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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the fiscal year ended September 28, 2002 or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
OPTICNET, INC.
(Exact name of Registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or organization)
94-3368561
(I.R.S. Employer Identification No.)
One Post Street, Suite 2500
San Francisco, California 94104
(Address of principal executive officers) (Zip code)
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(415) 956-4477
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(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the
Act:
None
----
Securities registered pursuant to Section 12(g) of the
Act:
Common Stock, $.0001 par value
----------------------------------
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 proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.[ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
Common Stock: $0.0001 Par Value; 3,093,202 shares of Voting Common Stock and
2,998,902 shares of Nonvoting Common Stock outstanding as of December 11, 2002.
DOCUMENTS INCORPORATED BY REFERENCE
Registrant's Proxy Statement with respect to its 2003 Annual Meeting of
Stockholders to be filed with the Securities and Exchange Commission is
incorporated by reference into Part III, Items 10, 11, 12 and 13 of this report.
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TABLE OF CONTENTS
Page
PART I
Item 1. Business....................................................................... 3
Item 2. Properties..................................................................... 21
Item 3. Legal Proceedings.............................................................. 21
Item 4. Submission of Matters to a Vote of Security Holders............................ 21
PART II
Item 5. Market for Registrant's Common Equity and
Related Stockholder Matters.................................................... 22
Item 6. Selected Financial Data........................................................ 24
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations.................................. 25
Item 7a. Quantitative and Qualitative Disclosures About Market Risk..................... 32
Item 8. Financial Statements and Supplementary Data.................................... 33
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure......................................... 55
PART III
Item 10. Directors and Executive Officers
of the Registrant.............................................................. 55
Item 11. Executive Compensation......................................................... 55
Item 12. Security Ownership of Certain Beneficial
Owners and Management.......................................................... 55
Item 13. Certain Relationships and Related Transactions................................. 55
PART IV
Item 14. Controls and Procedures........................................................... 55
Item 15. Exhibits, Financial Statement Schedules,
and Reports on Form 8-K........................................................ 56
Signatures ............................................................................... 59
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Except for historical information contained herein, the following discussion
contains certain forward-looking statements that are based on the beliefs of our
management, as well as assumptions made by, and information currently available
to, our management. We have based these forward-looking statements on our
current expectations and projections about future events and trends affecting
the financial condition of our business. These forward-looking statements are
subject to risks, uncertainties and assumptions about us, several of which are
identified below and discussed in Item 1. "Business--Risk Factors" and Item 7.
"Management's Discussion and Analysis of Financial Condition and Results of
Operations." In particular, the words and phrases such as "expects,"
"estimates," "intends," "plans," "believes," "projection," "will continue" and
"is anticipated" are intended to identify forward-looking statements.
These forward-looking statements may differ materially from actual results
because they involve estimates, assumptions and uncertainties. We undertake no
obligation to update or revise any forward-looking statements, whether as a
result of new information, future events or otherwise.
PART I
ITEM 1. BUSINESS
Introduction
We are a development stage company that aspires to design and manufacture
optical components used to interconnect, switch, attenuate and otherwise manage
optical signals in fiber optic circuits. Our products are being developed for
use in broadband telecommunications networks. Virtually all of our products
developed to date are based on micro electromechanical structures (MEMS) made
from monocrystalline silicon, a material similar to that used to manufacture
electronic microcircuits.
We use specialized equipment and proprietary fabrication processes which enable
us to produce small scale devices with advantageous optical and environmental
characteristics and unique multi-function capabilities that can be conveniently
applied in a wide variety of fiber optic applications.
Our prospective customers are makers and users of many types of
telecommunications equipment. Our existing and prospective products are intended
for use throughout fiber optic systems including those for long-haul
transmission, metro-area distribution networks and enterprise or local area
networks. The demanding technical requirements for our products typically
require that our engineering staff consult closely with our customers'
engineering staff. We endeavor to cultivate long-term relationships with
prospective customers in order to facilitate the required communication.
Our Background
We were incorporated in February 2000 in Delaware as a majority-owned subsidiary
of BEI Technologies, Inc. ("BEI Technologies"), a publicly held Delaware
Company, to extend proprietary MEMS production processes developed by BEI
Technologies to the field of optical networks. BEI Technologies, a global
provider of highly engineered motion sensing and motion control components used
in automotive, aerospace and factory automation systems, has engaged in research
and development in the field of silicon MEMS technology since 1993. The silicon
MEMS technology research initiative undertaken by BEI Technologies led to new
MEMS fabrication techniques relevant not only to motion sensing and motion
control, but also to optical and potentially biomedical applications.
In November 2000, we were separated from BEI Technologies in order to focus
exclusively on the commercialization of MEMS technology for optical
telecommunications applications. We were established as a separate company by
BEI Technologies' distribution to its stockholders of approximately 42% of our
outstanding securities at the time of the distribution, with BEI Technologies
retaining approximately 24% of our outstanding securities and the remainder of
our securities continuing to be held by contributing founders. At the time of
our separation from BEI Technologies certain MEMS-based proprietary product
designs were transferred to us and we were granted exclusive, worldwide,
royalty-free and perpetual rights to utilize BEI Technologies' proprietary
MEMS-based processing technologies in the manufacture of our products for the
telecommunications market. In recognition of our early stage of development,
immediately prior to our separation from BEI Technologies we
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imposed transfer restrictions on our common stock and accordingly there is
presently no authorized public trading market for our securities. We continue to
have significant intercompany arrangements with BEI Technologies.
In June 2000, we received our first customer order and in November 2000 made our
first prototype deliveries. Our total revenue for fiscal 2001 was $499,000, for
engineering work performed for one customer. During fiscal 2001 we also recorded
payments or receivables from a total of five customers for deliveries of
prototype products, accounted for as an offset to research and development
expense. During fiscal 2002, we recorded revenue of $112,500 for engineering
work performed for two unaffiliated customers and recorded payments or
receivables for prototype deliveries from two other customers. Proceeds from the
development of prototypes delivered under customer agreements were approximately
$210,000 and $187,000 for fiscal 2001 and fiscal 2002, respectively.
Importance of Optical Components in Telecommunications Networks
Analogous to pipes for water or copper wire for electrical systems, optical
fibers transport coded pulses of light to the users of optical
telecommunications systems. Accordingly, the optical components in fiber optic
systems perform functions that are analogous to those provided by the diverse
parts found in water distribution or electrical systems. For example, different
types of optical components exist to adjust the intensity of an optical data
stream. Other components switch the optical data stream into alternative carrier
circuits. Still others combine multiple data streams together or separate data
from a larger stream into a smaller stream. Widely varying approaches to optical
system design and performance are common and the components used for a given
system must, accordingly, be designed to optimize the system's functionality,
efficiency and cost.
The myriad designs of valves and regulators that have evolved for plumbing and
the variety of switches and relays to control electrical currents are indicative
of the diversity of components needed to accommodate optical system
requirements. Those familiar with the offerings in the electrical or plumbing
aisles of any home repair store will appreciate this analogous diversity of
functions and implementations that evolve for such systems.
The optical telecommunications industry is still a relatively young field with
much ongoing innovation and variation in system designs. The optical components
that are needed to support optical telecommunication systems are similarly
diverse and dynamically evolving. Due to the technical complexity of optical
telecom systems, optical components are used at multiple locations within the
system, sometimes with dozens or even hundreds or thousands of component sites
occurring in a given system at junctions or nodes between data streams or near
the end points of optical circuits.
Our Business Objective and Strategy
Our long-term business objective is to be recognized as the preeminent and
preferred independent supplier of highly engineered proprietary or custom
designed MEMS-based optical components. We aspire to cultivate close and ongoing
relationships with significant customers.
Our strategy is to use a combination of design experience, sophisticated
processing know-how, including deep reactive ion etching (DRIE) and
monocrystalline silicon wafer bonding, and the creative capabilities of our
engineers to devise unique solutions for our customers. We expect this strategy
to require close liaison between our engineering personnel and the engineering
staff of our prospective customers. Our goal is to enhance the value of our
products for our customers by creating designs that have performance, packaging
or multi-function capabilities that exceed those which are otherwise available.
We possess certain immediately available proprietary product designs that we
intend to modify or adapt as building blocks to accommodate specific customer
requirements, thereby reducing product development time. We also carry out an
ongoing program of proprietary-product development, continually updating our
portfolio of product designs. By means of this expansion of our standard
products, we expect to continually expand our custom-design capabilities. Our
management possesses broad experience in implementing these business strategies
and we believe that our heritage of engineer-to-engineer problem solving is a
competitive advantage.
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In summary, our strategy focuses on providing value to our customers and
emphasizing the following attributes:
* Superior technology involving striving for the highest industry
achievement in optical properties, production yields and environmental
robustness;
* Creative and responsive custom designs that will enhance the
performance of our customers' systems; and
* Rapid design and design validation cycles.
Because of very depressed conditions in the telecommunications equipment market
during 2002 and 2001, the Company has not realized revenue growth as originally
planned. Due to the shortage of funding, the scope of the Company's business
development activity was substantially reduced during fiscal 2002. Our business
strategy has, accordingly, been adjusted to preserve essential capabilities
while anticipating the additional time required to develop a base of products
and customers and uncertainty of future prospects.
Technology
The technological foundation of our business is based on a thorough
understanding of and expertise in the processes for microfabrication of optical
and electromechanical devices using silicon as the structural material.
In the past, the most commonly used microfabrication processes for silicon
included bulk micromachining by wet chemical etch and surface micromachining.
Bulk micromachining, sometimes referred to as chemical micromilling, is
essentially a subtractive process in which chemical etchants are used in a
controlled fashion to alter the shape of a bulk material.
Surface micromachining is typically an additive process that adopts the
technique of microcircuit manufacturing to deposit thin layers of
polycrystalline silicon or other materials on the surface of a substrate
material. Bulk and surface micromachining are both useful processes that have a
certain utility for producing optical components. They also have certain
disadvantages. Chief among these are the lack of mechanical precision, low
yields, poor surface finish, slow processing (all seen in bulk micromachining)
and an inability to create strong, rigid and thermally stable structures (a
disadvantage of surface micromachining).
