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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
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(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended January 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File number: 0-15810
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SORRENTO NETWORKS CORPORATION
(Exact name of Registrant as specified in charter)
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New Jersey 22-2367234
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
9990 Mesa Rim Road
San Diego, California 92121
(Address of principal executive offices) (Zip Code)
(858) 558-3960
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, Par Value $6.00 Nasdaq
Title of each class Name of exchange on which registered
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 is not contained herein, and will not be contained, to the best
of Registrant's knowledge, in a definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. _________
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes ___ No X_.
The Registrant's revenues for its most recent fiscal year were $25,137,000
The aggregate market value of voting stock based upon the bid and ask price held
by non-affiliates of the Registrant on March 31, 2003 was $6,193,054.
Number of shares outstanding of the Registrant's only class of common stock as
of March 31, 2003 (the latest practicable date): 886,050.
DOCUMENTS INCORPORATED BY REFERENCE:
None.
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PART I
Item 1. Business
Introduction
This Annual Report on Form 10-K may contain forward-looking statements
that involve risks and uncertainties. Such statements include, but are not
limited to, statements containing the words "believes, "anticipates," "expects,"
"estimates" and words of similar import. Our actual results could differ
materially from any forward-looking statements, which reflect, management's
opinions only as of the date of this report, as a result of such risks and
uncertainties. We undertake no obligation to revise or publicly release the
results of any revisions to these forward-looking statements. Readers should
carefully review the risk factors set forth below in "Factors That May Affect
Future Results" and in other documents the company files from time to time with
the Securities and Exchange Commission, including its quarterly reports on Form
10-Q.
We are a leading supplier of intelligent optical networking solutions
for metropolitan and regional applications worldwide. Our solutions enable
communication carriers and service providers to offer broadband networking
services over optical fibers for metropolitan and regional applications. Our
technologies permit telecommunications service providers to increase fiber
capacity and fiber bandwidth utilization, reduce network costs and complexity
over scalable and efficient networking platforms. Our optical networking systems
support a wide variety of protocols, mixed speeds of traffic and accommodate
changing traffic patterns directly over optical networks.
Our product solutions include optical transport, optical access, and
network management solutions optimized for metro and regional markets, and
combine to create powerful, cost-effective, and easy-to-manage optical networks.
Our dense wavelength division multiplexing, or DWDM, and course wavelength
division multiplexing, or CWDM, platforms can be used in both metropolitan and
regional network applications. DWDM and CWDM technology allows many optical
signals to be transmitted simultaneously on the same optical fiber by using
different wavelengths of light to distinguish the signals. This technology
increases optical network capacity and flexibility.
Our comprehensive suite of optical networking interfaces and optical
access multiplexers allow us to also address broadband applications in the
optical access market including data center fail-over recovery, storage area
networking and internet connectivity applications. In addition, our CWDM product
is a lower cost, entry level solution that can be used for enterprise and
carrier customer access that complements our DWDM product line. Multiplexing is
a process that combines a number of lower speed data transmissions into one
high-speed data transmission.
We also have two powerful network management solutions for our DWDM
product line. Addressing all key management aspects - fault, configuration,
performance, and security - these systems conform to North American and
international standards and are simple to learn and use. We have a robust,
carrier-class management system that offers broad functionality, including
equipment/facilities management, fault management, performance monitoring,
security control, alarm filtering, and remote download. We also have an
enterprise network management solution that provides an intuitive graphical
interface and covers operations, administration, maintenance, and provisioning
functionality for our DWDM networks.
We currently have an installed base with over 20 communications service
providers and system integrators worldwide, including AT&T Broadband, now
Comcast Corporation, Deutsche Telekom, Cox Communications, United Pan-Europe
Communications, El Paso Global Networks and Edison Carrier Solutions.
Understanding Our Market
Definitions of technical terms used throughout this document can be
found at the end of this Item 1.
Rapid Growth in Bandwidth Demand
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Fueled by the growth of the Internet, the volume of data traffic
transmitted across telecommunications networks now exceeds voice traffic. The
growth of data traffic is attributable to increased Internet usage, increased
access speeds and greater use of bandwidth intensive applications. Bandwidth
means the capacity to move information down a communications channel. Bandwidth
is defined by the highest data rates that can be transmitted by that channel and
is commonly measured in bits per second. According to Ryan, Hankin & Kent,
Internet traffic is projected to increase at a rate exceeding 40% per year for
the next five years.
Migration of Network Infrastructure
Traditional copper-based and SONET/SDH based telecommunications
infrastructures were originally designed for voice traffic. These
infrastructures do not scale effectively to provide the bandwidth needed to
support the growth in high-speed data traffic. In addition, these
infrastructures need network-wide upgrades in order to accommodate growing
traffic thus resulting in long delays for provisioning new services.
DWDM and CWDM technologies are more flexible, more efficient and more
scalable networking alternatives for meeting the growing demand for bandwidth
and new broadband services. Broadband means technologies or networks that have
the ability to transmit high data rates. DWDM means dense wavelength division
multiplexing, which is a sophisticated opto-electronics technology that uses
multiple wavelengths of light very efficiently to greatly increase the number of
video, data or voice channels of information that can be sent on a single
optical fiber. SONET means a transmission protocol for high-speed transmission
over fiber optic cable, which was introduced by Bell Communications in 1984 and
quickly accepted by American National Standards Institute. SDH means Synchronous
Digital Hierarchy, which is transmission protocol for high-speed transmission
over fiber optic cable published in 1988 by the Consultative Committee for
International Telegraph and Telephony. It is a transmission protocol used
outside the United States that is similar to SONET .
DWDM networks for long-haul applications were the first to be deployed,
and optical solutions specifically designed to address the challenges faced by
metropolitan markets have significantly lagged in deployment. Accordingly, metro
networks are considered to be traffic bottlenecks in the fast and efficient
transmission of data.
Enhanced Competition in the Service Provider Market
Worldwide deregulation in the telecommunications industry has led to an
increase in the number of service providers seeking to address the growing
demand for bandwidth. In the U.S. and internationally, traditional service
providers such as incumbent local exchange carriers (ILECs), inter-exchange
carriers (IXCs) and post, telephone and telegraph companies (PTTs) are seeing
new entrants in the broadband networking market seeking to capitalize on the
growing demand for bandwidth. A number of competitors to these incumbents are
building new data-centric networks to address the present bandwidth bottlenecks
in the metropolitan markets, including utilities and cable television companies
which are upgrading their current networks and are leveraging existing
investments in fiber optic infrastructure to deliver high-speed data services in
both the local and regional markets. This enhanced competition in the carrier
and service provider markets is driving increased capital expenditures on
network infrastructure that is focused on delivering scalable high-speed data
services in a cost efficient manner.
Network Topography
The following describes each of the network segments within the optical
network hierarchy:
o Long-haul networks are high capacity networks that connect
service providers and carry voice and data across large
geographic regions, typically spanning distances up to 4,000
kilometers. Long-haul networks are relatively simple networks,
built around SONET/SDH technology and are primarily designed only
to satisfy service provider long haul network capacity
requirements.
o Metropolitan core (metro-core) networks connect the central
offices of service providers in a metropolitan area and
facilitate the transport and switching of traffic within extended
metropolitan areas and between the network edge and long-haul
networks. Metropolitan core networks are typically implemented in
ring configurations and reach ring circumferences up to 300
kilometers. In order to efficiently use the optical network,
sub-rate multiplexing devices aggregate traffic into wavelengths
carrying higher speed aggregate
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bit rates across telecommunications networks. Regional networks
typically transport voice and data traffic between cities across
distances of 200 to 600 kilometers or more.
o Access networks connect enterprises or traffic aggregation nodes,
in multiple locations throughout metropolitan areas, to service
providers' central offices or connect different end-user
locations to each other. In order to efficiently use the optical
network, optical access devices aggregate traffic from end users
into wavelengths or wavelength bands for transport across
telecommunications networks. Because access networks must support
the varying demands of end users, these networks tend to be very
complex.
Metropolitan area optical network opportunity
Although optical technologies are being deployed in long-haul networks
to relieve capacity constraints, these solutions are not specifically designed
to address the issues inherent in metropolitan and regional optical networks.
Data is normally mapped into the voice multiplexing hierarchy for transport over
the long-haul network. Metropolitan optical networks are characterized by
varying traffic patterns and protocols as well as varied topologies and end-user
requirements, making them more complex and difficult to manage than long haul
networks. As a result, service providers have only recently begun to exploit the
benefits of optical technologies in metropolitan optical networks.
The optical networking market has seen a substantial downturn in 2002
from 2001 levels. The metro WDM market, which was expected to increase, has also
experienced a slowdown as capital spending has declined throughout the
telecommunications industry. While we believe that the metro WDM world-wide
market will grow significantly in the years to come, such growth is not likely
to occur until capital spending resumes in the markets we serve, and we are
unable to assess at present when this might take place. According to industry
analysts, including Ryan, Hankin and Kent and others, the metro WDM market in
2001 was about $1.2 billion worldwide and is expected to grow to $3.6 billion by
2005.
Regional optical network opportunity
In addition to the metropolitan market, recent engineering enhancements
have permitted the use of DWDM networking platforms for regional optical
networking applications. This development opens up the opportunity to address a
portion of the substantial long haul market. In some regions, e.g., Europe,
regional solutions apply to the majority of the networks installed. Industry
researchers recently started looking at reclassifying the regional market
opportunity, although statistical data for this market are not available.
Specific challenges facing metropolitan optical networks
Service providers face numerous specific challenges in addressing
metropolitan and regional optical networks:
o Scalability Limitations. Originally constructed for voice
traffic, the current network infrastructure based on SONET/SDH
technology does not allow for the network efficiencies necessary
to address the shift to a predominantly data-driven network. Due
to its inherent lack of scalability, the current network
infrastructure may require service providers to undertake the
expensive and tedious process of replacing network equipment or
adding new layers of similar equipment in response to changes or
increases in bandwidth demand. Alternative approaches to WDM are
being developed by other vendors to address the scalability of
the SONET/SDH networks. These nonstandard solutions are called
next generation SONET/SDH and can minimize the wasted bandwidth
of legacy SONET/SDH. While these solutions allow carriers to
combine voice and data on the same network, such solutions do
not, however, expand the amount of bandwidth available and are,
therefore, unable to accommodate the need for large amounts of
bandwidth.
o Need to Support Multiple Protocols. Metropolitan optical networks
are characterized by a wide variety of protocols. The inability
to support multiple protocols and services from a single platform
further increases the cost and complexity of the metropolitan
networks. Alternative approaches to WDM are being developed by
other vendors to address the requirement for support of multiple
services. These nonstandard solutions are called multi-service
provisioning platforms. These solutions generally carry out
protocol conversions and are much more complex than WDM
solutions.
