Back to GetFilings.com

SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended June 30, 2002

OR

For the transition period from                            to                             .

Commission file number 0-22784

GATEWAY, INC.
(Exact name of registrant as specified in its charter)

14303 Gateway Place
Poway, CA 92064
(Address of principal executive offices, zip code)

Registrant's telephone number, including area code: (858) 848-3401

        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 ý    No o

        As of August 6, 2002, there were 324,027,520 shares of the Common Stock of the Company, $.01 par value per share, outstanding. As of August 6, 2002, there were no shares of the Company's Class A Common Stock, $.01 par value per share, outstanding.

I. FINANCIAL INFORMATION

Item 1. Financial Statements

Gateway, Inc.

CONSOLIDATED STATEMENTS OF OPERATIONS

For the three and six months ended June 30, 2002 and 2001

(in thousands, except per share amounts)

(unaudited)

The accompanying notes are an integral part of the consolidated financial statements.

2

Gateway, Inc.

CONSOLIDATED BALANCE SHEETS

June 30, 2002 and December 31, 2001

(in thousands, except per share amounts)

The accompanying notes are an integral part of the consolidated financial statements.

3

Gateway, Inc.

CONSOLIDATED STATEMENTS OF CASH FLOWS

For the six months ended June 30, 2002 and 2001

(in thousands)

(unaudited)

The accompanying notes are an integral part of the consolidated financial statements.

4

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. General:

        The accompanying unaudited consolidated financial statements of Gateway, Inc. (the "Company") as of June 30, 2002 and for the three and six months ended June 30, 2002 and 2001 have been prepared on the same basis as the audited consolidated financial statements for the year ended December 31, 2001 and, in the opinion of management, reflect all adjustments necessary to fairly state the consolidated financial position, results of operations and cash flows for the interim periods. All adjustments are of a normal, recurring nature. The results for the interim periods are not necessarily indicative of results to be expected for any other interim period or the entire year. These financial statements should be read in conjunction with the Company's audited consolidated financial statements and notes thereto for the year ended December 31, 2001, which are included in the Company's 2001 Annual Report on Form 10-K, filed with the Securities and Exchange Commission. Certain reclassifications have been made to prior period financial statements to conform to current periods' presentation. These reclassifications had no impact on previously reported net loss or stockholders' equity. The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates under different assumptions or conditions.

2. Comprehensive Income (Loss):

        Comprehensive income (loss) for the Company includes net loss, foreign currency translation effects, unrealized gains or losses on derivatives qualifying as hedges, unrealized gains or losses on available-for-sale securities and realized gains in the statement of operations when the available-for-sale securities are sold which are charged or credited to the accumulated other comprehensive income account within stockholders' equity.

        Comprehensive income (loss) for the three and six month periods ended June 30, 2002 and 2001 was as follows (in thousands):

3. Share and Per Share Information:

        Basic earnings per common share is computed using net income (loss) attributable to common stockholders and the weighted average number of common shares outstanding during the period. Diluted earnings per common share is computed using net income (loss) attributable to common

5

stockholders and the combination of dilutive common stock equivalents and the weighted average number of common shares outstanding during the period. Diluted shares for the three months ended June 30, 2002 and 2001 excludes 22,670,008 and 1,150,659 weighted average incremental shares respectively, and for the six months ended June 30, 2002 and 2001 excludes 22,562,247 and 1,358,410 weighted average incremental shares, respectively, related to employee and director common stock options and Series A Convertible Preferred Stock. These shares are excluded as their effect is anti-dilutive. The Series C Redeemable Convertible Preferred Stock is contingently convertible and therefore is not included in calculating earnings per share as the contingency has not been met as of June 30, 2002.

4. Changes in Accounting Principles:

        In the first quarter of 2001, the Company adopted Statement of Financial Standards No. 133 "Accounting for Derivative Instruments and Hedging Activities" (FAS 133). Under FAS 133, as amended, all derivative instruments (including certain derivative instruments embedded in other contracts) are recognized in the balance sheet at their fair values. Changes in fair values are recognized immediately in earnings, unless the derivatives qualify as hedges of future cash flows. For derivatives qualifying as hedges of future cash flows, the effective portion of changes in fair value is recorded temporarily in other comprehensive income (loss), then recognized in earnings along with the related effects of the hedged items after the transaction occurs. Any ineffective portion of a hedge is reported in earnings as it occurs.