We possess exclusive, worldwide, royalty-free and perpetual rights to utilize
BEI Technologies' proprietary MEMS-based processing technologies in the
manufacture of our products. We believe these licensed processes overcome the
most significant shortcomings of bulk micromachining and surface micromachining
and we continue to work strategically with BEI Technologies to further enhance
and improve upon these processes. We believe our exclusive license to these
processing technologies represents a substantial competitive advantage.
Our licensed Deep Reactive Ion Etching ("DRIE") and Direct Fusion Bonding
processes have the following characteristics and advantages:
Deep Reactive Ion Etching
Our licensed DRIE process enables the creation of fine mechanical details. This
process has virtually unlimited form factor relative to bulk micromachining and
helps assure reliable, high yield fabrication of complex structures. For
example, very narrow, straight-sided channels or structural webs can be
produced, and structures that flex in one dimension while retaining rigidity in
another are therefore possible. The process also enables small-mouthed but
smooth-sided plunge cuts which, together with proprietary deep lithographic
techniques developed by us, are useful for creating electrical "via" pathways to
electrically interconnect control elements on the top and bottom of our devices.
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Direct Fusion Bonding
Direct fusion bonding is a process used by us for combining monocrystalline
silicon wafers. These bonds do not rely on any glue-like material and when used
in conjunction with our licensed DRIE processing technique, enable our engineers
to create unique multi-functional devices having superior optical, thermal,
structural, electrical and packaging advantages.
Packaging
Due to financial constraints and personnel reduction, our present ability to
perform packaging services was discontinued during fiscal 2002.
Optical Engineering and Assembly
In addition to using our MEMS-based technology for making components as noted
above, we seek to enhance our capabilities with applied engineering, fabrication
and assembly skills. Our engineering and assembly capabilities for micro optical
electromechanical systems include mirror metallization and coatings;
MEMS-assisted fiber management (including alignment, strain relief and
protection); thermal and electrostatic actuation; latching; fiber lenses; and
metrology.
Our Products and Markets
Products and Services
Our product offerings include mirrors and mirror arrays; optical switches and
switch arrays; variable optical attenuators ("VOA") and VOA arrays. To date, we
have made only prototype deliveries of our products. Revenue recorded by us
during fiscal 2001 was derived from one unaffiliated customer for engineering
work performed by us to design and develop large actuated mirror arrays for a
maker of large, multi-port 3D optical switching systems. We also recorded
payments or receivables during fiscal 2001 from five customers for deliveries of
prototypes of mirror arrays, fiber alignment devices and optical benches. These
payments or receivables for prototypes have been accounted for as an offset to
our research and development expense. During fiscal 2002, we recorded revenue of
$112,500 from two unaffiliated customers for the design and development of 2D
optical switches and actuated mirrors. We also recorded payments or receivables
of $187,000, accounted for as an offset to research and development expense,
during fiscal 2002 from two unaffiliated customers for delivery of prototypes of
actuated mirrors.
Mirrors and Mirror Arrays.
When used in fiber optic telecommunications applications, mirrors must be
optimized for one or more of the following characteristics: size, shape,
environmental temperature tolerance, gimballing, actuation, integration with
electronics, environmental packaging, reflectivity and mounting means. Mirror
arrays require mounting means to hold two or more mirrors in rigid or variable
juxtaposition as may be required in our customers' systems or subsystems. We
manufacture our mirrors and mirror arrays in various existing configurations,
and alternative versions can be customized to meet a customer's requirements.
Optical switches.
These enable an optical signal to be moved between two or more signal-carrying
or control fibers without the need for the signal to be converted to another
energy state. All-optical switches avoid optical to electronic to optical
conversion, which can compromise bandwidth, system size, power consumption,
switching speed and cost. Optical switches must generally provide two
dimensional (2D) or three dimensional (3D) flexure means and a means of
actuating and precisely positioning the switch elements. We presently design and
have the capability to manufacture 2D optical switches to accommodate a
customer's unique requirements. We presently offer 2D optical switches in a
variety of standard and customized configurations. We do not expect to devote
resources to developing complete 3D optical switching systems, but we have
developed, tested and delivered pre-production units of large (>1000 mirror)
arrays that are designed to be components of 1000 port (or larger) 3D optical
switches. Large, multi-port mirror arrays for such switches have comprised a
significant part of our business to date. In the future, however, our
expectation is that other components, including 2D optical switches and optical
switch arrays and variable optical attenuators will become a more dominant
portion of our business.
Optical Switch Arrays.
Arrays must be provided for a very wide range of 2D or 3D configurations. Two
dimensional arrays meeting in a wide variety of characteristics are needed for
switching between 1 or more fibers aligned in a common plane, for example, 1x2,
1x4, 1xn, 2x2, 2x4, 2xn. Three dimensional switches must route
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signals among fiber circuits aligned in different planes. One challenging
configuration can require an ability to receive optical signals from a 1000 port
fiber bundle and switch the signal(s) across free space into any channel of
another 1000 port fiber bundle. Our arrays are presently available in 2D and 3D
configurations and are adapted and customized as necessary.
Variable Optical Attenuators.
VOA's are used to adjust or to equalize the intensity of optical signals among
cooperating fiber optic circuits. VOA arrays accommodate the need to have
multiple attenuators in close proximity for widely varying fiber optic circuit
configurations. Our VOA's are offered with different actuation means and can be
either dynamically variable or lockable and unlockable. "Variable" attenuators
are adjusted upon setup after installation and remain at the selected set point
as long as control power is available. "Lockable" means that the amount of
attenuation is fixed at a particular setting upon initial setup and will remain
at this setting even if control power is lost. "Unlockable" means that the
amount of attenuation that has been previously fixed at a desired set point can
be changed later to a different setting. "Dynamically variable" means that the
attenuator can be continuously modulated by an external feedback control while
the circuit is in use. The ability to choose among these different performance
characteristics allows additional flexibility to system design engineers.
Product Development Efforts
Our goals for future products include MEMS-based tunable filters, optical
add-drop multiplexers and integrated subsystems with controlling electronics. We
strive to design our components and subsystems in a manner that allows our
customers to cascade our products to build very dense, scalable systems. We
intend to expand the functionality of our switching products by incorporating
combinations of new features and functionalities into a single package. In
metropolitan area and enterprise level markets in particular, the manifold
branching of circuits to reach individual users creates the need for a
proliferation of individual component functions near each end point. Each of
these installations requires individual access switches, separate protection
switches and means for balancing circuit strength by use of attenuators. Also,
fibers must be aligned with lenses and all of these must be durably packaged for
installation by technicians working in crowded equipment racks or closets. We
believe our future integration of the various individual component functions
into compact, easily installed unitary packages would save installation and
maintenance labor costs for customers and reduce the space required for mounting
the individual components. Our ability to offer this level of product
integration would be expected to translate to reduced cost of ownership for our
customers and their end customers.
Markets for Optical Components
The demand for broadband telecommunications components is being fueled by
expanded use of the Internet and rising expectations that
high-information-content data (photos, music and video in addition to voice and
text) can be rapidly transmitted. The worldwide need to support these
expectations with telecom and Information Technology (IT) infrastructure
including those for long haul, metro area and local or enterprise LANs is
expected to create an associated need for new types of broadband components such
as the MEMS-based components we produce. We believe the engineering challenges
presently facing telecommunications equipment suppliers, subsystems and
components manufacturers create an opportunity throughout the broadband telecom
marketplace that can be addressed by our MEMS-based products.
Prospective users of MEMS-based optical components include large, worldwide
suppliers of optical telecommunications systems. Companies that supply optical
telecommunication equipment and buy components include: Alcatel and its
affiliates, Cisco Systems, Inc., Ciena Corporation, Lucent Technologies, Inc.,
Marconi plc, NEC Corporation, and Toshiba. Other existing or prospective
customers for MEMS-based optical components include suppliers of subsystems
purchased by the equipment companies. Manufacturers of such subsystems include
(in addition to the equipment companies themselves) companies such as Calient,
Corning, JDS Uniphase, Finisar Corporation, OpLink Communications, Inc.,
Sycamore Networks, Inc., Movaz, Northrop Grumman PolyScientific, and
Glimmerglass Networks. Our business focus is primarily on the manufacture and
sale of components used in multiple types of optical networking systems and
subsystems, rather than a focus on development and sale of entire optical
switching systems.
Customers and Strategic Relationships
We aspire to develop relationships with manufacturers of optical network
equipment to define, develop and manufacture several different types of optical
components to accommodate their specific requirements. Some of
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these products are adaptations of existing designs and processes while others
involve custom designs or development for use together with our existing designs
and processes. In some cases we may assess special charges for non-recurring
engineering work whereas in others we may charge only for special setups or
tooling.
Our revenue for fiscal 2001 was $499,000, which was entirely attributable to
engineering work performed for Glimmerglass Networks, Inc. on actuated mirror
arrays for use in a 3D optical switching system being developed by that company.
We also recorded payments or receivables, accounted for as an offset to research
and development expense, from Glimmerglass Networks and four other customers
during fiscal 2001 for deliveries of prototype products. Our revenue for fiscal
2002 was $112,500, which was attributable to engineering work performed for two
customers on 2D switches and actuated mirrors. We also recorded payments or
receivables during fiscal 2002 from two other customers for delivery of
prototypes of actuated mirrors as an offset to research and development expense.
Research and Development
We have invested substantial resources in research and development activities.
We possess expertise in fiber optics systems processing and packaging, the
microfabrication of electromechanical devices, system architecture and silicon
wafer bonding techniques. Management and the Company's board of directors
decided in March 2002 to reduce the level of incremental spending for research
and development and to reduce operations to a level that will solely support the
current customer base. Our current research and development is directed to
enhancements and improvements to existing products. Our research and development
expenses were approximately $2.8 million, $972,000, and $3.8 million for fiscal
years ended September 28, 2002 and September 29, 2001, and the period from
inception to September 28, 2002, respectively, net of proceeds from development
of prototypes delivered under customer agreements totaling $187,000 and
$210,000, respectively, and have totaled approximately $397,000.
Manufacturing and Operations
We consider our manufacturing expertise to be one of our core competencies and
strengths, and our manufacturing processes to be significant competitive
advantages. To this end management has invested time in designing and
implementing our manufacturing processes. We consider our manufacturing process
a core component of our ability to achieve the production volumes required for
our current customer commitments. We have not manufactured any of our products
in production quantity.