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o Market Downturn. Virtually all telecom related market segments
have suffered a decline in demand in the current economic
downturn. What was once viewed as only a long-haul decline in
market demand has now affected the regional and metropolitan
networks as both enterprise and carrier business have cut back
capital spending. Although we expect that demand in the regional
and metropolitan markets will be strong in future periods, there
are no assurances that capital spending will resume within this
sector in the near term.
o Several Stages of Conversion. Present solutions require several
conversions to transport data through a metropolitan network. In
the access networks, aggregation of traffic often requires
protocol conversions into a common protocol before optical
transmission. In the central office, data is often demultiplexed
and converted into electrical signals for regeneration, switching
or further aggregation into higher capacity links and then
reconverted into optical signals for transmission in the
metro-core network.
o Inefficient Bandwidth Utilization. Within metropolitan optical
networks, service providers must cater to end-users with varying
access speeds. Current optical access solutions do not make
efficient use of scarce wavelength resources. Service providers
must assign a full wavelength to each signal, whether or not the
end-user requires the full bandwidth potential of each
wavelength.
o Difficulty of Network Management. Multiple protocols and
services, coupled with the lack of standards that exist in
metropolitan optical networks, make network management functions,
such as performance monitoring and configuration, exceedingly
difficult. Lack of a robust network management platform further
adds to the cost and complexity of metropolitan optical networks.
o Need for New, Enhanced Service Offerings to Generate New Revenue
Opportunities. Service providers are searching for
next-generation solutions that will enable them to generate
additional sources of revenue from offering new or enhanced
services to their customers. Current solutions typically require
the service provider to deploy equipment that is specifically
designed for a particular service and transmission rate.
Next-generation solutions must be able to offer enhanced
features, wavelength provisioning and bandwidth-on-demand, that
end-users will increasingly request from service providers.
Our Solutions
Our solutions feature products designed to specifically address the
shortcomings of legacy SONET/SDH networks and to facilitate offering new
services throughout metropolitan and regional optical networks. We enable our
customers to meet the rapidly growing demand for bandwidth by offering
end-to-end metropolitan and regional optical networking solutions for the
aggregation, transport and management of traffic. Our current products,
including our GigaMux'r' DWDM transport system, our EPC'TM' sub-rate
multiplexing modules, our JumpStart'TM' CWDM transport system, as well as the
network management product line that includes GigaView, TeraManager'TM' and
TeraConfigurator'TM', are specifically designed to meet the unique requirements
of the metropolitan and regional markets.
Our optical networking solutions offer numerous benefits including:
o Cost Effective Entry-Level Access Solution. Our Jumpstart CWDM
platform allows low cost multiplexing of up to four wavelengths
carrying a mix of protocols and signals for access applications.
CWDM means coarse wavelength division multiplexing, which is a
sophisticated opto-electronics technology that uses multiple
wavelengths of light to increase the number of video, data or
voice channels of information that can be sent on a single
optical fiber.
o Scalable Architecture. We have created an optical networking
solution that simultaneously transmits voice, data, and video
over optimized fiber channels. The modular architecture of our
solution enables service providers to incrementally expand
capacity as their bandwidth needs increase. This simple,
scaleable, and functional solution solves short and long-term
service provider problems, which enhances their ability to reduce
costs and offer value-added services. For example, a service
provider can begin deployment with a single channel and later
expand up to 64 channels, providing up to 640 gigabits per
second, or Gbps, of transmission capacity without interrupting
existing traffic. A fiber channel is a serial data transfer
architecture standard conceived for new mass storage devices and
other peripheral devices that require very high bandwidth
connections. Bit rates for fiber channels are either 1.06 Gbps or
2.1 Gbps.
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o Protocol and Signal Transparency. Our suite of solutions
transports a mix of protocols and signals, including SONET/SDH,
Asynchronous Transfer Mode (ATM) over SONET, Internet Protocol
(IP) over SONET, Gigabit Ethernet, Fibre Channel and Enterprise
System Connectivity in their native formats over numerous
wavelengths in the same fiber. This transparency provides
operational simplicity in that the service provider can offer
networking connectivity without having to worry about protocol
conversions. This is particularly important in metropolitan areas
where multiple protocols are utilized and data transmission rates
change often. The transparency of our solution eliminates the
unnecessary conversions from optical to electrical and back to
optical, as well as eliminates several layers of equipment that
would otherwise be required in the transport and switching of
traffic, thus reducing network complexity and signal latency.
o Protocol Aggregation. Our EPC'TM' optical access multiplexer
aggregates traffic, of varied rates utilizing a wavelength per
direction of transmission, from businesses and network points of
presence for transport throughout optical networks. This
aggregation allows better utilization of wavelengths and lowers
capital expenditures of telecom service providers by reducing
investments in excess network capacity.
o Manageability. The design of our end-to-end optical networking
solution will allow service providers to perform network
management from a single platform with our TeraManager'TM'
product. This intelligent optical network element management
software platform provides fault, configuration, performance, and
security management utilizing an easy-to-use graphical user
interface that allows point and click network provisioning and
monitoring.
o Regional optical transport. Our solution permits service
providers to expand beyond the confines of metropolitan networks
using the same platform for metropolitan and regional
applications. Regional networks can now be built using the lower
cost solutions developed for the metropolitan environment
Our Strategy
Our objective is to become a leading supplier of intelligent optical
networking solutions for metro and regional applications worldwide. The key
elements of our strategy are to:
o Enhance and complete our metropolitan/regional optical networking
solutions
We intend to continue to enhance our existing family of metropolitan
and regional optical networking products and to introduce new products that
increase the functionality of our end-to-end optical solution. We introduced
TeraManager'TM' and TeraConfigurator'TM' in our management solution portfolio in
fiscal 2003. We also introduced JumpStart'TM', our CWDM solution, in fiscal year
2002. The combination of our GigaMux'r' optical transport products, with the
EPC'TM' sub-rate multiplexer, the JumpStart'TM' CWDM, and TeraManager'TM', our
carrier class network management product, creates an intelligent all-optical
transport solution.
o Leverage our engineering leadership
We intend to leverage our engineering expertise in the areas of
optical, mechanical, electrical and network management design to continue to
provide leading end-to-end metropolitan and regional optical networking systems
and to expand our market share. We believe we were the first company to
commercially ship a metropolitan optical networking product using DWDM
technology. As of January 31, 2003, we had a skilled team of 29 engineers that
continually focus on developing products for the metropolitan and regional
optical transport market. We believe that our technological leadership has been
the key to our success and will enable us to rapidly develop new product
offerings and end-to-end optical solutions for the metropolitan and regional
markets.
o Allow our customers to leverage their fiber assets by offering
revenue-generating services
The majority of our existing customers and targeted customers have a
large amount of fiber assets in the metropolitan and regional network
infrastructure. We intend to continue to develop and provide solutions that will
enable our customers to leverage their existing fiber infrastructure to deliver
revenue-generating services, while reducing their overall network costs. In
addition, we believe our existing customer base provides us with an advantage
when competing for new customers. We intend to continue to work closely with our
customers and invest
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in sales and marketing resources to maintain our high level of customer service
and remain responsive to our customers' changing needs.
o Aggressively pursue expense reduction initiatives
We plan to aggressively pursue cost reduction initiatives to bring our
expenses in line with current and future anticipated revenues. Such reductions
may affect the size of our workforce, and may require decreasing our operating
expenses and capital spending. During the past two fiscal years we have
concentrated on implementing initiatives that have lowered our operating costs
and anticipate the need for continued cost reductions if sales volume does not
increase in the near future.
o Maintain our sales, service and support
organizations worldwide
We intend to continue to market our products worldwide. We currently
have sales, service and support teams in North America, Europe and Asia. We
believe that sales, service and support efforts on a customer-by-customer basis
are most effective due to the technical evaluation and significant investments
that are made by our customers.
Products
Our family of optical networking systems is designed to provide our
customers with end-to-end solutions for the metropolitan and regional optical
networking markets. Our transport, access, switching and network management
systems include the following products, some of which are still in development.
GigaMux'r' - DWDM Optical Transport
Our GigaMux'r' optical transport product utilizes DWDM technology to
expand the capacity of new and existing fibers and enable traffic to travel
throughout metropolitan optical networks without optical to electrical to
optical conversions at each intermediate node. Our GigaMux'r' features
wavelength translation, wavelength multiplexing, optical amplification, optical
add-drop multiplexing, protection switching and performance monitoring. The
scalable and modular architecture of our GigaMux'r' product enables service
providers to easily and cost-effectively expand their existing networks as
bandwidth requirements increase. GigaMux'r' can simultaneously transport
multiple protocols bi-directionally over one or more fibers, which reduces the
cost and complexity of the network.
Our GigaMux'r' product is Network Equipment Building Standards, or
NEBS, level III certified. As of January 31, 2003, we have shipped our
GigaMux'r' product to over 20 direct carrier customers or resellers worldwide.
Our GigaMux'r' product includes the following key features:
o Scalability: the system can grow from 1 to 64 protected channels
(640 Gbps/fiber) without a major upgrade or service interruption.
o Protocol transparency: the system can aggregate and transport
SONET/SDH (OC-3/STM-1 through OC-192/STM-64 carrying voice, IP or
ATM traffic), ESCON, Fibre Channel, Fast Ethernet, Gigabit
Ethernet and video.
o Modular protection: the system's modular protection system allows
redundancy to be implemented at any point in the network.
o Add/drop channels: the system is equipped with add/drop modules
that allow specific channels to be added or dropped while all
other channels pass through. Our filter subsystem can add or drop
from single channels to larger wavelength bands.
o Reach: Up to 600 kilometers with optical amplifiers and up to
1000 km with the addition of dispersion compensation.
EPC'TM' - Sub-Rate Access Multiplexer
Electric Photonic Concentrator, or EPC'TM', is our sub-rate access
multiplexer product that aggregates a wide variety of traffic from businesses
and network points of presence for high-speed transport throughout optical
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networks. The traffic is aggregated and effectively shares a wavelength per
direction of transmission and can be ported directly into the DWDM stage of our
GigaMux'r'. EPC'TM' is designed to lower the cost and increase the efficiency of
bandwidth delivery within optical networks.