        The Company used foreign currency forward contracts to hedge foreign currency transactions. These forward contracts were designated as cash flow hedges and generally have three to six month terms. Additionally, the Company holds warrants as investments in connection with certain strategic relationships. On January 1, 2001, the Company's financial statements were adjusted by $37 million, of which $4 million related to the Company's hedges and warrants mentioned above, and $33 million related to the Company's long-term investments, to record the cumulative effect of adopting this accounting change.

5. Financing Receivables:

        Finance receivables, included in other current assets in the December 31, 2001 balance sheet, consist of receivables due from customer installment purchases of the Company's products and services, net of allowance for losses. In the first quarter of 2002, the Company sold its remaining finance receivables portfolio at book value with no recourse.

6

6. Selected Balance Sheet Information (in thousands):

7. Preferred Stock:

        On February 2, 2001, the Company received $200 million in exchange for a convertible note due December 22, 2020 in connection with the second closing of an investment agreement with America Online, Inc. ("AOL"). In December 2001, this convertible note was extinguished through the issuance of 50,000 shares of non-voting Series C Redeemable Convertible Preferred Stock ("Series C Preferred Stock"). The Series C Preferred Stock had a fair value on the date of issuance of approximately $193 million. The fair value of $193 million will be accreted to the face value of $200 million through 2004 using the interest method.

        The Company issued 50,000 shares of non-voting Series A Convertible Preferred Stock ("Series A Preferred Stock") to AOL in exchange for $200 million in cash in December 2001.

8. Income Taxes:

        The Company recorded a tax benefit of $34 million, or 37%, for the second quarter of 2002 and a tax benefit of $107 million, or 37%, for the first six months of 2002 compared to a tax benefit of $10 million, or 32%, for the second quarter of 2001 and a tax benefit of $145 million, or 22%, for the first six months of 2001. The tax benefit for the first six months of 2001 is net of a tax assessment in a foreign subsidiary and an increase in the deferred tax valuation allowance for certain of the restructuring and special charges, losses related to the Company's foreign operations and unrealized capital losses associated with investment impairment. The change in the valuation allowance was the result of management's assessment that the tax benefit associated with these items was no longer more likely than not to be realized. Although the realization of the remaining net deferred tax assets is not assured, management believes that it is more likely than not that the net deferred tax assets will be realized.

7

9. Contingencies:

        On December 7, 2000, James Burton ("Burton") filed a purported class action complaint against Gateway, one of its former officers, and one director, in the United States District Court for the Southern District of California for alleged violation of federal securities laws. Since December 2000, six similar cases have been filed in the same court by other plaintiffs. The complaints were amended to allege among other things that the defendants misrepresented Gateway's financial performance in securities filings and in statements to the public, and purport to be class actions on behalf of purchasers of Gateway's stock between April 14, 2000 and February 28, 2001 (the "class period"). The complaints seek damages and attorneys' fees. On December 18, 2000, the Court entered an Order directing counsel for the lead plaintiffs to file a single consolidated complaint within 60 days after the Court's designation of a "lead plaintiff." On April 23, 2001, plaintiffs' counsel filed a Revised Motion to Appoint Perry Capital and Teachers' Retirement System of Louisiana as Lead Plaintiff and to Approve Plaintiffs' Choice of Lead Counsel, and this motion was granted by the Court on May 18, 2001. On July 16, 2001, the lead plaintiff filed a consolidated complaint alleging violations of the federal securities laws for the class period against Gateway and two former officers. On September 13, 2001, defendants filed a motion to dismiss. On February 1, 2002, the court entered an order granting the defendants' motion to dismiss, but allowed the plaintiffs to file an amended complaint. Subsequently, the parties and insurance carriers reached a settlement in which the Company denied all allegations and does not admit any liability. The settlement, which is expected to be funded entirely by the Company's insurance carriers, is scheduled for an approval hearing on September 9, 2002.

