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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act
of 1934 For the fiscal year ended June 30, 1997
OR
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 For the transition period from ____________ to ________________
Commission File Number 000-19462
ARTISOFT, INC.
(Exact name of registrant as specified in its charter)
Delaware 86-0446453
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2202 North Forbes Boulevard, Tucson, Arizona, 85745
(Address of principal executive offices, Zip Code)
Registrant's telephone number, including area code (520) 670-7100
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 par value The Nasdaq Stock Market
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES [X] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of voting stock held by non-affiliates of the
registrant was approximately $31,774,844 based on the closing sale price as
reported by The Nasdaq Stock Market on September 22, 1997.
The number of shares outstanding of each of the registrant's classes of common
stock, as of September 22, 1997 was Common Stock, $.01 par value; 14,529,000
shares.
DOCUMENTS INCORPORATED BY REFERENCE
(1) Portions of the Proxy Statement dated September 24, 1997, for the Annual
Meeting of Shareholders to be held on November 3, 1997, are incorporated by
reference into Part III.
TABLE OF CONTENTS
Page
PART I.............................................................................................. 1
Item 1. Business....................................................................... 1-8
Item 2. Properties....................................................................... 9
Item 3. Legal Proceedings................................................................ 9
Item 4. Submission of Matters to a Vote of Security Holders........................... 9-10
PART II............................................................................................ 11
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters........... 11
Item 6. Selected Financial Data......................................................... 11
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operation......................................................... 11-22
Item 8. Financial Statements and Supplementary Data.................................. 22-39
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure............................................................ 39
PART III........................................................................................... 40
Item 10. Directors and Executive Officers of the Registrant.............................. 40
Item 11. Executive Compensation.......................................................... 40
Item 12. Security Ownership of Certain Beneficial Owners and Management.................. 40
Item 13. Certain Relationships and Related Transactions.................................. 40
PART IV............................................................................................ 40
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............. 40-42
SIGNATURES......................................................................................... 42
PART I
Item 1. Business.
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Introduction and General Development of Business
Artisoft, Inc.(R) ("Artisoft" or "Company" or "Registrant") is a personal
computer ("PC") software company providing cost-effective and easy-to-use local
area network ("LAN"), PC communications and computer telephony solutions. The
Company's executive offices are located at 2202 North Forbes Boulevard, Tucson,
Arizona 85745. The telephone number at that address is (520) 670-7100. The
Company was incorporated in Arizona in November 1982 and reincorporated by
merger in Delaware in July 1991.
Background
Entering fiscal year 1997 (ended June 30, 1997), Artisoft had completed the
acquisition and subsequent integration of three software companies acquired
during fiscal year 1996. The Company's transformation to a PC software company
with a broader technology portfolio was accelerated by these acquisitions.
During fiscal year 1997, the Company's LANtastic(R) NOS product line came under
increasing competitive pressures from the Microsoft Windows(R) 95 operating
system, with its built-in networking capabilities. In addition, Microsoft
Windows NT(R) made significant gains in the small business market place and
further eroded the market share of the LANtastic product line. However, the
computer telephony and remote control product group revenues partially offset
the decreasing revenues from the LANtastic NOS products. The Company introduced
several new products in fiscal 1997 as part of the strategy to diversify its
product portfolio, as well. These products included i.Share(TM), XtraMail(TM),
and InfoFast(TM). See "Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations" for further discussion of these new product
introductions.
Entering fiscal year 1996 (ended June 30, 1996), Artisoft was exclusively
engaged in the design, development, sales and support of LAN software, designed
to enhance the productivity of PC users by enabling them to share networked
resources and to communicate easily and cost-effectively with other users on the
LAN. The typical end-users of the Company's LANtastic peer-to-peer network
operating system ("NOS") are small and growing businesses, home offices,
professional organizations, universities, work groups within larger businesses
and government agencies. The Company estimates that as of June 30, 1996, it had
shipped approximately 4,050,000 computer licenses of LANtastic products used in
approximately 710,000 LANtastic LANs, since the initial version of the product
began shipping in 1987.