Our EPC'TM' products include the following key features:
o Support for asynchronous or synchronous (SONET/SDH) time division
multiplexing of data
o Provisionable bit rates and protocol and overhead transparency
JumpStart'TM' -- CWDM Transport
JumpStart is our entry level solution for multiplexing up to 4
bi-directional data channels using coarse wavelength division multiplexing
technology on a single fiber. The product is very compact and can be stacked to
provide additional capacity -- 4 channels per fiber.
TeraManager'TM' -- Element Management System
TeraManager'TM' is our TL1-based intelligent element management
software platform that provides fault, configuration, performance and security
management for all the Sorrento networks products and for networks built with
such products. Service providers can operate our network management platform
through an easy-to-use graphical user interface, which gives users a complete
network view and enables point and click provisioning and monitoring.
Our TeraManager'TM' product includes the following features:
o Fault, configuration, security and performance management
o Carrier class performance
o Interface with higher layer operation support systems
Customers
Our target customer base includes wholesale and retail broadband
service providers, such as inter-exchange carriers, local and foreign telephone
companies, the telecom affiliates of utility companies (utilicoms), cable
television service providers, system integrators and distributors.
Our customers generally fit the following customer profiles:
o Wholesale Network Providers -- these customers provide wavelength
and broadband services to communication service providers and
include telecommunication carriers, cable companies and
utilicoms.
o Managed Services Providers -- these customers provide wavelength
and broadband services to enterprises and include
telecommunication carriers, cable companies, utilicoms and
Internet Service Providers.
o System Integrators -- companies that specialize in providing
turnkey networking solutions for enterprise networks and
applications such as data-center connectivity and storage area
networks.
o Major Enterprises -- major enterprise customers are generally
large organizations with complex networking needs, usually
spanning multiple locations and difficult types of network
requirements. Enterprise customers include industrial
corporations, government agencies, and utilities.
o Small and Medium Businesses -- these customers have a need for
networks as well as connection to the Internet and/or to their
business partners. However, they generally have limited
resources. Therefore, we provide product through systems
integrators or Value Added Resellers.
During fiscal 2003, the majority of our sales were to relatively few
customers, and we expect this customer concentration to continue for the
foreseeable future. For fiscal 2003, we shipped our optical networking products
to a total of 23 customers worldwide. Three customers, AT&T Broadband, now
Comcast Corporation, Cox
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Communications and Deutsche Telekom each represented more than 10% of our net
sales for fiscal 2003 and for fiscal 2002.
Key Relationships
We have entered into long-term agreements with some of our customers
and strategic allies, including:
AT&T Broadband Network Solutions (Now Comcast Business Communications)
In February 2000, we entered into a strategic alliance agreement with
AT&T Broadband Network Solutions (now Comcast Business Communications, or AT&T
Broadband. Under the terms of this agreement, we and AT&T Broadband agreed to
negotiate in good faith concerning the implementation of a number of joint sales
and marketing initiatives. AT&T Broadband also agreed to help introduce our
technology to individuals at other AT&T divisions and to provide feedback
concerning our products' performance. The initial term of this agreement expired
in February 2002 and was automatically renewed for an additional one-year term
in February 2002 and in February 2003. Similar automatic renewals will occur in
each succeeding February. Either we or AT&T Broadband may terminate the
agreement for any reason upon ninety days notice. In addition, we concurrently
entered into an equipment purchase agreement. The equipment purchase agreement
expired in February 2002 and was automatically renewed for an additional
one-year term in February 2002 and in February 2003. Similar automatic renewals
will occur in each succeeding February. Either we or AT&T Broadband may
terminate the agreement for any reason upon ninety days notice. We started
shipping our products to AT&T Broadband in the second quarter of fiscal year
2001.
In November 2002, we entered into a separate exclusive supplier
agreement with AT&T Broadband. Under this agreement, we become AT&T Broadband's
exclusive supplier, subject to certain exceptions, of dense and course
wavelength division multiplexing equipment that AT&T Broadband uses to provide
UFO Communications, Inc., a private service provider, with certain services on
certain AT&T Broadband networks. The initial term of this agreement is five
years and continues after the initial term until either party gives 90 days
written notice terminating the agreement.
UFO Communications, Inc.
In November 2002, we entered into an exclusive supplier agreement with
UFO Communications, Inc., or UFO. Under this agreement, we become UFO's
exclusive supplier of dense and course wavelength division multiplexing
equipment, subject to certain exceptions, for networks owned, leased or operated
by UFO. The initial term of this agreement is five years and can be renewed at
any time by the written agreement of both parties for additional terms of one
year or longer.
Looking Glass Networks
In August 2001, we entered into an equipment purchase agreement with
Looking Glass Networks, or LGN. Under the terms of this agreement, LGN agreed to
purchase metro DWDM optical networking equipment from Sorrento as the primary
supplier. LGN also agreed to receive early adopter access to new and emerging
Sorrento technologies, and to serve as a beta tester for new and emerging
equipment and to provide feedback concerning our products' performance. The
initial term of this agreement expires in August 2004 and will be automatically
renewed for additional one-year terms. Either LGN or Sorrento may terminate the
agreement at the end of the initial or any renewal term upon ninety days notice.
We started shipping our products to LGN in the third quarter of fiscal year
2002.
Sales and Marketing
Our sales effort is currently focused on North America, Europe and
Asia. As of January 31, 2003, our sales and marketing organization included 39
employees, including account managers, sales engineers, support personnel,
product managers and marketing personnel. In North America, Europe and Asia, we
sell our products through our direct sales force as well as through system
integrators. Our international direct sales force is located in the United
Kingdom, France, Belgium, Germany, Singapore and China.
In support of our worldwide selling efforts, our marketing team targets
potential customers through in-depth market analysis. Our marketing objectives
include building market awareness and acceptance of our products as
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well as expanding our customer base. Our customer acquisition strategy has
focused on targeting customers who are aggressively building network
infrastructure and are looking to leverage existing fiber assets to generate
additional revenue from broadband services. This focus has led to strategic
supply agreements with several MSOs, utilities, and to a lesser extent CLECs. We
also plan to target incumbent carriers as they expand the development of their
metropolitan and regional fiber networks. Marketing personnel coordinate our
participation in trade shows, seminars and industry events and conduct media
relation's activities with trade and general business publications. We
participate in many industry organizations responsible for developing standards
that are used in optical networks.
Customer Service and Support
Our customer service and support team provide a critical component of
our customer satisfaction initiative. This team provides support to our
customers allowing them to successfully design and implement their optical
networks. All services can be customized to meet the needs our customers. Our
staff is experienced, and has the equipment necessary to support both
installation and problem resolution. A variety of installation service packages
supports the implementation from start up to upgrades and maintenance.
Specialists are available 7 days a week, 24 hours a day. We offer a Technical
Assistance Center as well as field services support. Multiple technical support
service agreements allow our customers to define the level of support they
require. Our customer service and support team provides installation,
maintenance and training programs addressing the product, installation and
maintenance processes and can be delivered at the customer location or at our
training facility.
We currently provide service and support to our international customers
on a direct basis and are establishing service and support agreements throughout
the world. To date revenues from service and support agreements have not been
material. We intend to continue to develop our internal team to meet the needs
of our customers and will utilize strategic partners to allow us to provide
greater value when appropriate.
We provide a total service solution. Our hardware products are
warranted against defects for a period of 12 to 36 months dependent on purchase
agreements, including technical support and parts repair/replacement. We also
offer support contracts for a fee to our customer base, thereby allowing our
customers to select a service plan tailored to their own particular needs.
Engineering, Research and Development
We have assembled a team of highly skilled engineers with extensive
experience in the fields of optical, mechanical, electrical and network
management design. We believe that our success in introducing DWDM optical
technology for use in the metropolitan and regional markets was a result of our
strength in research and development. As of January 31, 2003, 29 employees were
engaged in engineering, research and development efforts. Our research and
development efforts are focused on new product development as well as enhancing
performance and reliability of our existing products. We believe that our
research and development efforts are key in maintaining technical
competitiveness, delivering innovative products, and addressing the needs of the
regional and metropolitan market.
Our engineering, research and development expenses were $9.0 million,
$13.7 million and $23.9 million for the years ended January 31, 2003, 2002 and
2001, respectively. The decrease in our engineering, research and development
expenses was primarily due to headcount reduction and product rationalizations
under our cost reduction program.
Manufacturing and Quality
We outsource the manufacturing of our products. We design our products
and perform system integration, quality control, final testing and configuration
at our San Diego, California location. Our San Diego facility is ISO-9002
certified and we have begun the process of becoming ISO9000/2000. By meeting
such standards, we assure our customers that we meet internationally recognized
standards for quality, customer care and sound management practices. We believe
that outsourcing our manufacturing allows us to conserve working capital,
flexibly respond to changes in market demand and more quickly deliver products
to our customers.
We currently purchase products from our contract manufacturers and
other suppliers on a purchase order basis. We generally do not enter long-term
contracts with our contract manufacturers or suppliers, and they are not
obligated to perform services for us for any specific period or at any specified
price, except as may be provided in a particular purchase order. We purchase a
limited number of key components used in the manufacturing of our
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products from a limited number of suppliers and some of our components are
purchased exclusively from a single supplier on a purchase order basis.
Patent, Trademarks and Licenses
We currently hold approximately 36 patents and have several patent
applications pending. Although we attempt to protect our intellectual property
rights through patents, trademarks, and copyrights, maintaining certain
technology as trade secrets and other measures, we cannot assure that any
patent, trademark, copyright or other intellectual property rights owned by us
will not be invalidated, circumvented or challenged, that such intellectual
property rights will provide competitive advantages to us or that any of our
pending or future patent applications will be issued with the scope of the
claims sought by us, if at all. We cannot assure that others will not develop
technologies that are similar or superior to our technology, duplicate our
technology or design around the patents that we own. In addition, effective
patent, copyright and trade secret protection may be unavailable or limited in
certain foreign countries in which we do business or intend to do business in
the future. We also have licensed and may in the future license technologies
from other companies on a non-exclusive basis. For example, our CWDM product
incorporates technology purchased from Entrada Networks, Inc., our former
affiliate, that we then enhanced to complete a commercially feasible product.