Our manufacturing operations will, in the future, produce products in response
to customer orders and we do not carry a ready product inventory. Product
designs that have been previously produced are sometimes used for production in
response to a customer order or modified or combined with new designs to
accommodate customer requirements. Processes we internally perform include mask
design and layout, photolithography, precision metrology, wafer cleaning and
polishing, wafer bonding, wafer machining, material deposition or plating,
annealing, parametric testing, wafer dicing, fiber cleaving, fiber polishing,
and fiber fusion. We rely on subcontractors for implanting application-specific
integrated circuits if required. We require specialized equipment to engineer
the majority of our products, and processing must often be carried out within
contamination-free clean room conditions, such as those available at our
Hayward, California facility.
Competition
We compete with both large, diversified and also small, focused companies that
also supply optical components intended for the telecommunications market. We
believe that the principal bases of competition in our market include the
overall performance of the components and subsystems and the total cost,
flexibility and scalability of products. Large, diversified companies we may
compete with include Analog Devices, Inc., Avanex Corporation, Corning
Corporation and its affiliates, JDS Uniphase, Finisar Corporation and Oplink
Communications, Inc. Historically, the majority of optical components used have
been assembled from discrete parts manufactured from traditional materials such
as metal, plastic or glass. Some of the larger companies we may compete with
have acquired or developed their own business units that utilize MEMS technology
for certain types of broadband components. These include acquisitions by Analog
Devices, Corning Corporation and JDS Uniphase. In addition, we compete with
smaller similarly focused companies also developing products utilizing MEMS
fabrication processes. These include Applied MEMS, Inc., Integrated
MicroMachines, Inc., OMM, Inc., MegaSense, Inc., MEMSCAP, S.A., and Standard
MEMS, Inc.
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We believe the MEMS processes used and components manufactured by our
prospective competitors have distinguishing characteristics from the processes
and products we employ. We also believe that our processes, including our
licensed processes, enable the creation of products that will differentiate
themselves from those made by other companies. In particular, we believe our
DRIE and direct fusion bonding processes enable thicker mirrors of a single
material that help assure constant flatness over extremes of temperature. The
process also preserves the inherently smooth fine surface finish of the polished
wafers and assures optimum reflectivity. Also, our bonding is accomplished
without the addition of other materials such as organic adhesives or glass frit
that can compromise temperature stability, dimensional control and flatness. We
believe our licensed processes together with our engineers' know-how enables our
flexures to be free of undesirable cross-axis effects, bending only in the
intended direction without simultaneously bending in an undesired way. Our
flexures, if designed to flex left or right, are intended to do so without also
having any undesirable components of up or down movement at the same time. We
also believe the expertise possessed by our management team and engineers in
large volume component production with favorable process yields gives us a
competitive advantage when compared to similarly situated companies.
No assurance can be given however, that our competitors will not independently
develop processes that are capable of supplying components competitive with ours
or in time acquire the equipment and experience necessary to compete with us.
Patents and Intellectual Property
We rely on a combination of intellectual property and trade secret laws and
nondisclosure and confidentiality agreements to establish and protect our
intellectual property.
We have 4 issued U.S. patents expiring in 2016 through 2019, 8 pending patent
applications in the United States, 2 pending application with the European
Patent Office, and 1 pending application in Canada. In addition, at the time of
our separation from BEI Technologies we were granted exclusive, worldwide,
royalty-free and perpetual rights to utilize BEI Technologies' proprietary DRIE
and direct fusion bonding MEMS-based processing technologies in the manufacture
of our products. These licenses are restricted to our use of the technology in
the telecommunications data transmission market.
The possession of patent rights may in the future be helpful in enabling us to
assert claims to exclusive rights to a product or process. We expect to continue
to file for patent protection for products and processes we develop as we deem
appropriate. Such patent rights may not be sufficient protection by themselves,
however, and for this reason, we seek to preserve certain know-how and processes
as trade secrets. This affords some additional protection against copying, as
the means by which certain physical product features are achieved are not
readily discernable merely by inspection. However, if our current processes
should become common knowledge and widely taught and practiced, our competitive
advantage could be diminished unless we continue to enhance our process
know-how.
Policing any unauthorized use of our technology and other intellectual property
is difficult, and we cannot assure you that the measures we take to protect our
intellectual property will be adequate or successful. While our competitive
position may be affected by our ability to protect our proprietary information,
we believe that other factors including the expertise of our engineering
personnel and specialized processing techniques will be significant in helping
us to achieve a competitive position in our principal markets.
Employees
In April 2002, the Company underwent a reduction in force resulting in 8
individuals departing employment with the Company, including engineering,
manufacturing and marketing personnel. Severance pay for the affected persons
was per Company policy, including cash payment and the acceleration of the
vesting of options for certain affected individuals. Total cash costs related to
the reduction in force of approximately $86,000 were recorded in the fiscal
quarter ending June 29, 2002.
To further reduce costs for the Company in the near term, during July 2002, all
of the Company's remaining 15 employees were released from employment by the
Company and accepted employment with a subsidiary of BEI
9
Technologies, as agreed to by both companies. The Company's newly appointed
President and Chief Technical Officer, respectively, have also become employees
of this same subsidiary of BEI Technologies, but continue to serve as executive
officers of the Company. The services of certain key individuals, including the
Company's newly appointed President and Chief Technical Officer, are expected to
continue to be available to the Company on an as needed basis, with
reimbursement by the Company to their present employer for the time value of
their services.
Facilities
Our administrative headquarters are located in San Francisco, California, where
we occupy office space subleased to us by BEI Technologies as part of the
administrative support received from BEI Technologies under our intercompany
services agreement. Our engineering and manufacturing operations are carried out
in a 15,571 square foot facility located in Hayward, California. This facility
is subleased from BEI Technologies, which also conducts research and development
at this location. As of March 30, 2002, the Company, in recognition of its
inability to obtain significant strategic partners or third party financing,
concluded it was necessary to reduce operating costs. The Company agreed with
BEI Technologies that this reduction in operations would lower usage of the
equipment and the subleased facilities described above. Accordingly, the annual
lease payments to BEI Technologies have been prorated beginning March 31, 2002,
based on the portion of the facilities the Company requires to support its
current customers. We believe our facility is adequate to meet our current
needs.
RISK FACTORS
Described below are some of the risks we face, although these are not the only
risks and uncertainties we may encounter. If any of the conditions giving rise
to the following risks occur, our business, financial condition or results of
operations could be materially adversely affected. Our actual results could
differ materially from those anticipated in the forward-looking statements
included in this registration statement as a result of many factors, including
the occurrence of any of the conditions described below.
RISKS RELATED TO OUR BUSINESS
We may be unable to continue as a going concern
Given our history of net losses, combined with our inability to date to obtain
third party financing or interest from strategic investors, we may be unable to
continue as a going concern. During fiscal 2002, we reduced operations and
expenditures in an effort to control costs in light of the continued severe
downturn in the telecommunications industry. We are currently unable to
significantly grow or expand our business in light of recent personnel
reductions and other cost-cutting measures. Unless we obtain additional
financing, either as debt or equity funding, we will not have the necessary
resources to take advantage of any upturn in the telecommunications industry and
grow our business. Our ability to continue operations will be contingent on
obtaining additional financing during fiscal 2003.
Management's plan to enable the Company to continue as a going concern calls for
the Company's operations to be frozen at a minimal level, sufficient to support
current product delivery commitments. The Company reduced its fixed cost base to
an absolute minimum and no longer maintains any employees of its own. The
majority of operating costs are paid by a related party which shares the Hayward
facility and from whom engineering and other services are rented on an
as-required basis. The cash outlay for the Company's portion of these costs are
recorded as additional investment in the Company by the related party. Future
operating expenses are expected to be funded by product and prototype revenue
under existing contracts. In addition, new prototype or product contracts will
not be initiated if these contracts cannot generate positive cash flows within
the next 12 months. Management believes that additional funding of less than
$1.0 million will enable the Company to continue on a reduced basis as a going
concern through September 30, 2003 and that such funding will be available from
the related party, if required. Management continues to seek additional equity
financing from new and existing sources on an opportunistic and as-available
basis. Management plans to defer substantially all research and development
activity in the absence of additional equity financing. Although management is
confident in its ability to execute its plan to enable the Company to continue
as a going concern there is no assurance that the Company will be able to reduce
expenditures sufficiently, estimate future contract cost accurately, or secure
the necessary financing, in order to continue operations.
We are a company with a very limited operating history, which may make it
difficult to evaluate our business prospects.
We were incorporated in February 2000 and commenced independent operations in
November 2000. We have not generated revenues from sales of our products but
only from engineering work performed for three customers to date. Since
inception, a total of six customers have engaged us to supply prototype models
of our MEMS-based products and we have yet to sell our products in volume
quantities. As a result of our limited operating history, we have only limited
data from operations on which to rely in estimating future revenues and as a
basis for evaluating our future prospects. If we fail to accurately estimate our
future revenue and future operating expenses, we may incur substantially greater
losses or use substantially greater resources than we currently anticipate which
would cause harm to our financial condition and results of operations.
We expect to incur net losses for the foreseeable future. We may never achieve
profitability and we may not succeed as a going concern and our independent
auditor has included a statement to this effect in their most recently issued
audit report.
10
We expect to continue to invest considerable resources in developing our
technology, marketing our products and establishing customer relationships. We
incurred a net loss of approximately $4.1 million for fiscal 2002 and have
incurred a net loss of approximately $5.8 million since inception through fiscal
2002 and we expect to continue to incur net losses for the foreseeable future.
In order to achieve profitability, we will need to generate significantly higher
revenue while containing manufacturing costs and operating expenses. Even if we
achieve profitability in the future, we may not be able to sustain or increase
profitability on a quarterly or annual basis. Prior to realizing sufficient
revenue levels to achieve profitability, we will require additional private or
public financing, which may not be available on acceptable terms and conditions.
If we are unable to obtain necessary financing in order to allow us time to
achieve profitability, our business may fail. Even if we achieve profitability,
we must sustain profitability in the future for our business to succeed.
We may not obtain sufficient affordable capital in the future to fund our
continued need to invest in our manufacturing operations and research and
development.