During fiscal year 1996, the Company continued its transformation to a PC
software company with a broader technology portfolio and a broader array of
products and channels of distribution. Consistent with this strategy and the
Company's technology vision -- to transform business communications by providing
open solutions bringing together distributed data, voice and imaging resources
at the desktop PC -- the Company successfully completed the acquisition and
integration of three software companies during fiscal year 1996.
On November 22, 1995, the Company acquired for cash substantially all of the
assets and certain liabilities of Synergy Solutions, Inc. ("Synergy"), a PC
software company primarily engaged in the design, development, sales and support
of modem and telephone line sharing software. Synergy's principal product at
that time, Modem Assist Plus(R), was sold principally through retailers.
On December 21, 1995, the Company purchased all of the outstanding common stock
of Triton Technologies, Inc. ("Triton"), a PC software company primarily engaged
in the design, development, sales and support of PC remote control software.
Triton's principal product at that time, CoSession Remote,(TM) was principally
sold directly to original equipment manufacturers.
On February 13, 1996, the Company acquired for cash substantially all of the
assets and certain liabilities of Stylus Innovation, Inc. ("Stylus"), a PC
software company primarily engaged in the design, development, sales and support
of computer telephony applications and tools software. Stylus' principal
product, Visual Voice(R), was principally sold directly to software development
groups within mid and larger sized enterprises.
Prior to fiscal year 1996, the Company manufactured network interface cards and
other communication devices. In two separate transactions effected during the
second half of the fiscal year ended June 30, 1995, the Company divested its
hardware development and manufacturing operations. Currently, all of the
hardware components included in existing product lines are purchased from third
party manufacturers. See "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations" and "Item 8. Financial Statements
and Supplementary Data" for further discussion of these transactions.
Products and Services
The Company is currently organized into three groups, each centered around the
specific products and services being developed, marketed and sold. The three
groups are: the Communication Software Group, located in Tucson, Arizona; the
Computer Telephony Group, located in Cambridge, Massachusetts; and the Remote
Control Group, located in Iselin, New Jersey (with a satellite development
center in Boynton Beach, Florida). Following is a description of the products
and services offered by each group.
1
Communication Software Group
The Communication Software Group strategy emphasizes offering a range of
software products optimized for the networking and communication needs of small
businesses and workgroups. First among these is LANtastic, NOS software designed
to be powerful yet easy-to-use, and able to support a wide variety of PC
operating systems. All current LANtastic software products have been designed to
be compatible with each other, and with most PC industry standard operating
systems, hardware platforms, applications software and NOS. The Communication
Software Group products also include ModemShare v7.0 and i.Share v2.5.
The principal product in the LANtastic NOS family is LANtastic v7.0, an
Internet-ready networking solution for small businesses. LANtastic v7.0, a
full-featured, flexible, peer-to-peer PC LAN includes the LANtastic Internet
Gateway, which uses i.Share technology (see below) to allow multiple-user access
to one network Internet connection. Through licensing agreements, LANtastic v7.0
includes Internet access through CompuServe, Inc.'s SPRYNET(TM) sign-on service,
and browsing capabilities with Netscape Communications Corporation's
Netscape(TM) Navigator 2.0. LANtastic v7.0 supports the three most popular PC
platforms - Windows 95, Windows and DOS. It also includes built-in modem and
phone line sharing, providing online access without the need for extra modems or
phone lines. With a new TCP/IP stack, the LANtastic system connects to UNIX(R)
hosts and applications, enabling a small business to inexpensively build a wide
area network (WAN). The LANtastic v7.0 network also includes remote-access
software for remote dial-up technical support. LANtastic v7.0, first introduced
in June 1996 as a successor to LANtastic v6.0, is available in the form of
network starter kits, network add-on kits to connect additional PCs to a
LANtastic network, or in software-only versions. LANtastic NOS products are
available in certain foreign languages, including French, Italian, German,
Spanish, Dutch, Portuguese and Japanese.