We believe that the future success of our business will depend on our
ability to translate the technological expertise and innovation of our personnel
into new and enhanced products. We cannot assure that the steps taken by us will
prevent misappropriation of our technology. In the future, we may take legal
action to enforce our patents and other 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 or invalidity. Such
litigation could result in substantial costs and diversion of resources and
could harm our business and operating results.
As is common in our industry, we have from time to time received
notification from other companies of intellectual property rights held by those
companies upon which our products may infringe. Any claim or litigation, with or
without merit, could be costly, time consuming and could result in a diversion
of management's attention, which could harm our business. If we were found to be
infringing on the intellectual property rights of any third party, we could be
subject to liabilities for such infringement, which could be material, and could
be required to seek licenses from other companies or to refrain from using,
manufacturing or selling certain products or using certain processes. Although
holders of patents and other intellectual property rights often offer licenses
to their patent or other intellectual property rights, no assurance can be given
that licenses would be offered, that the terms of any offered license would be
acceptable to us or that failure to obtain a license would not cause our
operating results to suffer.
Working Capital Practices
We have historically maintained high levels of inventories to meet
output requirements of our customers and to ensure an uninterrupted flow of
inputs from suppliers. It is not our standard policy to grant customers the
right to return merchandise that performs according to specifications. Typical
payment terms require payment within thirty to sixty days from the date of
shipment.
We perform ongoing credit evaluations of each customer's financial
condition and extend unsecured credit related to the sales of various products.
From time to time we receive financial instruments such as letters of credit for
payments for international customers. At January 31, 2003, accounts receivable
due from AT&T Broadband, Cox Communications, DeltaNet and iNOC accounted for
31%, 16%, 19% and 30% respectively, of net receivables.
Our Backlog
At January 31, 2003, we had backlog that totaled over $5.0 million
compared to slightly over $200 thousand at January 31, 2002. Our backlog
consists of orders confirmed with a purchase order for products to be shipped
within twelve months to customers with approved credit status. We do not believe
that backlog, as of any particular date, should be used as an indication of
sales for any future period for two reasons. First, orders are increasingly
being booked and shipped in a short period of time and therefore may never be
calculated in the backlog amount at the end of any particular quarter. Second,
customers have and can change delivery schedules or cancel orders without a
significant penalty.
11
Competition
The market for optical networking equipment is extremely competitive
and subject to rapid technological change. We expect competition to continue to
be significant in the future. Our primary competitors in the DWDM market include
vendors of optical networking and infrastructure equipment such as Nortel
Networks, CIENA Corporation, Cisco Systems, and Lucent Technologies, as well as
private companies that have been or will be focusing on our target markets. Our
primary competitors for our CWDM products include Adva AG Optical Networking,
and CIENA Corporation. Many of our competitors have significantly greater
financial resources and are able to devote these greater resources to the
development, promotion, sales and support of their products. In addition, many
of our competitors have more extensive customer relationships than we do,
including relationships with our potential customers. We believe each of our
competitors has optical networking products in various stages of development.
We believe the principal competitive factors in the optical networking
market are:
o product performance, features, functionality and reliability;
o price/performance characteristics;
o timeliness of new product introductions;
o relationships with existing customers;
o service, support and financing; and
o financial stability and strength of company.
We believe our products compete favorably with our competition within
our marketplace.
The competitors for Meret's legacy products include Pesa, Artel, RGB
Spectrum, Utah Scientific, and many other companies.
Increased competition may result in further price reductions, reduced
gross margins and loss of market share, any of which could materially and
adversely affect our business, operating results and financial condition. There
can be no assurance that we will be able to compete successfully against current
and future competitors, or that competitive factors will not have a material
adverse effect on our business, operating results and financial condition.
Environmental Compliance
We are required to file environmental compliance reports with the
Federal Food and Drug Administration regarding the emissions levels of our
laser-based products, which are used in fiber optics communications. All of our
products comply with required safety level standards.
Employees
As of January 31, 2003, we had 115 employees of which 29 were in
engineering, research and development, 39 in sales and marketing, and the
remainder in manufacturing and in general and administrative functions. Of the
29 employees in research and development 15 have masters degrees and 11 have
doctorate degrees. We also employ a number of part-time and temporary personnel
from time to time in various departments. Our future success will depend in part
on our ability to attract, retain and motivate highly qualified technical and
management personnel, for whom competition is intense. None of our employees are
covered by a collective bargaining agreement and we believe that our relations
with our employees are good.
Forward-Looking Statements -- Cautionary Statement
All statements other than statements of historical fact contained in this
Form 10-K, in our future filings with the Securities and Exchange Commission, in
our press releases and in our oral statements made with the approval of an
authorized executive officer are forward-looking statements. Words such as
"propose," "anticipate," "believe," "estimate," "expect," "intend," "may,"
"should", "could," "will" and similar expressions are intended to identify such
forward-looking statements. These forward-looking statements are made pursuant
to the safe harbor provisions
12
of the Private Securities Litigation Reform Act of 1995. Although we believe
that our expectations reflected in these forward-looking statements are based on
reasonable assumptions, such statements involve risk and uncertainties and no
assurance can be given that actual results will be consistent with these
forward-looking statements. Important factors that could cause actual results to
differ materially from those forward-looking statements include without
limitation: our ability to consummate our proposed capital restructuring; our
ability successfully to finance our current and future needs for working
capital; our ability to keep our common stock listed on the Nasdaq Stock Market;
our ability to successfully develop, sell and market our optical networking and
other products; our expectations concerning factors affecting the markets for
our products, such as demand for increased bandwidth; the scope and duration of
the economic slowdown currently being experienced by many of our existing and
prospective customers; our ability to compete successfully with companies who
are much larger than we are and who have much greater financial resources at
their disposal; our ability, or failure, to complete strategic alliances and
strategic opportunities such as sales or spin-offs of subsidiaries or business
units on terms favorable to us for reasons either within or outside our control;
changed market conditions, new business opportunities or other factors that
might affect our decisions as to the best interest of our shareholders; and
other risks detailed from time to time in our reports filed with the Securities
and Exchange Commission.
We wish to caution readers not to place undue reliance on any such
forward-looking statements, which speak only as of the date made. Such
statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from historical earnings and those presently
anticipated or projected. These risks and uncertainties are described in the
following section. We specifically decline any obligation to publicly release
the result of any revisions which may be made to any forward-looking statements
to reflect anticipated or unanticipated events or circumstances occurring after
the date of such statements, or to update the reasons why actual results could
differ from those projected in the forward-looking statements.
Factors That May Affect Future Results
In connection with the safe harbor contained in the Private Securities
Reform Act of 1995 we are hereby identifying important factors that could cause
actual results to differ materially from those contained in any forward-looking
statements made by us or on our behalf. Any such statement is qualified by
reference to the following cautionary statements:
The telecom industry has experienced a significant downturn in the past
year and continues to stay at a low capital spending level for carriers with
whom we depend upon our revenues. Current world turmoil, economic uncertainty
and an equity market that is essentially closed or extremely difficult to raise
new capital, could cause our future revenues to decrease. A significant downturn
in our revenues would drain our existing working capital and have a very
negative impact on our stock price. In addition, we would be faced with the need
to raise additional working capital of which there is no certainty would be
available.
In order to continue to support planned operations, enhance and expand
our product offerings and to penetrate additional market share in the regional
and metropolitan marketplace we will need additional funds in the future. If
we are unable to obtain new investment, we will have to reduce or cease
operations, or attempt to sell some or all of our operations or to merge with
another entity.
The continued development of our products as well as the expansion of
manufacturing capabilities or the establishment of additional sales, marketing
and distribution capabilities will require the commitment of substantial funds.
Our existing working capital is not sufficient to meet these expansion plans.
Potential sources of additional funds include public or private offerings of
equity securities and bank lines of credit. Additional financing may not be
available on terms favorable to us, or at all. Insufficient funds may require us
to delay, scale back or eliminate certain product development programs, or
attempt to merge with another entity or otherwise reduce our existing operations
or cease operations. We also expect that, as a result of the slowdown in capital
spending in the telecom industry, we will need to continue to reduce our
expenses in the future to bring them in line with reduced revenues in order to
conserve our financial resources. Moreover, without adequate financing,
potential customers who otherwise would select our products to purchase may
decide to buy from other vendors who they perceive to have greater financial
stability.
On March 6, 2003, we, SNI, and the holders of our outstanding 9.75%
debentures and Series A Preferred Stock executed an Exchange Agreement, pursuant
to which we have agreed to exchange the outstanding 9.75% debentures and Series
A Preferred Stock for shares of our common stock and new 7.5% debentures in an
aggregate
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principal amount of $13.1 million. The closing of the restructuring transaction
will occur as soon as is practicable after we receive shareholder approval of
the exchange and related transactions, subject to the satisfaction or waiver of
the conditions set forth in the Exchange Agreement. We currently expect the
closing to be on or about May 21, 2003.
An aggregate of approximately 10,440,000 shares of our common stock
will be issued at the closing of the restructuring transaction or will be
issuable upon conversion of the new 7.5% debentures. The new 7.5% debentures
that will be issued in the restructuring transaction, excluding the debentures
to be issued to certain Series A stockholders for certain legal fees, will be
convertible into between approximately 1,034,000 and approximately 3,101,000
shares (representing approximately 8.75% and 26.25% respectively of our shares
outstanding on a diluted basis), depending on the conversion price. The new
7.5% debentures that will be issued to certain Series A stockholders for
certain legal fees will be convertible into approximately 100,000 shares,
depending on the conversion price. The conversion price of the new 7.5%
debentures will depend upon the closing price of our stock prior to the
closing of the restructuring transaction. Because we will not know the
conversion price until shortly before closing the restructuring transaction, we
cannot now determine the precise number of shares of our common stock that will
be issued to the holders of the outstanding 9.75% debentures and Series A
Preferred Stock at the closing of the restructuring transaction and the precise
number of shares of our common stock that will be issuable upon conversion of
the new 7.5% debentures. "Diluted basis" is a concept that is used in the
Exchange Agreement, and means the total number of shares of our common stock
issued and outstanding immediately after the closing of the restructuring
transaction, after giving effect to (i) the issuance of shares of common stock
as part of the restructuring transaction, (ii) shares of our common stock
issuable upon conversion of $12.5 million principal amount of the New
Debentures, and (iii) shares of our common stock issuable upon exercise of the
New Warrants. "Diluted basis" does not give effect to (i) the shares of our
common stock issuable under the 2003 Equity Incentive Plan, (ii) shares of
common stock issuable upon conversion of the Fee Amount Debentures, (iii)
shares of our common stock issuable upon conversion of our Series D Preferred
Stock, and (iv) shares of our common stock issuable upon exercise of existing
options or warrants.
