quarter (from November 11, 1999 through January 30,
2000)................................................... $42.333 $20.750
Fourth Quarter (through April 30, 2000)................... $61.729 $19.167
The closing price of the Company's Common Stock on June 30, 2000 was
$25.938. The approximate number of stockholders of record on June 30, 2000 was
242.
We have never declared or paid dividends on our Common Stock and currently
do not intend to pay dividends in the foreseeable future so that we may reinvest
our earnings in the development of our business. The payment of dividends in the
future will be at the discretion of the Board of Directors.
ITEM 6. SELECTED FINANCIAL DATA
You should read the following selected financial data in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our financial statements and the notes thereto included
elsewhere in this report. The statement of operations data set forth below for
the years ended April 30, 1998, 1999 and 2000 and the balance sheet data as of
April 30, 1999 and 2000 are derived from, and are qualified by reference to, our
audited financial statements included elsewhere in this report. The balance
sheet data as of April 30, 1998 and 1997 are derived from audited financial
statements not included in this prospectus. The statement of operations data set
forth below for the year ended April 30,
29
1996 and the balance sheet data as of April 30, 1996 are derived from unaudited
financial statements not included in this report.
FISCAL YEAR ENDED APRIL 30,
----------------------------------------------------
1996 1997 1998 1999 2000
-------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Revenues................................ $ 5,660 $ 8,457 $ 22,067 $ 35,471 $ 67,147
Cost of revenues........................ 3,122 3,438 8,705 15,514 34,190
-------- -------- -------- -------- --------
Gross profit............................ 2,538 5,019 13,362 19,957 32,957
-------- -------- -------- -------- --------
Operating expenses:
Research and development.............. 1,442 2,536 3,806 7,864 13,806
Sales and marketing................... 116 645 1,629 4,145 7,122
General and administrative............ 280 464 833 2,299 3,516
Amortization of deferred stock
compensation........................ -- -- -- 428 5,530
-------- -------- -------- -------- --------
Total operating expenses............ 1,838 3,645 6,268 14,736 29,974
-------- -------- -------- -------- --------
Income from operations.................. 700 1,374 7,094 5,221 2,983
Interest income (expense), net.......... 10 13 5 (275) 3,252
Other income (expense), net............. -- -- (25) (28) (99)
-------- -------- -------- -------- --------
Income before income taxes.............. 710 1,387 7,074 4,918 6,136
Provision for income taxes.............. 247 440 2,715 1,873 3,255
-------- -------- -------- -------- --------
Net income.............................. $ 463 $ 947 $ 4,359 $ 3,045 $ 2,881
======== ======== ======== ======== ========
Net income per share:
Basic................................... $ 0.00 $ 0.01 $ 0.03 $ 0.03 $ 0.03
======== ======== ======== ======== ========
Diluted................................. $ 0.00 $ 0.01 $ 0.03 $ 0.02 $ 0.02
======== ======== ======== ======== ========
Shares used in per share calculations:
Basic................................... 132,000 132,000 131,259 110,580 113,930
======== ======== ======== ======== ========
Diluted................................. 132,000 132,000 131,259 134,814 144,102
======== ======== ======== ======== ========
APRIL 30,
----------------------------------------------------
1996 1997 1998 1999 2000
-------- -------- -------- -------- --------
(IN THOUSANDS)
BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments................................. $ 772 $ 422 $ 722 $ 5,044 $320,735
Working capital............................... 856 1,685 5,730 13,011 342,711
Total assets.................................. 1,948 2,987 7,761 20,955 365,042
Long-term portion of note payable and capital
lease obligations, and other long-term
liabilities................................. -- -- 416 11,032 524
Convertible redeemable preferred stock........ -- -- -- 26,260 --
Total stockholders' equity (deficit).......... 1,141 2,088 6,447 (21,503) 352,422
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion contains forward-looking statements that involve
risks and uncertainties. Our actual resul