During fiscal 1997, 1996 and 1995, approximately 83%, 82%, and 62% respectively,
of the LANtastic licenses (excluding upgrades) shipped by the Company consisted
of software-only versions. The sales mix shift toward a higher percentage of
software-only licenses in fiscal 1997 was a result of the Company's strategic
decision to divest its hardware development and manufacturing operations during
the second half of fiscal 1995. This decision was precipitated by increased
price sensitivity in the Ethernet adapter market and a related willingness of
resellers of the Company's products not to select the Company's Ethernet
adapters.
Artisoft i.Share v2.5, Internet-access sharing software enables users on a
Microsoft, Novell or LANtastic network to share one Internet connection as
easily as they share files, applications and printers. i.Share enables networked
PCs to simultaneously access the Internet from a single, secure, low-cost access
point from a Windows 95 server. The client's software supports Windows 3.x,
Windows 95, and Windows NT 3.51 Workstation.
Another product offered by the Communication Software Group is ModemShare v7.0.
ModemShare v7.0 offers businesses an easy, affordable way to share modems and
phone lines across a local area network. With ModemShare, everyone on the
network can share one modem and one phone line to use a fax, Internet access
programs and other online services, without leaving their desks. ModemShare
offers total interoperability between Windows 95, Windows and DOS, making it
easy to share resources in mixed operating environments.
Computer Telephony Group
The Computer Telephony ("CT") Group is focusing on two objectives: First, to
increase its leadership in the CT software development toolkit market; and
second, to deliver innovative CT software applications to small businesses and
corporate departments.
Artisoft's Visual Voice is the industry's leading CT development toolkit.
Product attributes include affordability, ease of use, and compatibility with
Microsoft standards. Visual Voice is a 32-bit ActiveX control that converts any
ActiveX compatible software development environment, such as Microsoft Visual
Basic, Microsoft Visual C++, Borland Delphi, and Microsoft Visual FoxPro, into a
full-featured telephony application development toolkit. Visual Voice
applications include voice mail, audiotext, outbound calling, interactive voice
response (IVR), fax-on-demand, and international call-back. With its latest
release, Visual Voice 4.0, introduced in August 1997, the product offers an
important additional benefit: performance. It is the first open-architecture
telephony application development toolkit to support multi-threading for Visual
Basic 5.0. This technology breakthrough allows a 96-line application to be run
with only 15 MB of RAM - a 90% reduction in memory.
InfoFast, an automated information-on-demand system, represents the CT Group's
first entry into the CT software application arena. InfoFast allows businesses
to easily fulfill customer requests via phone or fax. With InfoFast, customers
can call to retrieve specific documents, such as product brochures or bulletins,
by choosing from a list of customizable voice menu options. InfoFast far
surpasses manual fulfillment efforts by providing instant automated access, 24
hours a day. Customers utilizing the product, experience several benefits,
including increased staff productivity, lower costs, and improved customer
service. Its unique Web synchronization utility makes a Web site available via
fax to customers who do not have Web access. With InfoFast 2.0, fulfilling
customer information requests is no longer one-way communication from business
to caller. Customers who need additional information can be transferred to a
live operator or a specific extension. Callers can also leave messages in a
specific mailbox chosen by extension, or perform a last name search for the
correct mailbox. InfoFast's new advanced reporting features allow businesses to
track the frequency of document requests, providing a better understanding of
customer's interests. InfoFast has been built to be a channel-ready solution,
and to date over 350 VARs have invested in not-for-resale copies.
2
A second CT application, TeleVantage(R), is currently under development.