We are in the process of restructuring both our Senior Convertible
Debentures of $32.2 million and Series A Preferred Stock issued by our
subsidiary Sorrento Networks Inc., with a payback obligation of $48.8 million
from that subsidiary. If approved by our shareholders, the proposed
restructuring would result in the exchange of our outstanding Senior
Convertible Debentures Due August 2, 2004, and associated warrants, (together,
the "Outstanding Debentures"), and shares of the Series A Preferred Stock
issued by our subsidiary, Sorrento Networks, Inc. (the "Series A"), into
shares of our common stock and an aggregate principal amount of $12.5 million
(the "Exchange Debentures") of new 7.5% Secured Convertible Debentures (the
"New Debentures"). We will also issue $600 thousand aggregate principal amount
of New Debentures (the "Fee Amount Debentures") to some of the holders of the
Series A Preferred Stock for payment of certain legal fees. In order to effect
the proposed restructuring, our shareholders must vote to approve the exchange
transaction and the issuance of new shares of our common stock and new
convertible debentures, a change in our state of incorporation from New Jersey
to Delaware, and the adoption of a new employee equity incentive plan.
The restructuring is being done for several reasons. The primary reason
is to allow us to restructure our approximately $81 million in obligations due
to the holders of the Outstanding Debentures and Series A obligation. We believe
that the successful restructuring of these obligations into common equity and a
much smaller amount of convertible debentures will strengthen our balance sheet,
allow us to compete more effectively in our industry, permit us to meet the
minimum equity requirements for our principal trading market, Nasdaq, and allow
us an opportunity to raise additional working capital in the future. In addition
to the restructuring of our debt obligations, we plan to simplify our corporate
structure by rolling-up and merging various subsidiaries into one principal
corporation, although this may not happen until after the consummation of the
financial restructuring. This simplification of our corporate structure should
enable us to continue to improve our cost reduction efforts in an industry that
has experienced severe revenue and capital expenditure reductions. There is no
certainty the proposed restructuring will be approved by our shareholders.
Further, because of certain provisions in the Exchange Agreement that govern the
terms and conditions of the restructuring and closing, there is the possibility
that the Debenture Holders or Series A Preferred Stock could elect not to close
on the transaction, even after we have gained shareholder approval and incurred
significant costs associated with the proposed restructuring. If the
restructuring does not close, we would likely be forced to seek protection from
the large liabilities that would become due if defaults under our Debenture
Agreements were triggered.
As part of our proposed restructuring the lawsuits and pending
litigation with the Series A shareholders issued by our Subsidiary Sorrento
Networks, Inc. our subsidiary have been stayed until completion of the proposed
restructuring.
14
The Series A Preferred Stock issued by our Sorrento Networks, Inc. subsidiary
("SNI"), and a preliminary injunction obtained by some of the holders of that
stock, could have a material adverse effect on our ability to raise the capital
that we need.
Certain holders of SNI's Series A preferred stock obtained a
preliminary injunction in September 2001 from the Delaware Court of Chancery,
which was affirmed by the Delaware Supreme Court in January 2002. The injunction
prohibits SNI from issuing additional shares of Series A preferred stock and
from incurring debt without the consent of the holders of a majority of the
outstanding shares of Series A preferred stock. As part of our proposed
restructuring the lawsuits and pending litigation with the Series A Shareholders
have been stayed until completion of the proposed restructuring. However, should
the restructuring not occur, the stay will not continue in effect. The Court of
Chancery would then decide whether to make this injunction permanent at a trial
that is not currently scheduled. We cannot predict the outcome of that trial,
if it occurs. The injunction against SNI, our principal operating subsidiary,
issuing Series A preferred stock, makes it very difficult to fund SNI as its
business operations require. We, however, have the right to make such capital
contributions to SNI to fund its operations as the Board may deem necessary.
Capital contributions do not increase our ownership interest in SNI, but rather
increases the basis of our ownership interest. The Board has authorized capital
contributions to be made when necessary to fund the SNI operations, but there
can be no assurance that our Board will continue to authorize such contributions
in the future should other funding methods continue to be unavailable. In
addition, our Exchange Agreement with our Convertible Debenture Holders and
Series A shareholders place certain restrictions on funding SNI until completion
of the restructuring.
The redemption rights of the Series A Preferred Stock of SNI, and
limitations on funding SNI could have a negative impact on our business.
In April 2001, holders of the Series A Preferred Stock exercised
their right to ask SNI to redeem their shares for approximately $49 million in
cash. Such request can only be paid from lawfully available funds of which SNI
has none available and would normally be generated from operating profits of the
business. SNI does not foresee any such profits in the near future. While the
Series A shareholders have agreed to the proposed restructuring, there is no
assurance the restructuring will close. Such uncertainty could impact the
business negatively on both a short and long-term basis.
If the proposed restructuring agreement is approved by the shareholders
and completed, all pending legal actions relating to the Series A will be
dismissed. If the restructuring is not completed, we will be forced to consider
an alternative plan of reorganization. (Please refer to Item 3. Legal
Proceedings, for more information).
We may not be able to obtain the additional financing we anticipate we will need
in the near future to continue our business.
We will need additional funds to support operations in the near future
in order to continue to enhance and expand our product offerings and to increase
our market share in the regional and metropolitan marketplace. If we are unable
to obtain new investment, we may have to reduce or cease operations, or attempt
to sell some or all of our operations or to merge with another entity. We cannot
be sure that we will be able to obtain this new financing.
The further development of our products as well as the expansion of
manufacturing capabilities or the establishment of additional sales, marketing
and distribution capabilities will likely require the commitment of substantial
funds. Our existing working capital is not likely to be sufficient to meet these
expansion plans. Potential sources of additional funds include public or private
offerings of debt or equity securities, bank lines of credit or extensions of
existing arrangements by us. Additional financing may not be available on terms
favorable to us, or at all. Insufficient funds may require us to delay, scale
back or eliminate certain product development programs, or attempt to merge with
another entity or otherwise reduce or cease operations. We also expect that, as
a result of the slowdown in capital spending in the optical networking and
telecommunications industries, we will need to continue to reduce our expenses
in the near future to bring them in line with reduced revenues in order to
conserve our working capital. Moreover, without adequate financing, potential
customers who otherwise would select our products to purchase may decide to buy
from other vendors whom the customers perceive to have greater financial
stability.
15
We have a history of losses and expect to incur future losses.
We have incurred operating losses during the years ended January 31,
2003, 2002 and 2001 of $31.3 million, $37.2 million and $50.4 million,
respectively, and as of January 31, 2003, we had an accumulated deficit of
$187.5 million. We expect to continue to incur losses in the future. If we do
not become profitable, the value of our stock will decrease. We have large
expenses in the areas of sales and marketing, research and development,
manufacturing, and general and administrative expenses that are not covered by
our current sales volume and resulting gross margin. Currently, the majority of
revenues are from shipments of our optical networking product lines. In order
for us to become profitable, we will need to generate and sustain higher
revenue, improve our gross margins on products while maintaining reasonable
expense levels.
Our history of losses and future losses could have an impact on our ability to
finance our business and risk our ability to continue operating.
We have incurred significant losses and may incur significant losses in
the future. Such losses could cause our equity balance to fall below necessary
levels even after the restructuring so that we would again be in violation of
minimum listing requirements for our publicly traded stock on the Nasdaq
National Market, which could cause significant decline in shareholder value and
stock price.
If Nasdaq delists our common stock from the Nasdaq National Market, the market
liquidity for our common stock could be severely and adversely effected.
On September 18, 2002, the Nasdaq Stock Market informed us that we were
not in compliance with its listing maintenance standards regarding minimum net
tangible assets or minimum shareholder's equity. We believe that if our
capital-restructuring plan is approved by our shareholders and is consummated,
we will regain compliance with Nasdaq listing standards. However, on January 23,
2003, the Nasdaq staff determined that our stock should be delisted from Nasdaq
because of concerns regarding the length of time it was taking to complete the
restructuring transaction, and about our ability to remain in compliance for a
long enough period of time even if the restructuring transaction was completed.
We appealed this determination to a Nasdaq Listing Qualifications Panel, and our
stock remains listed on Nasdaq pending the decision of the Panel.
On March 6, 2003 we presented before the Nasdaq Panel our reasons for
requesting an extension of time to complete our restructuring plans.
On April 4, 2003, the Panel issued a decision extending until May 16,
2003, our time to demonstrate compliance with the minimum shareholder equity
standard. As our current plan is to close the capital restructuring, subject to
shareholder approval, on or about May 21, 2003, we are asking the Panel for a
short extension of the May 16 deadline. While there can be no assurance that the
Panel will grant this extension, our understanding is that Panels customarily
grant such short extensions under circumstances such as these.
If our stock is delisted from Nasdaq, the ability of holders of our
common stock to sell our stock could be adversely affected, our ability to
secure future funding might be severely impacted, and there could be a material
adverse effect on our financial condition. If we are not successful in the
restructuring we will be delisted from Nasdaq, this delisting would constitute
a triggering event that would allow our debenture holders to request accelerated
payment of their debentures at 125% of the face value. If such an event were to
occur, we would not have the financial resources to repay such a request, thus
resulting in a default under the debenture agreement.
If our common stock is delisted from the Nasdaq market system, it may be subject
to the "penny stock" regulations, which may affect the ability of our
shareholders to sell their shares.
Regulations of the SEC define "penny stock" to be any non-Nasdaq equity
security that has a market price as therein defined of less than $5.00 per share
or which has an exercise price of less than $5.00 per share, subject to certain
exceptions. For any transaction involving a penny stock, unless exempt, the
rules require delivery, prior to any transaction of any penny stock, of a
disclosure schedule prepared by the SEC relating to the penny stock market. The
SEC also requires disclosure of our commissions payable to both the
broker/dealer and its registered representative and information regarding
current quotations of the securities. Finally, the SEC requires that monthly
statements be sent disclosing recent price information for the penny stock held
in the account and information on the limited market in penny stocks.