        On March 27, 2001, Bruce Eubank ("Eubank") filed a shareholder derivative suit on behalf of Gateway against its Board of Directors and two of Gateway's former officers in the Superior Court of the State of California, County of San Diego. The Eubank complaint alleges among other things that the defendants breached their fiduciary duties to Gateway and wasted corporate assets and seeks compensatory and punitive damages, an accounting, injunctive relief, and attorney's fees. On May 15, 2001, Jacob Scheinhartz ("Scheinhartz") filed a similar derivative suit in the United States District Court for the Southern District of California. The Company filed motions seeking dismissal of the Eubank lawsuit. Both of these derivative lawsuits have now been dismissed, conditional on the approval of the federal settlement described above.

        Although the settlement has been preliminarily approved by the court, there can be no assurance the settlement will be finally approved and if it is not, there can be no assurance that the Company will be successful in defending the lawsuits or if unsuccessful, that insurance will be available to pay all or any portion of the expense of the lawsuits. The Company's consolidated financial statements do not include any adjustments related to these matters.

        Additionally, the Company is party to various lawsuits and administrative proceedings arising in the ordinary course of business. The Company evaluates such lawsuits and proceedings on a case-by-case basis, and its policy is to vigorously contest any such claims which it believes are without merit. The Company's management believes that the ultimate resolution of such pending matters will not materially and adversely affect the Company's business, financial position, results of operations or cash flows.

8

10. Restructuring and Other Special Charges:

        During the first quarter of 2002, the Company approved a restructuring plan to, among other things, reduce its workforce, close certain retail locations and other company sites. A pre-tax charge of $99 million was recorded in the first quarter to provide for these actions and other related items. The charge is included in cost of goods sold and selling, general and administrative expenses. Included in the pre-tax charge of $99 million is $48 million for asset write-downs related to the impairment of certain long-lived assets that were either abandoned during the quarter, or for which the resulting estimated future reduced cash flows were insufficient to cover the carrying amounts.

        The following table summarizes charges recorded during the first quarter for exit activities and asset write-downs (in millions):

        The amounts charged against the provision during the second quarter of 2002 were as follows (in millions):

        The nature of the charges summarized above is as follows:

•

Productivity Initiatives—The Company recorded a $30 million charge primarily related to severance benefits to terminated employees in the United States. The Company terminated approximately 2,400 employees during the quarter ended March 31, 2002, including approximately 1,400 employees primarily related to sales and customer service, 600 manufacturing employees and 400 other administrative personnel.



•

Facilities/Capital Assets—The Company recorded a $59 million charge related to the abandonment of certain capital assets during the first quarter, including $27 million related to the closure of certain of the Company's facilities and $16 million primarily related to the abandonment of certain information technology projects in the United States. The Company incurred charges of approximately $16 million, principally related to future lease commitments, net of expected recoveries, as a result of closing certain of the Company's facilities.

9

•

Operating Assets—The Company recorded a charge of $20 million related to the closing of 19 stores in the United States. In connection with these store closings, the Company accrued approximately $10 million in exit costs related to future lease commitments, net of expected sublease rentals, and incurred charges of $10 million for impairment of store assets that were abandoned during the quarter ended March 31, 2002.



•

International Restructuring—The Company recorded an adjustment to reduce previously recorded charges by $10 million during the quarter ended March 31, 2002, primarily due to a higher than expected recovery on assets.

11. Segment Data:

        The Company's segments are based on geography and, in the United States, by customer class. Geographic segments included the United States; Europe, Middle East, Africa ("EMEA"); and Asia Pacific. During the third quarter of 2001, the Company exited substantially all of its company-owned international operations. Customer class segments in the United States are Consumer and Business. The Company evaluates the performance of its Consumer and Business segments based on sales and operating income, and does not include segment assets or other income and expense items for management reporting purposes. Management evaluates net sales by customer class based on units shipped in the period. Segment operating income (loss) includes selling, general and administrative expenses and other overhead charges directly attributable to the segment and excludes certain expenses managed outside the reporting segment. Costs excluded from the segments primarily consist of general and administrative expenses that are managed on a corporate-wide basis and for the six months ended June 30, 2002 includes restructuring and other special charges discussed in Note 10 and for the quarter and six months ended June 30, 2001 includes restructuring and other special charges discussed in the Company's 2001 Annual Report on Form 10-K.

10

        The following table sets forth summary information by segment (in thousands):