We will need to continue to make significant capital expenditures to expand our
operations to enhance our manufacturing capability and for research and
development activities to keep pace with rapidly changing technologies. Based on
our current operating plans, we will require additional external financing to
fund our capital expenditures, facilitate our research and development efforts
and for operating expenses. During the past few years, the markets for equity
and debt securities have fluctuated significantly, especially with respect to
technology-related companies, and during some periods public offerings and
private placements of those securities have been extremely difficult to
complete. As a result, in the future, we may not be able to obtain the
additional capital required to fund our operations on reasonable terms, or at
all, and this lack of capital may have a material adverse effect on our business
and results of operations.
Our original line of credit from BEI Technologies was for up to $2.0 million
with interest at prime plus 1.5%, expiring on September 28, 2002, unless
extended by mutual agreement of the parties. In March 2002, BEI Technologies
increased this line of credit by $1.0 million. As of June 29, 2002, the Company
had outstanding borrowings totaling approximately $2.7 million on this line of
credit. During the fiscal quarter ended June 29, 2002, the Company was informed
by BEI Technologies that no further advances would be made to the Company under
this line of credit beyond the approximately $2.7 million funded as of June 29,
2002. This determination was the result of the Company's inability to attract
significant strategic partners or third party financing to sustain operations.
In October 2002, BEI Technologies extended the due date of the line of credit to
December 31, 2002. To maintain sufficient liquidity in the future and to fund
operations, we may need to enter into a new credit agreement in the future with
a commercial lender or issue additional equity to a new or existing investors. A
new credit line, if available to us, could have less favorable terms for us than
our existing line of credit agreement with BEI Technologies, including a higher
borrowing rate, more restrictive terms and possibly requiring liens on some or
all of our assets. New equity financing, if available to us, could have less
favorable provisions for us than our existing equity instruments.
A significant portion of our business comes from a few customers, and our
revenues may decline significantly if any of these customers discontinue doing
business with us, or cancel, reduce or delay purchases of our products.
Our success will depend on our continued ability to develop and manage
relationships with significant customers. For the fiscal year ended September
29, 2001, one customer accounted for 100% of our revenues, all of which were
attributable to an engineering agreement with that one customer. During fiscal
2002, we recorded revenue for engineering work from two customers and payments
or receivables for deliveries of prototype products accounted for as an offset
to research and development expense from two other customers. We expect our
dependence on revenues generated from one or a small number of customers to
continue in the near future.
The markets into which we plan to sell our products are dominated by a
relatively small number of optical networking systems and subsystems
manufacturers thereby limiting the number of our potential customers. As a
result, our relationships with significant customers are critically important to
our business. We cannot assure you that we will be able to retain any
significant customers, that we will be able to attract additional customers or
that
11
our customers will be successful in selling their products that incorporate our
components. The loss of, or a significant reduction in orders from one or more
of our largest customers, or an inability to successfully develop relationships
with additional or replacement customers could adversely affect our financial
position and results of operations.
We must manufacture products that meet industry quality standards, or our
customers may choose not to purchase our products, which would harm our
operating results and ultimately our business.
The manufacturing process for our MEMS-based products, as well as each new
manufacturing process we might in the future develop, must pass through varying
levels of qualification by our customers. Customers may require that our
products be certified under international quality standards, such as the
Telecordia and Belcore specifications, or other industry standards. The
Telecordia and Belcore standards help insure that components or subsystems used
by carrier companies meet certain minimum requirements for technical performance
and physical and environmental durability. In some cases our customers will be
responsible for verifying that our components comply with these standards, while
in other cases the responsibility will be ours. We have not yet applied for any
such certifications, nor subjected our products to the complete testing that
such certification might require. Our products may also have to meet other
customer specific requirements. If we experience delays in receiving industry
standard certification or in meeting customer qualifications, our customers may
choose not to purchase our products, which would result in significant lost
revenue opportunities that could harm our business.
Failure to effectively manage our manufacturing facility could adversely affect
our business, financial condition or results of operations.
The operation and management of our high volume facility is a recent activity
for us, and, therefore we cannot guarantee that we will be able to meet future
customer development deadlines, minimize development costs or effectively manage
these operations. It is critical to our growth that we achieve and maintain
acceptable yields in the manufacturing of our products and that we maintain
these yields and quality requirements for each new product or product
enhancement that we introduce. If we fail to achieve and maintain these yields,
our ability to deliver products to customers in a timely and cost-effective
manner and in the quantities that our customers may require could be
significantly impaired.
We must continue to develop, expand and protect our intellectual property and
proprietary rights.
We regard our patents, trade secrets and other proprietary rights as important
to our success, and rely primarily on a combination of intellectual property and
trade secret laws and contractual restrictions to protect our proprietary
rights. We have 4 issued U.S. patents expiring in 2016 through 2019, 8 pending
patent applications in the United States, 2 pending application with the
European Patent Office, and 1 pending application in Canada. There can be no
assurance that any of our pending patent applications or any future patent
applications will be granted or will not be challenged successfully by third
parties, that any patents that may be issued will adequately protect our
technology or intellectual property or will not be challenged by third parties,
or that the patents of others will not have an adverse effect on our ability to
do business.
We also use employee and third party nondisclosure agreements to limit access
to, and distribution of, our proprietary information. There can be no assurance
that the steps we have taken to protect our intellectual property rights will be
adequate to protect our rights, to deter misappropriation of such rights or that
we will be able to detect unauthorized uses and take immediate or effective
steps to enforce our rights. A substantial amount of our intellectual property
was contributed to us by BEI Technologies, and there can also be no assurance
that the steps we have taken to obtain ownership of this intellectual property
will be sufficient to assure our continued ownership of all proprietary rights.
Our license and technical assistance agreement with SiTek, Inc., a
majority-owned subsidiary of BEI Technologies, governs our rights to our
licensed DRIE and direct fusion bonding processes, which are exclusive to us in
the telecommunications field. Our license to these processes is perpetual and
royalty-free, except with respect to certain permitted third-party sublicenses.
Although the grant of these licensed processes is perpetual by its terms, in the
event we should breach the terms or conditions of the license, SiTek could
potentially seek to revoke the license. We consider our rights to these licensed
processes important to our future success.
12
Although we rely on trade secrets to protect our proprietary technology, no
assurance can be given that others will not independently develop or otherwise
acquire the same or substantially equivalent technologies or otherwise gain
unauthorized access to our proprietary technology. In addition, no assurance can
be given that third parties will not obtain patent rights to our trade secrets,
which patent rights could be used to assert infringement claims against us. When
deemed appropriate or necessary, we intend to vigorously protect our
intellectual property rights. However, there can be no assurance that we will be
able to enforce our rights or prevent other parties from designing and marketing
unauthorized products that are based on our technology. Our ability to compete
may be affected by our ability to protect and enforce our proprietary rights,
and any failure to do so for any reason could have a material adverse effect on
our business, results of operations and financial condition.
We may be unable to obtain licenses for the use of third party technology on
acceptable terms.
From time to time, we may be required to license technology from third parties
to develop new products or product enhancements. We cannot assure you that
third-party licenses will be available to us on commercially reasonable terms,
if at all. Our inability to obtain any necessary or desired third-party license
could require us to obtain substitute technology of lower quality or performance
standards or at greater cost, any of which could result in reduced margins and
loss of market share and could seriously harm our business, financial condition
and results of operations.
We have no present intention of listing our common stock with any recognized
national securities exchange or quotation system.
We do not intend to apply for the listing of any class of our equity securities
on any securities exchange or for the inclusion of our equity securities in any
automated quotation system in the near future. Further, our common stock is
subject to transfer restrictions, and beneficial ownership in our common stock
may not be sold, transferred or hypothecated in any manner. Accordingly, our
stock is illiquid, and our stockholders will be required to wait for an unknown
time to sell shares of our stock they currently hold.
Future acquisitions we undertake could harm our business by diverting our
resources and increasing our operating costs.
We may pursue opportunities to buy other technologies or businesses that would
complement our current products and offerings, expand our industry focus,
enhance our technical capabilities, or that may otherwise offer growth
opportunities. Any future acquisitions could result in the use of significant
amounts of cash or equity, the incurrence of debt, and amortization expenses
related to certain intangible assets. Our experience in acquiring other
technologies and businesses is limited. Acquisitions involve numerous risks,
including:
* difficulties in integrating operations, products, technologies and
personnel;
* unanticipated costs or write-offs associated with the acquisition;
* diversion of management's attention from other business concerns;
* diversion of capital and other resources from our existing businesses;
and
* the potential loss of key employees of purchased organizations.
Our products, following our commencement of commercial product sales, may
contain defects that are not detected until after these products have been
integrated into our customers' systems or products. These defects may cause us
to incur additional costs and suffer damage to our reputation.
13
Some of our MEMS-based optical components and subsystems may originally be
designed to be, or eventually be, deployed in large and complex optical network
systems or products used in conjunction with optical networking systems. Our
products must be compatible with other components and subsystems incorporated
into the optical networking system or product. The reliability of our products
and their compatibility with other system or product components will only be
fully tested when deployed in the final application. If we are unable to fix
defects or other problems that may be identified in full deployment or
utilization, we could experience:
* a loss of, or delay in, revenue;
* a loss of existing customers;
* increased repair and warranty costs;
* increased product development expenses;
* damage to our reputation; and
* legal actions by our customers.
Our facility could experience catastrophic loss, which would seriously harm our
operations.
Our subleased research and development and manufacturing facility could be
subject to a catastrophic loss. Any loss of functions at our facility could
disrupt our operations, delay production, shipments and revenue, and result in
large expense to repair and replace such losses, assuming repair or replacement
is even economically feasible or practical for us.
RISKS RELATED TO OUR INDUSTRY
We depend on the continued growth of the optical communications market. If this
market does not develop as rapidly as we expect, our growth could be constrained
and our business could fail.
Our products are targeted towards optical communications systems and subsystems
manufacturers and suppliers and depend on the continued development and growth
of the optical communications market. If optical communications networks are not
expanded significantly by communications service providers, a significant
commercial market for our products will fail to develop. Acceptance of optical
communications networks technology depends on many factors, including:
* its capacity to handle growing demands for transmission of increasing
amounts of video, voice and data;
* its cost effectiveness, performance, reliability and security compared
to other forms of communications technology;
* ability to manufacture products in sufficient volume;
* scalability of products; and
* flexibility of products.