TeleVantage is designed to be a complete PC-based telephone system that is fully
integrated with a LAN. The design calls for it to provide PBX-like call control
functionality including voice mail, auto-attendant, call forwarding, phone
directory and a number of other telephony technologies bundled into a single
integrated solution. TeleVantage is designed to allow organizations to
dramatically improve customer service; increase call productivity; and
significantly decrease the cost of maintaining their telephone system. See "Item
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations" including the section entitled "Risk Factors" for further discussion
of new product introductions.
Remote Control Group
The mission of the Remote Control Group is to provide key products for remote
control, file transfer, configuration assist, and help desk services.
CoSession Remote 32 is a remote control software application that enables users
running a Windows 95 or a Windows NT 4.0 PC to connect and control remote PCs
running Windows NT 4.0 or Windows 95. First shipped in March 1997 on select IBM
PC models, CoSession Remote 32 supports connections over analog modems, IPX/SPX,
NetBIOS, NetBEUI and TCP/IP. CoSession Remote 32 also supports TAPI 2.0 and
connections over IRDA and parallel ports.
CoSession Remote 32 uses shell extensions to enable ease of use in setting up
and accessing remote PCs. Once connected, the users can do one or more of the
following:
o Remote control
o File transfer with differential update, synchronization and cloning
capabilities
o Keyboard chat with remote users
o Simultaneous voice conversations using standard analog modems or
network/Internet connections (with sound cards, speakers and microphones on
the two PCs)
CoSession Remote version 7.0, first shipped in March of 1996, is for users of
Windows 95 and Windows 3.1x systems. It is a 16-bit application that provides
most of the functionality of the CoSession Remote 32 product except it does not
support IRDA or parallel port connections, nor does it provide simultaneous
voice conversations without the use of specialized DSVD modems.
CoSession PC2X provides UNIX to PC remote control capabilities. From a UNIX
workstation, users can access and control PCs running Windows NT 4.0, Windows
95, Windows 3.1x and DOS. This product is primarily targeted toward corporate IS
departments running enterprise and mission critical network management
applications in the overall corporate computing environment.
ConfigSafe(TM) Support Edition is a configuration tracking and recovery utility
that is licensed from imagine LAN, Inc. ConfigSafe supports Windows NT, Windows
95 and Windows 3.1x. It enables an easy recovery from PC crashes with one-step
system restoration and advanced tracking features.
Financial Information about Industry Segments
All of the Company's products are considered part of a single industry segment.
Information regarding domestic and international net sales and international
assets are contained in Note 15, "Domestic and International Operations," in
"Notes to Consolidated Financial Statements" included in "Item 8. Financial
Statements and Supplementary Data."
Raw Materials, Manufacturing and Suppliers
The principal materials and components used in the Company's products include
diskettes, user manuals and product display boxes, and are purchased directly
from third-party vendors. The Company currently utilizes both internal and
third-party contracted resources for the assembly, warehousing and fulfillment
of its products. Outside vendors perform in accordance with Company
specifications, and material quality is ensured prior to the assembly of its
products. Capacity shortages for components, assembly, warehousing and
fulfillment are not anticipated due to multiple third party resources available
for contract; however, if such shortages did occur, the Company's operating
results could be materially impacted. The Company believes there are adequate
supplies of and sources for the raw materials used in its products and that
multiple sources are available for CD and diskette duplication, manual printing
and final packaging.
Since the disposition of its manufacturing operations in the second half of
fiscal 1995, the Company primarily utilizes the services of third-party
manufacturers for production of its hardware products. The Company no longer
purchases integrated circuits, circuit boards and components for its printed
circuit boards, but rather, purchases finished boards and other hardware
products from third-party manufacturers. The manufacturers deliver the products
to the Company's Tucson facilities, where the Company tests, packages and ships
finished products to customers. Most components that are used in the Company's
products are readily available from a large number of both domestic and foreign
equipment vendors. However, future operating results could be adversely affected
if the Company is unable to procure subcontracted assemblies for its products
3
needed to meet anticipated customer demand. To date, customer returns of the
Company's products for defective workmanship have not been material.