Your percentage of ownership and voting power, and the price of our common stock
may decrease because we may issue a substantial number of shares of common
stock, or securities convertible or exercisable into our common stock.
16
We have the authority to issue up to 7.5 million shares of our common
stock and 2.0 million shares of our preferred stock without shareholder
approval. We may also issue additional warrants and options to purchase shares
of our common stock. These future issuances could be at values substantially
below the price paid for our common stock by current shareholders. We may
conduct additional future offerings of our common stock, preferred stock, or
other securities with rights to convert the securities into shares of our common
stock, which may result in a decrease in the value, or market price of our
common stock. Further, the issuance of preferred stock could have the effect of
delaying, deferring or preventing a change of ownership without further vote or
action by the shareholders and may adversely affect the voting and other rights
of holders of common stock.
Our industry is highly competitive, and we may not have the resources required
to compete successfully.
The market for optical networking equipment is extremely competitive.
We expect competition to intensify in the future. Our primary sources of
competition include vendors of optical networking and infrastructure equipment
such as CIENA Corporation, Cisco Systems, Lucent Technologies, Nortel Networks,
and ADVA AG Optical Networking as well as private companies that have been or
will be focusing on our target markets. The competitors for Meret's legacy
products include Pesa, Artel, RGB Spectrum, Utah Scientific, and many other
companies. We may also face competition from a number of other companies that
have announced plans for new products to address the same network problems that
our products address. Many of our current and potential competitors have
significantly greater sales and marketing, technical, manufacturing, financial
and other resources than we do. Our competitors also may have more extensive
customer relationships than us, including relationships with our current and
potential customers. If we are unable to compete successfully against our
current and future competitors, we could experience pricing pressures, reduced
gross margins and order cancellations, any one of which could seriously harm our
business.
Our business may be seriously harmed if the market for optical
networking products in metropolitan and regional areas does not see a recovery
from the downturn in telecom capital spending and develop as we expect.
Our business may be seriously harmed if the market for optical networking
products in metropolitan and regional areas does not develop as we expect.
Our current and future product offerings are focused on the needs of
providers that service regional and metropolitan areas. The market for optical
networking products in regional and metropolitan areas is not yet mature, and we
cannot be certain that a feasible market for our products will develop or be
sustainable. In addition, the market has suffered a cutback in capital spending
from both enterprise and carrier customers as a result of poor economic
conditions. If this market does not develop, or develops more slowly than we
expect or continues to be impacted by the reduction in capital spending, our
business may be seriously harmed. Furthermore, the optical networking industry
is subject to rapid technological change, and newer technology or products
developed by others could render our products less competitive or obsolete. In
developing our products, we have made, and will continue to make, assumptions
about the optical networking standards that our customers and competitors may
adopt. If the standards adopted are different from those which we have chosen to
support, market acceptance of our product would be significantly reduced and our
business will be seriously harmed.
Our future growth depends on our ability to attract new customers, and on our
customers' ability to sell additional services to their own customers.
Most of our potential customers evaluate optical networking products
for deployment in large telecommunications systems that they are installing.
There are only a relatively limited number of potential customers for our
products. If we are not selected by a potential customer, our revenues and
ability to grow our business may be seriously harmed. Similarly, our growth
depends on our customers' success in selling communications services based on
our products and complementary products from others. Our success will depend on
our ability to effectively anticipate and adapt to customer requirements and
offer products and services that meet customer demands. Any failure of our
current or prospective customers to purchase products from us for any reason,
including a downturn in their business, would seriously harm our ability to grow
our business.
If we fail to establish and successfully maintain strategic alliances, long-term
contracts and relationships with distributors and system integrators, our
ability to grow and be profitable may be seriously harmed.
17
Strategic alliances and long-term contracts are an important part of
our effort to expand our sales opportunities and technological capabilities. To
date, we have entered into strategic alliances with AT&T Broadband, now Comcast
Corporation, UFO Communications, Inc. and Looking Glass Networks. In addition we
have a long-term contract with Cox Communications. We cannot be certain that our
existing alliances and long-term contracts will not be cancelled or that we will
be able to enter additional strategic alliances on terms that are favorable to
us. With the exception of two agreements we recently entered into with TCI
Network Solutions, Inc., d/b/a AT&T Broadband Network Solutions, and UFO
Communications, Inc., our agreements to date with our strategic allies are
non-exclusive, and we anticipate that future agreements will also be on a
non-exclusive basis. These agreements are generally short term, have no minimum
financial commitments on either side and can be cancelled without significant
financial consequence. In addition, we cannot be certain that our existing and
any future strategic alliances will be successful. As we expand internationally,
we will increasingly depend upon distributors and system integrators. Our
ability to grow and be profitable may be seriously harmed if we fail to
establish and maintain strategic alliances, long-term contracts and
relationships with distributors and system integrators. Our five-year agreement
with AT&T Broadband Network Solutions provides that we will be AT&T Broadband
Network Solutions' exclusive supplier, subject to certain exceptions, of dense
and course wavelength division multiplexing equipment. We also recently
contracted with UFO to be its exclusive supplier of equipment, subject to
certain exceptions, for networks owned, leased or operated by UFO.
We rely on a small number of customers for most of our revenues and any loss,
cancellation, reduction or delay in sales to, or collections from, any single
customer could seriously harm our business.
Our customer base is highly concentrated. Historically, orders from a
relatively limited number of customers accounted for most of our net sales. For
the fiscal year ended January 31, 2003, five customers accounted for 84% of net
sales, during the fiscal year ended January 31, 2002, five customers accounted
for 62% of net sales and in fiscal year 2001 five customers accounted for 44% of
our net sales. We expect that, for the foreseeable future, sales to a limited
number of customers will continue to account for a high percentage of our net
sales. We currently do not have any long-term purchase commitments with any of
our customers, and we are subject to the varying purchase cycles of our
customers. Our concentrated customer base significantly increases the credit
risks associated with slow payments or non-payments by our customers. The loss
or delay of orders or slow or non-payment from, any of our largest customers
could adversely impact our business.
Our backlog at any point may not be a good indicator of expected revenues.
Our backlog at the beginning of each quarter typically is not
sufficient to achieve expected sales for the quarter. To achieve our sales
objective, we are dependent upon obtaining orders during each quarter for
shipment during that quarter. Furthermore, our agreements with our customers
typically provide that they may change delivery schedules and cancel orders
within specified times which are typically 30 days or more prior to the
scheduled shipment date, without significant penalty. Our customers have in the
past built, and may in the future build, significant inventory in order to
facilitate more rapid deployment of anticipated major projects or for other
reasons. Decisions by such customers to reduce their inventory levels have led
and could lead to reductions in purchases from us. These reductions, in turn,
have and could cause fluctuations in our operating results and have had and
could have caused an adverse effect on our business, financial condition and
results of operations in periods in which the inventory is reduced.
Our operating results are likely to fluctuate significantly and may fail to meet
or exceed the expectations of securities analysts or investors, causing our
stock price to decline.
Our revenues and operating results will vary significantly from quarter
to quarter and year to year due to a number of factors, many of which are
outside of our control and any of which may cause our stock price to fluctuate.
Some of the factors that may affect us include changes in market demand for our
optical networking products, the cost and availability of components used in our
products, the timing and amount of customer orders, the length and
unpredictability of the sales and deployment cycles of our products, the timing
of new product introductions and enhancements by our competitors and ourselves,
changes in our pricing or the pricing of our competitors, our ability to attain
and maintain production volumes and quality levels of our products, and general
economic conditions as well as those specific to the telecommunications and
related industries.
18
If we are unable to comply with regulations affecting our customers' industries,
our revenues may be seriously harmed.
Our customers are involved in industries that are subject to extensive
regulation by domestic and foreign governments. If we fail to conform our
products to these regulatory requirements, we could lose sales and our business
could be seriously harmed. Additionally, any failure of our products to comply
with relevant regulations could delay their introduction and require costly and
time-consuming engineering changes.
The time that our customers and potential customers require for testing and
qualification before purchasing our products can be long and variable, and may
require us to invest significant resources without any assurances of sales,
which may cause our results of operations to be unpredictable.
Before purchasing our products, potential customers typically undertake
a lengthy evaluation, testing and product qualification process. In addition,
potential customers often require time-consuming field trials of our products.
Our sales effort requires the effective demonstration of the benefits of our
products to, and significant training of, potential customers. In addition, even
after deciding to purchase our products, our customers may take several years to
deploy our products. The timing of deployment depends on many factors, including
the sophistication of a customer and the complexity and size of a customer's
networks. Our sales cycle, which is the period from the time a sales lead is
generated until the recognition of revenue, can often be longer than one year.
The length and variability of our sales cycle is influenced by a variety of
factors beyond our control, including our customers' buildout and deployment
schedules, our customers' access to product purchase financing, our customers'
needs for functional demonstration and field trials, and the manufacturing lead
time for our products. Because our sales cycles are long and variable and may
require us to invest significant resources without any assurances of sales, our
results of operations may be unpredictable.
The GigaMux'r', EPC'TM', TeraManager'TM' and JumpStart'TM' are our only
currently available significant products, and if they are not commercially
successful, our revenue will not grow and we may not achieve profitability.
If our customers and potential customers do not adopt, purchase and
successfully deploy our GigaMux'r',EPC'TM', TeraManager and JumpStart products
in large numbers, our revenue may not grow and our business, financial condition
and results of operations will be seriously harmed. Because the market for our
products is relatively new, future demand for our products is uncertain and will
depend on the speed of adoption of optical networking, in general, and optical
equipment in metro and regional networks, in particular.
If we are not able to develop and commercialize new or enhanced products, our
operating results and competitive position will be seriously harmed.
Our growth depends on our ability to successfully fund and develop new
and enhanced products. The development of new or enhanced products is a costly,
complex and uncertain process that requires us to anticipate accurately future
technological and market trends. Our next generation of transport and network
management products is currently under development. We cannot be sure whether
these or other new products will be successfully developed and introduced to the
market on a timely basis, or at all. We will need to complete each of the
following steps to successfully commercialize these and any other new products,
complete product development, qualify and establish component suppliers,
validate manufacturing methods, conduct extensive quality assurance and
reliability testing, complete software validation, and demonstrate systems
interoperability.