We expect substantially all of our revenues to be derived from MEMS-based
devices, and if the use of MEMS-based products in optical communications
networks fails to achieve commercial success, our business may fail.
We expect MEMS-based devices to account for a substantial portion, if not all,
of our total revenues for the foreseeable future. Market acceptance of
MEMS-based products by optical network systems and subsystems
14
manufacturers and suppliers will be critical to our future success and growth.
To date, we have developed prototype models of custom-designed devices, but our
products have yet to be deployed in any commercial communications systems. If
our customers do not integrate our products into their systems, subsystems or
products, or if these systems, subsystems and products do not in turn gain
acceptance among communication networks service providers, manufacturers and
integrators our revenues will not grow and our business, financial condition and
results of operations will be seriously harmed.
We must develop new products and technology as well as enhancements to our
existing products and technology in order to remain competitive. If we fail to
do so, our products will be unable to compete in the marketplace and we will not
achieve sales growth.
The market for optical communications systems products and technology is
characterized by rapid technological change, new and improved product
introductions, changes in customer requirements and evolving industry standards.
Our future success will depend to a substantial extent on our ability to
develop, introduce and support new products, enhance our existing MEMS-based
technology or develop new technologies on a successful and timely basis. If we
fail to develop and deploy new products or enhancements of existing products on
a successful and timely basis or if we experience delays in the development,
introduction or enhancement of our products, our products will not be
competitive and we will not be able to generate sufficient sales to support our
business.
The development of products utilizing our MEMS-based technology is a complex
process requiring high levels of innovation and highly skilled engineering and
development personnel, as well as 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 could significantly
harm our business.
Our ability to reduce costs is limited by our ongoing need to invest in research
and development.
Our industry is characterized by the need for continued investment in research
and development. If we fail to invest sufficiently in research and development,
our products could become less attractive to potential customers, and our
business and financial condition could be materially adversely affected. As a
result of our need to maintain our spending levels in this area, our operating
results could be materially harmed if our net sales do not meet our
expectations. In addition, as a result of our emphasis on research and
development and technological innovation, our operating costs may increase
further in the future.
Management and the Company's board of directors decided in March 2002 to reduce
the level of incremental spending for research and development and to reduce
operations to a level that will solely support the current customer base.
We face competition from other providers of optical network systems components
and subsystems that could harm our business and results of operations.
The market for optical components and technology solutions is highly
competitive, highly fragmented and characterized by rapidly changing
technological needs and capabilities. Existing or future competitors may
presently offer or develop optical components that provide design, performance
or other types of advantages over the products that we provide. We expect
competition to persist and intensify in the future. We believe that the
principal bases of competition in our market are:
* overall performance of the product;
* total cost of a particular supplier's product;
* the scalability of the product;
15
* length of the design and production cycles;
* timeliness of the introduction of new products;
* scope and responsiveness of technical support;
* environmental tolerance; and
* versatility of applications.
Our current and potential competitors include large, diversified companies who
have developed or acquired competitive product lines, including Analog Devices,
Inc., Avanex Corporation, Corning Corporation and its affiliates, JDS Uniphase,
Finisar Corporation, and Oplink Communications, Inc. We also compete with
smaller companies similarly strategically focused on developing MEMS-based
products, including Applied MEMS, Inc., Integrated Micro Machines, Inc.,
MegaSense, Inc., MEMSCAP S.A., OMM, Inc., and Standard MEMS, Inc.
Many of our current and potential competitors have longer operating histories
and significantly greater financial, technical, marketing and other resources
than us. As a result, these competitors are able to devote greater resources
than we can to the development, promotion, sale and support of their products.
Some of our competitors have larger market capitalizations or cash reserves than
we do and may be much better positioned than we are to acquire other companies
in order to gain access to new technologies or products that may displace our
products. In addition, some of our competitors have more extensive customer
bases, better-developed distribution channels and broader product offerings than
we have. These companies can leverage their customer bases and broader product
offerings and could adopt aggressive pricing policies to gain market share, all
of which could harm our business. In addition, some of our existing customers
are also potential competitors. These companies may attempt to integrate their
operations by producing their own optical components or subsystems or by
acquiring one of our competitors, thereby eliminating the need to purchase our
products. Further, our current and future competitors may develop products
comparable or superior to those developed by us or adapt more quickly than us to
new technologies, evolving industry standards or customer requirements.
We may be subject to claims of intellectual property infringement.
In the future, we may face litigation regarding patent and other intellectual
property rights. Litigation may be necessary in the future to enforce our
intellectual property rights, to protect our trade secrets, to determine the
validity and scope of the proprietary rights of others, or to defend against
claims of infringement, invalidity or breaches of indemnities, and there can be
no assurance that adverse parties in any such litigation would not be able to
devote substantially greater financial resources to any litigation proceedings
or that we could prevail in any future litigation. Any such litigation, whether
or not determined in our favor or settled by us, could be costly and would
divert the efforts and attention of our management and technical personnel from
normal business operations, which could have a material adverse effect on our
business, financial condition and results of operations.
Any potential intellectual property litigation also could force us to do one or
more of the following:
* stop selling or incorporating into our products the challenged
intellectual property;
* obtain from the owner of the infringed intellectual property
right a license to sell or use the relevant technology, which
license may not be available on reasonable terms, or at all;
* oblige us to pay indemnities; or
* redesign the products that use the technology.
16
Additionally, we may in the future initiate claims or litigation against third
parties for infringement of our proprietary rights to protect these rights or to
determine the scope and validity of our proprietary rights or the proprietary
rights of competitors. These claims could result in costly litigation and the
diversion of our technical and management personnel.
We are subject to environmental laws and other legal requirements that have the
potential to subject us to substantial liability and increase our costs of doing
business.
Our properties and business operations are subject to a wide variety of federal,
state, and local environmental, health and safety laws and other legal
requirements, including those relating to the storage, use, discharge and
disposal of toxic, volatile or otherwise hazardous substances used in our
manufacturing processes. We cannot assure you that these legal requirements will
not impose on us the need for additional capital expenditures or other
requirements in order to comply with future laws and regulations. If we fail to
obtain required permits or otherwise fail to operate within these or future
legal requirements, we may be required to pay substantial penalties, suspend our
operations or make costly changes to our manufacturing processes or facilities.
RISKS RELATED TO OUR RECENT SEPARATION FROM BEI TECHNOLOGIES AND OUR CONTINUING
RELATIONSHIP
Our future success will depend on our ability to implement the systems and
controls necessary to support our business.
The technology comprising the core of our business was contributed and
transferred to us by BEI Technologies in October 2000. Prior to that time, BEI
Technologies conducted activities related to our present business through
various divisions and subsidiaries and has historically provided us with
operational, financial and other support. Since our separation, effective
November 2000, we have operated as an independent company, but have yet to fully
develop and implement all of the financial, management, information and
reporting systems and controls necessary to support our business. Furthermore,
we will need to continually improve our systems and controls as the size of our
company increases. BEI Technologies initially agreed to provide us with various
interim services through September 2001, however these arrangements have been
extended and may now be terminated by either party upon reasonable notice to the
other party. After the termination of these arrangements, we may not be able to
replace these interim services on terms, including cost, as favorable as those
we will receive from BEI Technologies. We cannot give any assurance that we will
be able to develop the necessary systems resources and controls to support our
business.
BEI Technologies and our directors and management collectively have substantial
control over us, which could delay or prevent a change in our corporate control.
As of December 11, 2002, BEI Technologies and our directors and management
beneficially owned in the aggregate approximately 50% of our outstanding shares
on a fully diluted basis, assuming the conversion of all Series A Preferred
Stock to common stock and exercise of outstanding options. BEI Technologies
alone owns approximately 25% of our total outstanding securities on a fully
diluted basis and 40% of our voting securities on a fully diluted basis, and, as
the holder of our Series A preferred stock, has the right to approve significant
corporate actions, including the issuance of additional shares of preferred
stock, certain acquisitions or asset transfers of the corporation, and
dissolution or liquidation proceedings. BEI Technologies and our directors and
management are in the aggregate able to exercise substantial control over all
matters requiring shareholder approval, including the election of directors and
approval of mergers or other significant corporate transactions, future
issuances of common stock, or other securities, including debt securities, and
may have the ability to delay or prevent an outside party from acquiring or
merging with us.
Two of our directors and certain of our executive officers may have conflicts of
interest because they are also directors of BEI Technologies, formerly or
presently provided services to or were employed by BEI Technologies or own
significant amounts of BEI Technologies' stock.
17
Two members of our board of directors are also directors of BEI Technologies,
one of whom is also our Chief Financial Officer. These directors have
obligations to both companies and may have conflicts of interest with respect to
matters potentially or actually involving or affecting us, such as acquisitions
and other corporate opportunities that may be suitable for both BEI Technologies
or its affiliates and us. These directors collectively own and may in the future
own or have options to purchase significant amounts of BEI Technologies' stock,
as well as collectively own significant amounts of our stock. This ownership
could create, or appear to create, potential conflicts of interest when these
directors are faced with decisions that could have different implications for
BEI Technologies and us.
Out of an average of 12 business days spent each month on professional
management activities, our Chief Financial Officer devotes approximately
three-quarters of his time to us and the remainder to BEI Technologies. During
fiscal 2001, our then incumbent President split his time equally between
providing services to us and BEI Technologies, with a total average of 16
business days spent each month on professional management activities. As of the
commencement of our fiscal year 2002, he began providing services exclusively to
us. As of June 2002, the Company's current President/General Manager was
appointed by the Board of Directors. The Company's new President also serves as
President of a subsidiary of BEI Technologies.
To date, we have not instituted formal procedures for our directors and officers
to follow to safeguard against conflict of interest disputes. We presently rely
on our directors' awareness of their fiduciary duties and our executive
officers' understanding of their responsibilities to us and to each other
company for whom they may serve as a director or in an executive capacity. This
informal policy may not adequately protect us from all conflict of interest
situations. Additionally, when proposed rules requiring adoption of a formal
code of ethics issued by the Securities and Exchange Commission are effective,
we will adopt such a formal policy.