Marketing, Sales and Distribution
The Company's dominant marketing strategy is to create reseller and end user
demand for the Company's products and principally use broad line distributors
and volume purchasers to fulfill the reseller and end user demand. The Company's
authorized resellers and distributors are selected for their sales ability,
technical expertise, reputation and financial resources. The Company also sells
direct to original equipment manufacturers, governmental units and end users.
The Company's selling efforts have been assisted by positive product reviews,
awards and recognition earned from computer publications.
The Company's marketing programs have three objectives: (i) create brand name
recognition of the Company and its products; (ii) generate sales leads for its
resellers and distributors; and (iii) support the sales efforts of its resellers
and distributors through sales tools and training. Marketing activities that
address the first two areas include frequent participation in industry trade
shows and seminars, direct mail, advertising in major trade publications,
executive participation in press briefings and industry seminars, sponsorship of
seminars by the Company and on-going communication with the Company's end users.
To train and support resellers and distributors, the Company provides mailings
of product and technical updates, seminar materials, video training and
corporate presentations. The Company's Advantage and Premier programs for U.S.
resellers and distributors provide increased training, services and support.
The Company is exposed to the risk of product returns and rotations from its
distributors and volume purchasers, which are recorded by the Company as a
reduction to sales. Although the Company attempts to monitor and manage the
volume of its sales to distributors and volume purchasers, overstocking by its
distributors and volume purchasers or changes in inventory level policies or
practices by distributors and volume purchasers may require the Company to
accept returns above historical levels. In addition, the risk of product returns
may increase if the demand for new products introduced by the Company is lower
than the Company anticipates at the time of introduction. Although the Company
believes that it provides an adequate allowance for sales returns, there can be
no assurance that actual sales returns will not exceed the Company's allowance.
Any product returns in excess of recorded allowances could result in a material
adverse effect on net sales and operating results. As the Company introduces
more products, timing of sales to end users and returns to the Company of unsold
products by distributors and volume purchasers become more difficult to predict,
and could result in material fluctuations in quarterly operating results.
The Company is also exposed to its distributors for price protection for list
price reductions by the Company on its products held in such distributors'
inventories. The Company provides its major distributors with price protection
in the event that the Company reduces the list price of its products. Large
distributors are usually offered credit for the impact of a list price reduction
on the expected revenue from the Company's products in the distributors'
inventories at the time of the price reduction. Although the Company believes
that it has provided an adequate allowance for price protection, there can be no
assurance that the impact of actual list price reductions by the Company will
not exceed the Company's allowance. Any price protection in excess of recorded
allowances could result in a material adverse effect on net sales and operating
results.
Substantially all of the Company's revenue in each fiscal quarter results from
orders booked in that quarter. A significant percentage of the Company's
bookings and sales to major customers on a quarterly basis historically has
occurred during the last month of the quarter and are usually concentrated in
the latter half of that month. Orders placed by major customers are typically
based upon the customers' forecasted sales level for Company products and
inventory levels of Company products desired to be maintained by the major
customers at the time of the orders. Major distribution customers may receive
negotiated cash rebates, market development funds and extended credit terms from
the Company for purchasing Company products, in accordance with industry
practice. Changes in purchasing patterns by one or more of the Company's major
customers related to customer forecasts of future sales of Company products,
customer policies pertaining to desired inventory levels of Company products,
negotiations of rebate and market development funds or in the ability of the
Company to anticipate the mix of customer orders or to ship large quantities of
products near the end of a fiscal quarter could result in material fluctuations
in quarterly operating results. The Company believes that there is a trend among
major distribution customers and volume purchasers to reduce their inventory
levels of products, including the Company's products. This trend could have a
significant adverse effect on the Company's operating results during the period
or periods that such customers initiate such inventory reductions. The timing of
new product announcements and introductions by the Company or significant
product returns by major customers to the Company, could also result in material
fluctuations in quarterly operating results. Expedited outsourcing of production
and component parts to meet unanticipated demand could adversely affect gross
margins.