Each of these steps presents serious risks of failure, rework or delay,
any one of which could adversely affect the rate at which we are able to
introduce and market our products. If we do not develop these products in a
timely manner, our competitive position and financial condition could be
adversely affected.
In addition, as we introduce new or enhanced products, we must also
manage the transition from older products to newer products. If we fail to do
so, we may disrupt customer ordering patterns or may not be able to ensure that
adequate supplies of new products can be delivered to meet anticipated customer
demand. Any failure to effectively manage this transition may cause us to lose
current and prospective customers.
If our products do not interoperate with our customers' networks, installations
will be delayed or cancelled or our products could be returned.
Many of our customers require that we design products to interoperate
with their existing networks, each of which may have different specifications
and utilize a variety of protocols. Our customers' networks contain multiple
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generations of products that have been added over time as these networks have
grown and evolved. Our products must interoperate with all of the products
within these networks as well as future products in order to meet our customers'
requirements. If we are required to modify our product design to be compatible
with our customers' systems to achieve a sale, it may result in a longer sales
cycle, increased research and development expense and reduced margins on our
products. If our products do not interoperate with those of our customers'
networks, installations could be delayed, orders for our products could be
cancelled or our products could be returned, any of which could seriously harm
our business.
Our products may have errors or defects that we find only after deployment,
which could seriously harm our relationship with our customers and our
reputation.
Our customers may discover errors or defects in our products, and our
products may not operate as expected. If we are unable to fix errors or other
problems that may be identified on a timely basis, we could experience losses of
or delays in revenues and loss of market share, loss of customers, failure to
attract new customers or achieve market acceptance, diversion of engineering
resources, increased service and warranty costs, and legal actions by our
customers. Any failure of our current or planned products to operate as expected
could delay or prevent their adoption and seriously harm our relationship with
our customers and our reputation.
We depend upon contract manufacturers and any disruption in these relationships
may cause us to fail to meet the demands of our customers and damage our
customer relationships.
We use contract manufacturers to manufacture and assemble some of our
products in accordance with our specifications. We currently have three
U.S.-based contract manufacturers. We do not have long-term contracts with any
of them, and none of them is obligated to perform services for us for any
specific period or at any specified price, except as may be provided in a
particular purchase order. We may not be able to effectively manage our
relationships with these manufacturers and they may not meet our future
requirements for timely delivery or provide us with the quality of products that
we and our customers require.
Each of our contract manufacturers also builds products for other
companies. We cannot be certain that they will always have sufficient quantities
of inventory available to fill our orders, or that they will allocate their
internal resources to fill these orders on a timely basis. Qualifying a new
contract manufacturer and commencing volume production is expensive and time
consuming and could result in a significant interruption in the supply of our
products. If we are required to change contract manufacturers, we may suffer
delays that could lead to the loss of revenue and damage our customer
relationships.
We rely on a limited number of suppliers and single suppliers for some of our
components, and our sales and operating results may be seriously harmed if our
supply of any of these components is disrupted.
We and our contract manufacturers currently purchase several key
components of our products from single and limited sources. We purchase each of
these components on a purchase order basis and have no long-term contracts for
these components. In the event of a disruption in supply or if we receive an
unexpectedly high level of purchase orders, we may not be able to develop an
alternate source in a timely manner or at favorable prices. Any of these events
could hurt our ability to deliver our products to our customers and negatively
affect our operating margins. In addition, our reliance on our suppliers exposes
us to potential supplier production difficulties or quality variations. Any such
disruption in supply would seriously affect our present and future sales.
We expect the average selling prices of our products to decline, which may
reduce gross margins and revenue.
Our industry has experienced significant erosion of average product
selling prices. We anticipate that the average selling prices of our products
will decline in response to competitive pressures, increased sales discounts,
and new product introductions by our competitors or other factors. Such reduced
sales prices require us to reduce our costs in order to maintain or improve our
existing gross margins. If we are unable to achieve sufficient cost reductions
and increases in sales volumes, the decline in average selling prices will
reduce our gross margins and revenue.
If we are unable to hire or retain highly skilled personnel, we may not be able
to operate our business successfully.
20
Our future success depends upon the continued services of our key
management, sales and marketing, and engineering personnel, many of whom have
significant industry experience and relationships. Many of our personnel could
be difficult to replace. We do not have "key person" life insurance policies
covering any of our personnel. The loss of the services of any of our key
personnel could delay the development and introduction of, and negatively impact
our ability to sell, our products. Competition for highly skilled personnel is
intense in our industry, and we may not be able to attract and retain qualified
personnel, which could seriously harm our business.
If we become subject to unfair hiring claims, we could incur substantial costs
in defending ourselves.
Companies in our industry whose employees accept positions with
competitors frequently claim that their competitors have engaged in unfair
hiring practices. We cannot assure you that we will not receive claims of this
kind in the future as we seek to hire qualified personnel or that those claims
will not result in material litigation. We could incur substantial costs in
defending ourselves or our employees against such claims, regardless of their
merits. In addition, defending ourselves from such claims could divert the
attention of our management away from our operations.
We may be unable to protect our intellectual property, which could limit our
ability to compete.
We rely on a combination of patent, copyright, trademark and trade
secret laws and restrictions on disclosure to protect our intellectual property
rights. We also enter into confidentiality or license agreements with our
employees, consultants and corporate partners, and control access to, and
distribution of, our software, documentation and other proprietary information.
Despite our efforts to protect our proprietary rights, unauthorized parties may
attempt to copy or otherwise obtain and use our products or technology.
Monitoring unauthorized use of our products is difficult, and we cannot be
certain that the steps we have taken will prevent unauthorized use of our
technology, particularly in foreign countries where the laws may not protect our
proprietary rights as fully as in the United States. If competitors gain access
to our technology, our ability to compete could be harmed.
We could become subject to litigation regarding intellectual property rights,
which could seriously harm our business and require us to incur significant
costs.
In recent years, there has been significant litigation in the United
States involving patents and other intellectual property rights. We may be a
party to litigation in the future to protect our intellectual property or as a
result of an allegation that we infringe upon others' intellectual property
rights. Any parties asserting that our products infringe upon their proprietary
rights would force us to defend ourselves and possibly our customers or
manufacturers against the alleged infringement. These claims and any resulting
lawsuits, if successful, could subject us to significant liability for damages
and invalidation of our proprietary rights. Additionally, any claims and
lawsuits, regardless of their merits, would likely be time-consuming and
expensive to resolve and would divert management time and attention.
Any claims of infringement on the intellectual property rights of
others could also force us to do one or more of the following: stop selling,
incorporating or using our products that use the challenged intellectual
property, obtain from the owner of the infringed intellectual property right a
license to sell or use the relevant technology, which may not be available to us
on reasonable terms, or at all, or redesign those products that use such
technology. If we are forced to take any of the foregoing actions, our business
may be seriously harmed. However, we intend to vigorously protect our
intellectual property against all material challenges.
If necessary licenses of third-party technology are not available to us or are
very expensive, our products could become obsolete.
We have been licensing, and 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. If we are required to obtain any third-party licenses to
develop new products and product enhancements, we could be required to obtain
substitute technology, which could result in lower performance or greater cost,
either of which could seriously harm the competitiveness of our products.
Our international operations are subject to a number of risks,
including changes in foreign government regulations and telecommunications
standards, import and export license requirements, tariffs, taxes and other
trade barriers, fluctuations in currency exchange rates, difficulty in
collecting accounts receivable, the burden of
21
complying with a wide variety of foreign laws, treaties and technical standards,
difficulty in staffing and managing foreign operations, and political and
economic instability.
The majority of our sales and expenses have been denominated in U.S.
dollars. However, in the future a larger portion of our sales and expenses may
be denominated in non-U.S. currencies. As a result, currency fluctuations
between the U.S. dollar and the currencies in which we do business could cause
foreign currency translation gains or losses that we would recognize in the
period incurred. We cannot predict the effect of exchange rate fluctuations on
our future operating results because of the number of currencies involved, the
variability of currency exposure and the potential volatility of currency
exchange rates. We do not currently engage in foreign exchange hedging
transactions to manage our foreign currency exposure.
If we do not effectively manage our growth, we may not be able to successfully
expand our business.
Our business has experienced wide fluctuations in sales volume from
quarter to quarter, which places a significant strain on our management systems
and resources. Our ability to successfully offer our products and implement our
business plan in a rapidly evolving market requires an effective planning and
management process. We will need to continue to improve our financial,
managerial and manufacturing processes and reporting systems, and will need to
continue to expand, train and manage our workforce worldwide. If we fail to
effectively manage our growth and address the above requirements, our ability to
pursue business opportunities and expand our business could be harmed.
Our stock price may be volatile which may affect your ability to sell shares at
or above the offering price or result in securities litigation against us.
The stock market in general, the Nasdaq Stock Market and the stock of
optical networking companies in particular, have experienced extreme price and
volume fluctuations that have often been unrelated or disproportionate to a
company's operating performance. We expect the price of our common stock to
fluctuate. The offering price may not be indicative of the prices that will
prevail in the public market after the offering. The trading price of our common
stock could fluctuate in response to factors including those described elsewhere
in the prospectus and:
o General market conditions;
o Announcements of technological innovations or new products;
o Publicity regarding actual or potential results with respect to
technologies or products under development; and
o Other events or factors, many of which are beyond our control
These broad market and industry factors may cause our stock price to
decline, regardless of our actual operating performance. In the past, following
periods of volatility in the market price of a company's securities, securities
class-action litigation has often been instituted against that company.
Securities class-action litigation, if instituted, could result in substantial
costs and a diversion of management's attention and resources, which would harm
our profitability.
We have incurred, and continue to incur, extremely high legal expenses
in connection with our capital restructuring and litigation with former officers
and personnel, which could be ongoing and lessen our available working capital.
The extraordinary and extremely high legal costs associated with our
capital restructuring and defense of legal claims against us brought by prior
officers, directors and other personnel have depleted our existing working
capital. If we continue to incur such expenses, our existing working capital may
be depleted sufficiently that our business may be seriously harmed. We cannot
assure you that we will be able to reduce such costs in the immediate future.
Definitions
As used in this Annual Report on Form 10-K, the following terms have the
meanings indicated:
22
"ATM" means Asynchronous Transfer Mode, which is a type of networking technology
based on transferring data in cells or packets of a fixed size. The small,
constant cell size allows ATM equipment to transmit video, audio, and data over
the same network, and assure that no single type of data overtakes the line.