We may have potential business conflicts of interest with BEI Technologies with
respect to our past and ongoing relationships, the resolution of which may not
be as favorable to us as if we were dealing with an unaffiliated party.
We currently have various interim and ongoing agreements with BEI Technologies.
However, disputes could arise between BEI Technologies and us in a number of
areas relating to our past and ongoing relationships, including:
* the nature, extent of, and pricing of the interim services BEI
Technologies has agreed to provide to us;
* intellectual property rights, employee benefits and other matters
arising from our separation from BEI Technologies; and
* major business combinations involving us.
We cannot assure you that we will be able to resolve any conflicts we may have
with BEI Technologies or, if we are able to do so, that the resolution will be
as favorable as if we were dealing with an unaffiliated party. The agreements we
have entered into with BEI Technologies may be amended by mutual agreement of
the parties. It is possible future amendments to these agreements could contain
provisions less favorable to us than the current terms of these agreements.
18
DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Name Age Position
- ------------------------------ ---- ----------------------------------------
Dr. Lawrence A. Wan .......... 64 Chairman of the Board
Gerald D. Brasuell............ 54 President
Gary D. Wrench. .............. 69 Chief Financial Officer and Director
Martin Lim. .................. 38 Chief Technical Officer
Danforth Joslyn .............. 72 Director
Charles Crocker .............. 63 Director
Dr. James W. Seeser........... 59 Director
Dr. Lawrence Wan has served as our Chairman of the board and as a director since
our inception. From September 1997 to September 2002, Dr. Wan served as Senior
Vice President and Chief Technical Officer of BEI Technologies and President of
SiTek, Inc., a subsidiary of BEI Technologies. Prior to that, from July 1990 to
September 1997, Dr. Wan served as Vice President and Chief Technical Officer of
BEI Electronics, Inc., renamed BEI Medical Systems Company, Inc. From 1984 until
1990, Dr. Wan served as Vice President, engineering, of Systron Donner
Corporation, and held various technical and general management positions with
that company between 1979 and 1984. From 1968 through 1979, he served as Chief
Executive Officer of Sycom, Inc., a commercial electronics company, of which he
was also a founding member. Dr. Wan holds B.S., M.S. and Ph.D. degrees in
Engineering and Applied Sciences from Yale University. Dr. Wan served as a
director of BEI Medical Systems Company, Inc. until the sale of that company to
Boston Scientific Corporation in July 2002.
Mr. Gerald D. Brasuell has been our President since June 2002. Mr. Brasuell is
also Vice President and General Manager of the Systron Donner Inertial Division
of BEI Technologies and President of SiTek, Inc. Mr. Brasuell has served in the
Systron Donner Inertial Division position since December 6, 2002. Mr. Brasuell
previously served as Vice President and General Manager of Systron Donner
Inertial Division from October 1995 through February 2002. From 1985 until 1995,
Mr. Brasuell held executive staff level positions at Systron Donner Inertial
Division in Program and Contracts Management, Advanced Product Development and
Manufacturing. Between 1976 and 1985 Mr. Brasuell held various technical and
management positions at Systron Donner Inertial Division.
Mr. Gary Wrench has served as our Chief Financial Officer and as a director
since inception. Mr. Wrench's present time commitment to us as our Chief
Financial Officer is part-time. Mr. Wrench served as Senior Vice President and
Chief Financial Officer of BEI Technologies from September 1997 until his
retirement from BEI Technologies in May 2000. Following Mr. Wrench's retirement
from full-time service to BEI Technologies, Mr. Wrench has continued to provide
professional services to BEI Technologies as an independent consultant. From
July 1993 until September 1997, he served as Senior Vice President and Chief
Financial Officer of BEI Electronics, Inc., renamed BEI Medical Systems Company,
Inc. From April 1985 to July 1993, he served as vice president of BEI
Electronics, Inc. and President and Chief Executive Officer of BEI Motion
Systems Company, Inc., then a wholly owned subsidiary of BEI Electronics, Inc.,
now a part of BEI Technologies. Mr. Wrench holds a B.A. from Pomona College and
an M.B.A. from the University of California, Los Angeles. Mr. Wrench serves as a
member of the board of directors of BEI Technologies, Inc. He also served as a
director of BEI Medical Systems Company, Inc. until the sale of that company to
Boston Scientific Corporation in July 2002.
Mr. Martin Lim has served as our Chief Technical Officer since May 2000. From
May 1997 to January 2001, Mr. Lim served as the director of technology for
SiTek, Inc., a subsidiary of BEI Technologies, where he initiated programs in
microfluidics, biomedical implants and photonic devices. From March 1995 until
May 1997, Mr. Lim served as Senior Technologist for BEI Technologies,
specializing in developing advanced silicon-based sensors and microfabrication
initiatives. From December 1989 to January 1995, Mr. Lim was a member of the
research staff at Xerox's Palo Alto research center focusing on MEMS technology
research as applied to microfluidic ink jet printing. Mr. Lim has been awarded 9
U.S. patents in both device and processes technologies. Mr. Lim holds B.S. and
M.S. degrees in Mechanical Engineering from the University of California at
Berkeley.
Mr. Danforth Joslyn has served as a director since inception. From inception to
June 2002, Mr. Joslyn served on a part-time basis as the Company's President.
From 1998 to the present, Mr. Joslyn has served on a less than full time basis
as an executive officer of Neovasys, Inc., a development stage medical device
company of which he
19
was a founder. From 1998 to the commencement of our 2002 fiscal year, Mr. Joslyn
provided services to BEI Technologies as an independent consultant. From 1993 to
1998, Mr. Joslyn served in an executive capacity with similarly focused
predecessor companies to Neovasys. Mr. Joslyn was a founder of Optical Coating
Laboratory, Inc. (OCLI), a company specializing in vacuum deposited thin film
products serving the optical networking, medical and defense markets. From 1988
to 1993, Mr. Joslyn served as President and Chief Executive Officer of a joint
venture established to develop color-shifting pigments for the security market
by OCLI and Imperial Chemical Industries. From 1959 to 1993, Mr. Joslyn served
as a member of OCLI's board of directors and in various executive positions with
OCLI, including as its President and chief operating officer. Mr. Joslyn holds a
B.S. and a J.D. from George Washington University
Mr. Charles Crocker has served as a member of our board of directors since
inception. Mr. Crocker was a founder of BEI Technologies, and has served as
Chairman of the board of directors and Chief Executive Officer of BEI
Technologies since September 1997. Mr. Crocker also served as President of BEI
Technologies until May 2000. Mr. Crocker served as President of Crocker Capital
Corporation from 1970 to 1985, and as general partner of Crocker Associates, a
venture capital investment partnership, from 1970 to 1990. Mr. Crocker holds a
B.S. from Stanford University and an M.B.A. from the University of California,
Berkeley. Mr. Crocker serves as a member of the board of directors of Fiduciary
Trust Company International, Pope & Talbot, Inc., BEI Technologies, Inc. and
Teledyne Technologies, Inc.
Dr. James W. Seeser was elected as a Director of OpticNet in August 2002. He has
advised several companies in technical management after completing a 18 year
career in 2001 with Optical Coating Laboratories, Inc. ("OCLI"), a division of
JDS Uniphase ("JDSU"). He was most recently a vice president at OCLI after
serving for 7 years as Chief Technical Officer for OCLI in charge of U.S. and
foreign technology integration. Prior to that, he was in charge of various
operating units of OCLI. Dr. Seeser received his Ph.D. and M.S. from the
University of Missouri and his B.A. from Drury College. Dr. Seeser has received
several patents for his inventions and has published numerous technical
articles.
Board of Directors and Officers
The members of our board of directors are currently elected annually for a term
of one year. Upon election, all directors hold office until the next annual
meeting of stockholders at which their terms expire and until their successors
have been duly elected and qualified. In the event we should no longer be
subject to certain provisions of the California Corporations Code with which we
must presently comply, we intend to provide for a classified board of directors,
which could have the effect of deterring hostile takeovers or delaying changes
in control of management. Our executive officers serve at the discretion of the
board of directors. There are no family relationships among any of our officers
and directors. Directors who are not officers of OpticNet do not presently
receive any compensation for their services as board members, though they may be
reimbursed for expenses in connection with attendance at board meetings.
Committees of the Board of Directors
We do not presently have any standing committees of the board. We will establish
an audit and compensation committees prior to listing our shares for trading
with any nationally recognized securities exchange or quotation system.
Services Provided by our President and Chief Financial Officer
Mr. Joslyn, our former President (until June 2002), was party to a consulting
Agreement with us, and Mr. Wrench, our Chief Financial Officer, is party to a
consulting agreement with BEI Technologies. During fiscal 2002, each of Mr.
Joslyn and Mr., Wrench divided their time spent on professional management
activities between service to us and service to BEI Technologies. Mr. Joslyn's
agreement with us covered Mr. Joslyn's continuing monthly services to us. During
fiscal 2001, Mr. Joslyn split his time equally between service to us and BEI
Technologies, based on an average of 16 business days combined service per
month, and payments to Mr. Joslyn under this agreement were allocated to our
account and that of BEI Technologies on an equal basis. During fiscal 2001,
payments to Mr. Joslyn allocated to our account under this agreement totaled
$32,000 and $32,000 was allocated to the account of BEI Technologies. As of the
commencement of our 2002 fiscal year, Mr. Joslyn began providing services
exclusively to us under this agreement. As of June 2002, we recognized
20
payments to Mr. Joslyn of approximately $53,000. Mr. Wrench's agreement with BEI
Technologies includes coverage of services performed on our behalf and payments
to Mr. Wrench under this agreement are allocated to our account and that of BEI
Technologies on the basis of time spent by Mr. Wrench each month on behalf of
each company. Mr. Wrench's agreement provides Mr. Wrench is to be compensated at
a rate of $6,000 per month, plus payment of $1,200 per day for service to us or
to BEI Technologies that exceeds five days per month. Service to us averages
approximately three quarters of Mr. Wrench's professional time each month, out
of an average of twelve business days of combined service to us and BEI
Technologies each month. During fiscal 2002, payments to Mr. Wrench allocated to
us under this agreement totaled $94,000. The agreement between BEI Technologies
and Mr. Wrench provides for a one-year term, renewable annually in June of each
year upon mutual agreement of the parties and is cancelable by either party upon
thirty days written notice.