The Company employs a team of telesales professionals to sell Visual Voice
directly to end users. Leads are generated through a variety of pull-through
marketing activities, such as advertising, press articles, direct mail and trade
shows. To achieve additional market coverage, particularly in areas outside of
North America, Visual Voice is sold through a number of independent distributors
that specialize in computer telephony products. InfoFast utilizes a two-tier
distribution model. End users purchase the product from VARs, who purchase it
from distributors. The Company works cooperatively with the distributors to
generate awareness within the VAR community, and to develop programs for
training, certifying and motivating the VARs. End user sales leads are passed
along to the certified VARs.
4
The Remote Control Group currently uses multiple distribution channels to
deliver its products worldwide, including software distributors and dealers,
value added resellers, systems integrators, original equipment manufacturers,
direct telemarketing and direct mail. The primary business model, however,
includes the licensing of CoSession Remote and ConfigSafe technology through
original equipment manufacturer (OEM) agreements and volume license agreements
entered with corporations. Sales channels are supported directly through a
variety of programs designed to create demand for the products. The Remote
Control Group seeks to educate individuals and key decision makers in large
corporations, independent software vendors, and original equipment manufacturers
about the uses for and benefits of its products. Programs include the following:
(i) targeted direct mail campaigns; (ii) telemarketing and on-site sales visits;
(iii) targeted worldwide advertising in industry magazines, mail order catalogs
and the Internet; (iv) public relations campaigns; and (v) custom-developed
joint marketing programs with OEM customers. The sales force specializes in
educating corporate end users, original equipment manufacturers and independent
software vendors about the Company's products. The sales organization pursues
prospects in their geographic areas, and the main focus is on OEM customers.
This channel will continue to be the main focus of the business. In addition,
direct sales to medium and large-sized corporations have historically made
revenue contributions and continue to be a source of high profit revenue for the
product group.
In order to ensure an orderly supply of CoSession Remote to end users, a modest
presence in the worldwide wholesale distribution and mail order channel will be
maintained. Coordination for all sales outside of the U.S., with the exception
of Asia, will be handled from the U.S. The Remote Control Group has a strong
presence in Asia through a partnership with Core, Ltd., an engineering and
development organization based in Japan. Core has translated CoSession Remote
into Japanese and is currently selling the product at retail. Core is closely
aligned with IBM Japan, the product group's largest customer in Asia.
The Company supports its products through fee and non-fee-based telephonic
technical services, on-line forums such as CompuServe, a World Wide Web site,
bulletin board systems, CD-ROM databases and a fax-on-demand system. Because the
Company's products operate in many disparate PC environments, the Company's
technical services require wide expertise in network operating systems, network
interface cards of other companies and other technologies.
The Company's ability to compete is dependent upon the timely introduction of
new products to the marketplace and the timely enhancement of existing products.
Product development expenses totaled approximately $9.3 million, $7.1 million
and $7.7 million in fiscal 1997, 1996 and 1995, respectively. The Company has
not engaged in customer-sponsored research activities.
Seasonality
Typically, the personal computer industry experiences some seasonal variations
in demand, with weaker sales in the summer months because of customers'
vacations and planned shutdowns. This seasonality is especially noted in Europe.
Competition
The PC industry is highly competitive and is characterized by rapidly changing
technology and evolving industry standards. Competition is usually based upon
brand recognition, scalability of products offered by a vendor, current and
future perceived needs of customers, product features, ease of installation and
maintenance, reliability of the software, price and product availability through
consultant, reseller and retail channels. The Company's NOS products compete
with products available from numerous companies including Microsoft Corporation
("Microsoft"), Novell and International Business Machines Corporation ("IBM"),
which have substantially greater research and development, marketing and
financial resources, manufacturing capability, customer support organizations
and brand recognition than those of the Company.