Current implementations of ATM support data transfer rates of 25 Mbps to 2.48
Gbps.
"Backbone" means a main segment of a network carrying large amounts of traffic.
Individual metro and interoffice rings are attached to the backbone.
"Bandwidth" means the capacity to move information down a communications
channel. Bandwidth is defined by the highest data rates that can be transmitted
by that channel and is commonly measured in bits per second (bps). For example,
Ethernet has a 10 Mbps bandwidth and OC-192 has 10 gigabits per second
bandwidth.
"Bridge" means a device that connects two or more networks of the same access
method (Ethernet to Ethernet or Token Ring to Token Ring) by making simple
forward/don't forward decisions on each data packet received from any of the
networks to which it is connected.
"Broadband" means technologies or networks that have the ability to transmit
high data rates.
"CLEC" means a Competitive Local Exchange Carrier.
"Concentrator" means the connection point, more sophisticated than a hub,
incorporating different types of cable connections, back-up power supply,
data-gathering capability for management purposes and possibly even bridge and
router features as well.
"CWDM" means Coarse Wavelength Division Multiplexing, which is a sophisticated
optoelectronics technology that uses multiple wavelengths of light spaced at
least 400 Ghz apart to increase the number of video, data or voice channels of
information that can be sent on a single optical fiber in a transmission system.
"DWDM" means Dense Wavelength Division Multiplexing, which is a sophisticated
optoelectronics technology that uses multiple wavelengths of light very
efficiently to greatly increase the number of video, data or voice channels of
information that can be sent on a single optical fiber in a transmission system.
"ESCON" -- Enterprise System Connectivity -- means a protocol for 200 Mbps
signal transmission speed over fiber optic cable.
"Ethernet" means a 10 Mbps speed network that runs over thick coaxial cable
(10BASE5), thin coaxial cable (10BASE2), twisted-pair (10BASE-T), and
fiber-optic cable. It is the most widely used LAN technology and the most
popular form of Ethernet is 10BASE-T. Ethernet is a network specification that
was developed at Xerox Corp's Palo Alto Research Center, and made into a network
standard by Digital, Intel, and Xerox.
"Fast Ethernet" means a 100 Mbps speed network that runs over thick coaxial,
twisted-pair, and fiber-optic cable. Fast Ethernet is 10 times faster than
Ethernet.
"FDDI" means a Fiber Distributed Data Interface and is a fiber optic network
that supports transmission speeds up to 100 Mbps.
"Fibre Channel" means a serial data transfer architecture standard conceived for
new mass storage devices and other peripheral devices that require very high
bandwidth connections. Bit rates for Fibre channel are either 1.06 Gbps or 2.1
Gbps.
"Gigabit Ethernet" means a 1000 Mbps speed network that runs fiber-optic cable
for wide area network connections.
"HDTV" means high definition television, which is a new type of television that
provides much better resolution than current television. HDTV is slowly being
implemented into the broadcast networks.
"Hub" means a central connection device to which many network tributaries are
connected.
"ILEC" means Incumbent Local Exchange Carrier and is a telephone company that
provides local services and does not offer long distance services. All the
regional operating companies after the break-up of AT&T became ILECs.
23
"ISDN" means an Integrated Services Digital Network and is an all-digital
communications network that provides a wide range of services on a switched
basis. Voice, data and video can be simultaneously transmitted on one line from
a source.
"ISO" means International Standards Organization. Founded in 1946, ISO is an
international organization composed of national standards bodies from over 75
countries. ISO has defined a number of important computer standards, the most
significant of which is perhaps is OSI (Open Systems Interconnection), a
standardized architecture for designing networks.
"ISP" means an Internet Service Provider.
"ITU" means International Telecommunications Union, which is an
intergovernmental organization through which private and public organizations
develop telecommunications. The ITU was founded in 1865 and became a United
Nations agency in 1947 and it is responsible for adopting international tax
treaties, regulations and standards governing telecommunications.
"IXC" means an inter-exchange carrier, a long distance telephone company or a
carrier that specializes in connecting central offices of local service
providers. This carrier typically does not offer services to end users. AT&T,
MCI and Sprint are IXCs. A carrier that provides the backbone of competitive
local exchange carriers can also be considered as an IXC. Therefore, an IXC can
provide service in both metropolitan and in long haul networks.
"LAN" means a Local Area Network and is a high-speed communications system
designed to link computers for the purpose of sharing files, programs and
various devices such as printers and high-speed modems within a small geographic
area such as a workgroup, department or single floor of a multi-story building.
LANs may include dedicated computers or file servers that provide a centralized
source of shared files and programs.
"MSO" means a Multiple Service Operator which is typically a cable TV operator
that offers multiple services such as video, voice and data.
"Multiplexing" means a process that combines a number of lower speed data
transmissions into one high-speed data transmission by splitting that total
available bandwidth into narrower bands (frequency division) or by allotting a
common channel to several different transmitting devices one at a time in
sequence (time division). The opposite function of separating the data channels
into their original format is called demultiplexing.
"OC-1, OC-3, OC-12, OC-48, OC-192" means the SONET bit rates of 51.85Mbps, 155
Mbps, 622 Mbps, 2.5 Gbps and 10Gbps transmission speeds for signals over fiber
optic cables. The number in the end of the term corresponds to the equivalent
multiple of OC-1 capacity (e.g., OC-192 means equivalent to 192 times OC-1)
"OEMs" means original equipment manufacturers.
"Opto-Electro-Optical" means Optical-Electrical-Optical which describes the
conversion of optical signals to electric and back to optical. Typically,
devices performing this function in the electrical domain and the signals need
to be converted back to optical for transmission over optical fibers.
"Packet" means the "envelope" in which the network software places a message
being sent from one station to another station in a network. One of the key
features of a packet is that it contains the destination address in addition to
the data.
"POTS" means "plain old telephone service" which refers to the standard
telephone service over copper lines that most homes use. In contrast, telephone
services based on high-speed, digital communications lines, such as ISDN and
FDDI, are not POTS. The main distinction between POTS and non-POTS services is
speed and bandwidth. POTS is generally restricted to about 52Kbps.
"Protocol" means a standard developed by international standards bodies,
individual equipment vendors, and ad hoc groups of interested parties to define
how to implement a group of services in one or more layers of the OSI model. The
Open Systems Interconnect ("OSI") reference model was developed by the ISO to
define all the services a LAN should provide. Ethernet and Token Ring, for
example, are both protocols that define different ways to provide the services
called for in the Physical and Data Link Layers of the OSI model.
24
"PTT" means Postal, Telephone and Telegraph, and refers to a generic telephone
company outside the United States. Typically, a PTT is state owned and can
operate both local and long distance services.
"RBOC" means a Regional Bell Operating Company.
"Router" means a network translator that reads network-addressing information
within packets to provide greater selectivity in directing traffic over multiple
network segments. It is a more complex inter-networking device.
"SDH" means Synchronous Digital Hierarchy which is transmission protocol for
high speed transmission over fiber optic cable published in 1988 by the
Consultative Committee for International Telegraph and Telephony. It a hierarchy
similar to SONET but in this case the lowest bit rate channel is STM-1 (155
Mbps).
"SONET" means a transmission protocol for high-speed transmission over fiber
optic cable, which was introduced by Bell Communications in 1984 and quickly
accepted by American National Standards Institute.
"Switch" means a device that allows the network operator to vary and select
connections between network nodes at very high speeds.
"T-1" means a dedicated phone connection supporting data rates of 1.544 Mbps. A
T-1 line actually consists of 24 individual channels, each of which supports
64Kbps and can be configured to carry voice or data traffic. T-1 lines are
sometimes referred to as DS-1 lines.
"TCP/IP" means Transmission Control Protocol/Internet Protocol, which is a suite
of protocols used for communications between two or more devices.
"TDM" means time division multiplexing which is a multiplexing process that
combines a number of lower speed data transmissions into one high-speed data
transmission by allotting a common channel to several different transmitting
devices one at a time in sequence.
"Token Ring" means a 4 Mbps or 16 Mbps speed network that uses different
technology than Ethernet to co-ordinate the transmission of data among nodes.
"WAN" means a Wide Area Network and is a communications network that connects
geographically dispersed users. Typically, a WAN consists of two or more LANs.
The largest WAN in existence is the Internet.
Item 2. Properties.
We recently moved our headquarters to the San Diego, California facility
that we own consisting of approximately 36,000 square feet used for offices,
research and development and manufacturing. We also own a 47,000 square foot
facility in San Diego, California adjacent to our headquarters that is used for
offices, manufacturing and customer support.
For the fiscal year 2003 we occupied an additional 19,240 square feet
used for office, research and development and manufacturing activities under
lease as detailed below:
Location Square Footage Facility Type Expiration Date
--------- --------------- ------------------------------ ---------------------
Santa Monica, California 6,000 Office April 30, 2003
Fremont, California 5,000 Office/Manufacturing July 31, 2003
Richardson, Texas 2,860 Office September 30, 2003
Stuttgart, Germany 5,380 Office December 31, 2005
As we move to bring our expenses in line with our revenue, we have
completed, or are in the process of completing, the relocation of the Santa
Monica, California, Fremont, California and Richardson, Texas offices to our San
Diego, California facility. In addition, we have closed down our overseas
facilities in The Netherlands, Belgium, China and Singapore.
We believe our facilities are suitable and adequate to meet our current
needs. See Note E to the Consolidated Financial Statements contained in Part II
herein for terms and amounts of mortgages on the facility we own.
25
Item 3. Legal Proceedings
On September 10, 2001, holders of a portion of the outstanding Series A
Preferred Stock of our Sorrento subsidiary obtained a preliminary injunction
from the Delaware Court of Chancery prohibiting it from issuing further shares
of its Series A Preferred Stock or incurring any additional debt without the
consent of the holders of a majority of the currently outstanding shares of such
Series A Preferred Stock. On January 23, 2002, the Delaware Supreme Court
affirmed the granting of the preliminary injunction.
On October 19, 2001, an amended complaint was filed in the injunction
action, adding as named defendants, our company, our Meret subsidiary, certain
of our present and former officers and directors and of our subsidiaries as well
as our investment bankers. The amended complaint also added, among other things,
claims for fraud, securities fraud, breach of fiduciary duty, conspiracy, and
intentional interference with contract as well as requesting the appointment of
a receiver for our Sorrento subsidiary, all which claims a