ITEM 2. PROPERTIES
Our properties consist of leased facility space and leased equipment. We lease
facility space used for administrative purposes in San Francisco, California,
and we lease a facility for sales, manufacturing and research and development
purposes in Hayward, California. We lease certain core equipment used in
operations that we have installed at our Hayward, California facility.
Additionally, we may use facilities located in Concord, California from time to
time as permitted under our intercompany agreement with BEI Technologies. We
believe that our existing properties and equipment are adequate for present
operations. The Company's principal facilities are as follows:
Location Description of Facility
- --------------------------------------------------------------------------------
Hayward, California Leases approximately 15,571 square foot manufacturing,
research and development facility.
ITEM 3. LEGAL PROCEEDINGS
The Company has pending various legal actions arising in the normal course of
business. Management believes that none of these legal actions, individually or
in the aggregate, will have a material impact on the Company's business,
financial condition or operating results. The Company is a codefendant in a
dispute with a former employee, which at September 28, 2002, cannot be
reasonably estimated as to the future financial impact. The Company believes
this claim has no merit and is rigorously defending the allegation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
21
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
There is no established public trading market for our voting common stock or
nonvoting common stock. As of December 11, 2002, shares of our voting common
stock were held by approximately 3,000 record holders, shares of our nonvoting
common stock were held by 22 individuals and approximately 146,000 shares of our
voting common stock were subject to outstanding options. Our common stock is
currently subject to significant restrictions on transfer as set forth in our
bylaws. We have paid no dividends during the past three fiscal years. The
payment and amount of cash dividends on our common stock is at the discretion of
our board of directors. We anticipate that for the foreseeable future we will
retain earnings, if any, for use in our business.
Effective September 28, 2002, the Company and BEI Technologies had determined
the Company would authorize and issue to BEI Technologies a series of nonvoting
preferred stock. In November 2002, the Company issued a total of 18,146,420
shares of nonvoting Series B Preferred Stock to BEI Technologies, in exchange
for financing provided during the third and fourth quarters of fiscal 2002 in
the amount of $1,814,642. The sale was exempt under Regulation D of the
Securities Act of 1933.
22
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
- -----------------------------------------------------------------------------------------------------------------------------
Plan Category Number of securities to be Weighted-average exercise Number of securities
issued upon exercise of price of outstanding options, remaining available for
outstanding options, warrants and rights future issuance under equity
warrants and rights (a) compensation plans
(excluding securities
reflected in column (a))
- -----------------------------------------------------------------------------------------------------------------------------
Equity Compensation plans
approved by security holders:
2000 Equity Incentive Plan 145,833 $0.09 830,481
Equity Compensation plans
not approved by security
holders: -- -- --
Total 145,833 $0.09 830,481
- -----------------------------------------------------------------------------------------------------------------------------
23
ITEM 6. SELECTED FINANCIAL DATA
Selected Financial Data
The following table sets forth our selected historical financial data, which
includes research and development expenses borne by BEI Technologies since our
inception through fiscal 2002. We derived the data as of and for the fiscal
years ended September 28, 2002 and September 29, 2001, and from February 23,
2000 (inception) to September 30, 2000 and from February 23, 2000 (inception) to
September 28, 2002 from our audited financial statements and related notes. This
data should be read in conjunction with our audited financial statements and
related notes for the fiscal years ended September 28, 2002 and September 29,
2001, and from February 23, 2000 (inception) to September 30, 2000 and from
February 23, 2000 (inception) to September 28, 2002 included at Item 7 of this
Form 10-K, and "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
Period From Period From
Year Ended Year Ended February 23, 2000 February 23,
September 28, September 29, (Inception) to 2000 (Inception) to
2002 2001 September 30, 2000 September 28, 2002
-------------------------------------------------------------------------------------------------------
Statement of
Operations Data:
Revenues $ 112,500 $ 499,000 $ -- $ 611,500
Gross Profit 28,699 239,360 -- 268,059
Net Loss (4,131,429) (1,574,755) (105,746) (5,811,930)
Balance Sheet Data:
Cash and Cash
Equivalent $ 4,881 $ 828,489 $ 1,012,803 $ 4,881
Total Assets 9,196 1,048,849 1,012,803 9,196
Stockholders' Deficit (2,915,327) (614,177) 944,073 (2,915,327)
The information for the 2002, 2001 and 2000 fiscal years' quarters presented
below is unaudited but has been prepared on the same basis as the audited
financial statements appearing elsewhere in this form 10-K. In the opinion of
management, all necessary adjustments consisting only of normal recurring
adjustments, have been included to present fairly the unaudited quarterly
results when read in conjunction with our audited financial statements and the
related notes. These operating results are not necessarily indicative of the
results of any future period. All expense categories below include stock-based
compensation.
September June 29, March 30, December September June 30,
28, 2002 2002 2002 29, 2002 29, 2001 2001
----------- ----------- ----------- ----------- ----------- -----------
Statement of
Operations Data:
Revenues $ -- $ 25,000 $ -- $ 87,500 $ -- $ 174,000
Gross Profit (loss) (27,549) 12,500 -- 43,748 -- 109,360
Net Loss (496,217) (1,149,501) (1,767,771) (717,940) (1,001,371) (239,364)
Loss Per Share (0.09) (0.20) (0.32) (0.13) (0.19) (0.05)
Balance Sheet Data
(as of the dates
noted above):
Cash and Cash
Equivalents $ 4,881 $ 21,655 $ 106,834 $ 530,893 $ 828,489 $ 1,071,404
Total Assets 9,196 74,749 308,538 852,919 1,048,849 1,247,258
Stockholders'
Deficit (2,915,327) (3,080,376) (3,090,926) (1,328,502) (614,177) 430,529
----------- ----------- ----------- ----------- ----------- -----------
February 23,
2000
(inception)
March 31, December September July 2, to April 1,
2001 30, 2000 30, 2000 2000 2000
----------- ----------- ----------- -------- ---------
Statement of
Operations Data:
Revenues $ 325,000 $ -- $ -- $ -- $ --
Gross Profit (loss) 130,000 -- -- -- --
Net Loss (157,992) (176,028) (105,746) -- --
Loss Per Share (0.03) (0.04) (0.08) -- --
Balance Sheet Data
(as of the dates
noted above):
Cash and Cash
Equivalents $ 1,062,724 $ 1,278,834 $ 1,012,803 -- --
Total Assets 1,164,580 1,381,318 1,012,803 -- --
Stockholders'
Deficit 669,893 868,971 944,073 -- --
----------- ----------- ----------- -------- ---------
24
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with our
historical financial statements and the notes to those financial statements,
which are included in this Form 10-K. Except for the historical information
contained herein, the following discussion contains forward-looking statements
that involve risks and uncertainties. Our actual results could differ materially
from those discussed in, or implied by, these forward-looking statements.
Factors that could cause or contribute to such differences include, but are not
limited to; those discussed in this section and in the "Business--Risk
Factors"--section of this Form 10-K.
See "Critical accounting policies and the use of estimates" for a description of
the Company's critical accounting policies.
The following table sets forth, for the fiscal years ended September 28, 2002
and September 29, 2001 and the period from February 23, 2000 (inception) to
September 30, 2000, the percentage of net sales represented by certain items in
the Company's Statements of Operations.
Fiscal Period Ended
2002 2001 2000
----- ----- -----
Net sales ......................................... 100% 100% -- %
Cost of sales ..................................... 74 52 --
----- ---- ----
Gross profit ...................................... 26 48 --
Operating expenses:
Selling, general and administrative expenses ...... 1137 174 --
Research, development and related expenses ........ 2453 195 --
----- ---- -----
Loss before interest and taxation (EBIT) .......... (3564) (321) --
Other income ...................................... 3 10 --
Interest expense .................................. (112) (5) --
----- ---- -----
Net loss .......................................... (3673%) (316%) -- %
===== ==== =====
Results of Operations
Years ended September 28, 2002 and September 29, 2001
Revenues
Revenues during fiscal 2002 reflected work performed under engineering
agreements with two unaffiliated customers and decreased approximately $387,000
to $112,500 from a similar period in fiscal 2001. The decrease is due to the
slow down of demand for new telecommunications equipment components as compared
to prior periods. During fiscal 2001, revenues were $499,000, which reflected
work performed under an engineering agreement with one customer, Glimmerglass
Networks.
Cost of Revenues and Gross Profit
Cost of revenues as a percentage of revenues in fiscal 2002 increased by 22
percentage points to 74%. The increase is due to higher direct costs on
engineering agreements in the current year. In fiscal 2001, cost of revenues as
a percentage of net revenues was 52%, resulting in gross profit of approximately
$239,000. Cost of revenues includes salaries, materials and production overhead.
Selling, General and Administrative Expenses
Selling, general and administrative expenses during fiscal 2002 increased
approximately $410,000 over fiscal 2001 to $1.3 million. The increase was
primarily due to increased professional, consulting and legal fees of
approximately $567,000. The remaining increase was due to facility rent, which
in fiscal 2002 was the first full year of rent expense, travel and other costs.
Selling, general and administrative expenses included payments
25
made to BEI Technologies for various accounting, human resources and other
administrative services provided by BEI Technologies pursuant to the Services
Agreement between the two companies. These payments during fiscal 2002 were
$50,000. The cost of these services was established at $25,000 per fiscal
quarter at the time of entrance into the Services Agreement based upon the
square footage, headcount, usage and other methods management believes to be
reasonable. In the fiscal quarter ended June 29, 2002, BEI Technologies agreed
to suspend charges for the third and fourth fiscal quarters and reduce the level
of administrative support to a minimal level reflecting the reduced operations
of the Company in the six months ended September 28, 2002 due to the Company's
inability to obtain significant strategic partners or third party financing. As
a percentage of net revenues, selling, general and administrative expense was
1137% in fiscal 2002 compared to 174% in fiscal 2001.