The Company expects that all of its products, existing and new, will face
significant competition. Competition in the industry is likely to intensify as
current competitors expand their product lines, include more features in
operating systems, add new network application features into their NOS products
and operating systems and as new companies enter the market, including companies
offering capabilities via Internet browsers. Significant price competition, with
its attendant adverse effects on profit margins, may result. Prolonged price
competition could have a material adverse effect upon the Company's business,
operating results and financial condition.
The Company's NOS products compete against Microsoft's Windows desktop operating
systems, including Windows 95, which includes peer-to-peer networking
capabilities as well as a group scheduler and electronic mail features. The
Company believes that the viability of these products has severely impacted the
Company's net sales and income from continuing operations. This impact has been
difficult to estimate in advance. In August 1995, Microsoft introduced a new
version of its Windows operating system, referred to as "Windows 95". This
product includes networking features competitive with features found in products
sold by the Company. Because of the dominance of Microsoft in the personal
computer operating system market, the Company believes that Windows 95 has had a
significant, detrimental impact on sales of the Company's products since its
introduction. Part of the Company's business strategy is to provide a migration
path for small businesses and workgroups to the Windows 95 operating system. The
Company's LANtastic 7.0 product fully supports Windows 95 and enables the
Company's customers to utilize Windows 95 features in an integrated network
across all major operating system platforms. Another Microsoft NOS product that
the Company believes has had and may in the future have, a detrimental impact on
sales of LANtastic products, is Microsoft Windows NT network server. The
Microsoft Windows NT 4.0 network server product is faster than previous versions
and easier to use, and has a Windows 95-like interface. It also ships with all
of the tools necessary to create and manage Internet or Intranet services and
includes Internet browsing
5
capabilities with the inclusion of Microsoft Explorer 3.0. The Company does not
have the product breadth or marketing and engineering resources of Microsoft,
whose dominant position provides it with substantial competitive advantages in
PC software.
The Company's NOS products also compete with Novell's NOS products. Novell
released, at the end of 1996, a version of its NetWare NOS for the Small
Office-Home Office market. This product, based on the next generation of
NetWare, includes built-in Internet capabilities (gateway, browser and
Webserver) remote access, E-mail, fax services and other bundled proprietary and
third-party products. Novell has a significant if not dominant position in the
LAN market and has significantly greater marketing, engineering and other
resources than the Company.
There can be no assurance that the Company's NOS products will be able to
compete successfully with other NOS products offered presently or in the future
by Microsoft, Novell or other NOS competitors. Given the greater resources,
higher brand name recognition and other substantial advantages enjoyed by these
competitors, it is unlikely that the Company's NOS business can continue to be
the primary source of its revenues and earnings over the long term. Accordingly,
the future success of the Company will, in part, depend on its ability to expand
non-NOS products and activities faster than the rate at which its opportunities
and prospects in the NOS arena decline. Although the Company's NOS products are
well known and established in the marketplace, in light of the competitive
factors noted above, there can be no assurance that the Company will be able to
maintain its share of the NOS market. In such event, its revenues and earnings
may decline. In the CT tools arena, Artisoft competes with two classes of
products: proprietary telephony development environments such as those offered
by Parity, Brooktrout, and Apex; and other open toolkits such as those offered
by Parity and Pronexus. Proprietary environments have traditionally been favored
for high-end applications while open toolkits have been used for lower-end
applications. The enhanced performance capabilities of Visual Voice 4.0,
however, could change this distinction. Visual Voice now has a significant cost
advantage versus proprietary languages and a clear scalability advantage versus
other open toolkits. However, given the recent introduction of Visual Voice 4.0,
it is too early to know whether the product will enable the Company to compete
more favorably for sales intended for proprietary telephony development
environments.