Research and Development Expenses
Research and development expenses during fiscal 2002 increased approximately
$1.8 million over fiscal 2001 to $2.8 million. The increase was primarily due to
increased gross costs for direct employee compensation expense and related
benefits of approximately $1.3 million resulting from a significant staffing up
of research and development headcount in expectation of increased market demand,
increased gross costs for facility rent and operations of approximately $95,000,
as well as increased gross costs for materials and supplies of approximately
$470,000. Many of these costs had a full year effect for the first time in
fiscal 2002. The remaining increase was due to gross costs for professional
fees, travel and other costs. During fiscal 2002, the Company recorded payments
or receivables of $187,000 for deliveries of prototype products to two
unaffiliated customers as a net against research and development expense. In
addition, the Company recorded payments or receivables for deliveries of
prototype products during fiscal 2001 of $210,000 from a total of five
customers, including Glimmerglass Networks. Payments or receivables for
deliveries of prototype products were accounted for as an offset to research and
development expense. As a percentage of net revenues, research and development
expense was 2453% in fiscal 2002 compared to 195% in fiscal 2001.
Related Party Financing
Since inception, all operating capital of the Company has been provided by BEI
Technologies as debt or equity financing. The Company has been unable to gain
outside financing from independent parties to date, in light of the severe
downturn in the optical networking industry.
In October 2000, BEI Technologies agreed to provide OpticNet with a line of
credit originally established for up to $2.0 million. During fiscal 2002, the
line of credit was amended to allow for borrowings up to $3.0 million. During
the fiscal quarter ended June 29, 2002, BEI Technologies suspended the
availability of advances to the Company under the line of credit, under which
amounts outstanding at such time totaled approximately $2.7 million in principal
amount. As of March 30, 2002, the Company was advised by BEI Technologies that,
in view of the Company's inability to obtain outside financing to date and other
general indications of investor dissatisfaction with businesses in the
telecommunications market, further debt financing would not be provided by BEI
Technologies. During October 2002, BEI Technologies extended the maturity date
of the line of credit to December 31, 2002. In the six months ending September
28, 2002, BEI Technologies provided an additional $1.8 million, approximately,
of financing to the Company, which was advanced with the intent to convert such
cash advances into additional equity. Effective September 28, 2002, the Company
and BEI Technologies had determined the Company would authorize and issue to BEI
Technologies a series of nonvoting preferred stock. In November 2002, the
Company issued a total of 18,146,420 shares of nonvoting and nonconvertible
Series B Preferred Stock to BEI Technologies, in consideration of the $1.8
million advanced during the third and fourth quarters. See Note 2 for a further
description of the relationship with BEI Technologies.
Interest Expense and Interest Income
Interest expense during fiscal 2002 increased approximately $102,000 to $125,000
as compared to fiscal 2001 due to the increased average outstanding balance and
additional borrowings on the Company's line of credit agreement with BEI
Technologies.
Interest income was $4,000 in fiscal 2002, and $50,000 in fiscal 2001 due to the
decrease in income earned on highly liquid investments.
26
Liquidity and Capital Resources
During fiscal 2002 total cash used in operations was approximately $4.1 million.
Cash provided by operations included the positive impact of non-cash charges
from depreciation and amortization of $21,000 and $14,000, respectively. In
addition, positive impacts to cash resources resulted from decreases in trade
receivables, prepaid expenses, and other current assets, of $100,000, $15,000,
and $62,000, respectively and an increase in other related party liabilities of
$214,000. These cash inflows were offset by a net loss of $4.1 million, as well
as decreases in trade accounts payable, accrued and other liabilities, customer
advances, and deferred rent of $119,000, $284,000, $25,000 and $15,000,
respectively.
Cash provided by investing activities during fiscal 2002 consisted of a purchase
of approximately $3,000 in capital equipment, offset by a decrease in other
assets of $21,000. Rent expense related to this equipment totaled approximately
$399,000 during the first six months of fiscal 2002. Beginning in the third
quarter of fiscal 2002, the Company reduced operations due to its inability to
obtain additional financing from unaffiliated investors to date. Thus, due to
reduced usage now expected on the subleased equipment, past rent expenses on the
subleases is not necessarily indicative of future results. Rent expense for
fiscal 2002 was approximately $0.7 million. Transactions with BEI Technologies,
a minority investor and the Company's former parent company, are not necessarily
on an arms-length basis and the Company may receive more favorable terms under
these arrangements than it would from an unrelated party.
Cash provided by financing activities during fiscal 2002 consisted of net
proceeds of $1.5 million from borrowings on the Company's note payable to BEI
Technologies under its related party line of credit arrangement. The borrowings
were used to fund daily operations, capital investments and product development.
In March 2002, BEI Technologies increased this line of credit by $1.0 million.
Also during fiscal 2002, cash from financing activities included the provision
of financing, subsequently converted into Series B preferred stock of the
Company following year-end and option exercises for common stock of
approximately $2,000.
If the Company continues as a going concern, the Company anticipates incurring
substantial additional losses over at least the next several years. Since
inception, the Company has incurred recurring operating losses and negative cash
flows from operations. As of September 28, 2002, the Company had an accumulated
deficit of $5.8 million. After extensive discussions with prospective outside
investors throughout fiscal 2002, during March 2002 the Company became aware
that none of these discussions would result in near term equity financing for
the Company. As of March 30, 2002, the Company was advised by BEI Technologies
that, in view of the Company's inability to obtain outside financing to date and
other general indications of investor disaffection with businesses in the
telecommunications market, further debt financing would not be provided by BEI
Technologies. These conditions raise substantial doubt about the Company's
ability to continue as a going concern. During fiscal 2002, the Company
completed an equity investment in the Company by BEI Technologies, in the form
of nonvoting preferred stock, in consideration of amounts received in the third
and fourth quarters of fiscal 2002. As of the end of the Company's March 30,
2002 fiscal quarter, management determined that the Company would not have
sufficient financing for the remainder of its 2002 fiscal year without modifying
the Company's business plan, implementing strict cost-cutting measures and
obtaining additional financing was obtained. Therefore, management and the
Company's board of directors reduced the level of spending by the Company for
research and development and facility and equipment expenditures and to reduce
operations to a level that will solely support the current customer base. The
Company intends to continue to operate in such a scaled back manner until
additional outside financing is available or other prospects are realized by the
Company.
In April 2002, the Company underwent a reduction in force resulting in 8
individuals terminating employment with the Company, including engineering,
manufacturing and marketing personnel. Severance pay for affected persons was
per Company policy, including cash payment and the acceleration of the vesting
of options for certain affected individuals. Total cash costs related to the
reduction in force of approximately $86,000 was recorded in the fiscal quarter
ending June 29, 2002.
To further reduce costs for the Company in the near term, during July 2002, all
of the Company's remaining 15 employees were released from their employment with
the Company and accepted employment with a subsidiary of BEI Technologies, as
agreed to by both companies. The Company's newly appointed President and Chief
Technical Officer have also become employees of this same subsidiary of BEI
Technologies, but continue to
27
serve as executive officers of the Company. The services of certain key
individuals, including the Company's newly appointed President and Chief
Technical Officer, are expected to continue to be available to the Company on an
as needed basis, with reimbursement by the Company to their present employer for
the time value of their services.
Management has developed a plan to enable the Company to continue as a going
concern, see "Item 1. Business - Risk Factors" and Note 1.
Year ended September 29, 2001 and Period from Inception to September 30, 2000
Revenues
During fiscal 2001, revenues were $499,000, reflecting work performed under an
engineering agreement with one customer, Glimmerglass Networks. There were no
revenues generated in the period from inception to the end of fiscal 2000.
Cost of Revenues and Gross Profit
In fiscal 2001, cost of revenues as a percentage of net revenues was 52%,
resulting in gross profit of approximately $239,000. Cost of revenues includes
salaries, materials and production overhead. There was no cost of revenues in
the period from inception to the end of fiscal 2000.
Selling, General and Administrative Expenses
Selling, general and administrative expenses in fiscal 2001 increased $854,000
from $15,000 in the period of inception to the end of fiscal 2000 to $869,000.
These expenses consisted primarily of direct employee compensation expense and
related benefits of approximately $396,000, as well as professional, consulting
and legal fees of approximately $273,000. As a percentage of net revenues,
selling, general and administrative expense was 174% in fiscal 2001.
Selling, general and administrative expenses paid to BEI Technologies by us
during fiscal 2001 totaled $75,000, which covered services received from BEI
Technologies under our InterCompany Services Agreement for three fiscal quarters
during fiscal 2001 at a cost of $25,000 per fiscal quarter. The per fiscal
quarter cost of $25,000 for services covered under our InterCompany Agreement
was established based upon square footage, headcount, usage and other methods
that management believes to be reasonable.
Research and Development Expenses
Research and development expenses in fiscal 2001 increased $870,000 from
$102,000 in the period of inception to the end of fiscal 2000 to $972,000. The
increase was due to a full year operating period in fiscal 2001 as an
independent company dedicated to expanding operations, compared with seven
months in fiscal 2000 during which we were still in an organizational stage.
Research and development expenses in fiscal 2001 consisted primarily of gross
costs for direct employee compensation expense and related benefits of
approximately $614,000 and gross costs related to facility rent and operations
of approximately $219,000. In addition, we recorded payments or receivables for
deliveries of prototype products during fiscal 2001, accounted for as an offset
to research and development expense, from a total of five customers, including
Glimmerglass Networks. As a percentage of net revenues, research and development
expense was 195% in fiscal 2001.
Interest Expense and Interest Income
Interest expense was $24,000 in fiscal 2001 due to borrowings during the year
under our line of credit agreement with BEI Technologies.
Interest income was $50,000 in fiscal 2001, and $11,000 in the period from
inception to the end of fiscal 2000 due to income earned on highly liquid
investments.
Liquidity and Capital Resources
During fiscal 2001, we used $1,316,000 of cash and cash equivalents in
operations. Increases in accrued expenses and other liabilities and accounts
payable of $319,000 and $131,000, respectively, together with a non-cash charge
for depreciation and amortization of $12,000, and other cash inflows of $3,000
provided $465,000 in cash. These cash inflows were offset by a net loss of
$1,575,000, as well as increases in trade receivables, other current assets and
prepaid expenses of $100,000, $62,000 and $19,000, respectively, and a decrease
in customer advances of $25,000.
28
Investing activities in fiscal 2001 consisted of our purchase of $21,000 in
capital equipment to support inc