Competition for InfoFast tends to fall into two categories: modem-based
fax-on-demand applications, such as the Fax-It-Back product marketed by
Castelle; high-end fax solutions, such as the FactsLine product line marketed by
Castelle and the FaxBack product line marketed by FaxBack. Although InfoFast is
more expensive than the modem-based products, it offers better performance,
higher reliability, and a greater feature set. Compared to high-end systems,
InfoFast offers fewer features, but at the same time provides significant price
advantages and ease of use. Although the TeleVantage product remains under
development, it is clear that it will face stiff competition in the marketplace
at such time as the product may ship.
The PC remote control software industry is highly competitive. There are a
number of companies that currently compete directly with the Company's PC remote
control products. Many of these companies, including Symantec, Compaq/Microcom
and others, have substantially greater resources and name recognition than the
Company. Accordingly, there can be no assurance that current PC remote
communications products will continue to generate revenues and earnings at
current levels, or that this product group will be able to effectively develop
and launch new competitive products in the future.
International Business
In fiscal 1997, 1996 and 1995, international sales accounted for 27%, 30%, and
38% respectively, of the Company's net sales. Sales to non-U.S. customers may be
affected by fluctuations in exchange rates and by government regulations. To
date, the Company's operations have not been materially impacted by currency
fluctuations. Assets deployed to support the Company's international business
represented approximately 3% of total assets at the end of fiscal 1997, 1996 and
1995. The Company's international operations consist of only sales, marketing
and support services in limited geographic areas. The Company's international
operations are in good standing and have not been denied any licenses to
operate, but are subject to the normal risks associated with such international
operations.
Significant Customers
The Company sells its products through a variety of channels of distribution,
including distributors, volume purchasers and resellers. For fiscal 1996 and
1995, Ingram Micro, Inc. accounted for approximately 12% and 21% of the
Company's net sales, respectively. For fiscal 1995, Merisel, Inc. accounted for
approximately 10% of the Company's net sales. At June 30, 1997, Ingram Micro,
Inc., accounted for 19% of the Company's outstanding trade accounts receivable.
The loss of any of the major distributors of the Company's products or their
failure to pay the Company for products purchased from the Company could have a
material adverse effect on the Company's operating results. The Company's
standard credit terms can be net 30 days, although longer terms are provided to
various major customers on a negotiated basis from time to time.
Backlog
Substantially all of the Company's revenue in each quarter results from orders
booked in that quarter. Accordingly, the Company does not believe that its
backlog at any particular point is indicative of future sales. The Company's
backlog of orders at June 30, 1997 was approximately $181,000, compared with
approximately $221,000 at June 30, 1996.
6
Proprietary Rights and Licenses
The Company currently relies on a combination of trade secrets, copyright and
trademark laws, nondisclosure and other contractual agreements and technical
measures to protect the proprietary rights and security of its products. Despite
these precautions, unauthorized parties may attempt to copy aspects of the
Company's products or to obtain and use information the Company regards as
proprietary.
Although the Company has certain patents, patent protection is not considered
essential to the Company's success. The Company believes that, because of the
rapid pace of technological change in the industries in which the Company
competes, the legal protections for its products are less significant factors in
the Company's success than the knowledge, ability and experience of the
Company's employees, the nature and frequency of product enhancements and the
timeliness and quality of support services provided by the Company.
The Company believes that its products, trademarks and other proprietary rights
do not infringe on the proprietary rights of third parties. However, the
software and computer industry is characterized by frequent litigation regarding
copyright, patent and other intellectual property rights. There can be no
assurance that third parties will not assert infringement claims against the
Company in the future or that licenses will be available on reasonable terms, or
at all, with respect to any third-party technology. In the event of litigation
to determine the validity of any third party claims, such litigation could
result in substantial expense to the Company and adversely impact the efforts of
the Company's management and technical employees. In the event of an adverse
result in any such litigation, the Company could be required to expend
significant resources to develop alternative, noninfringing technology or to
obtain licenses to the technology. There can be no assurance that the Company
would be successful in such development or that any such licenses would be
available at all or at a reasonable cost to the Company. In addition, laws of
certain countries in which the Company's products are or may be developed,
manufactured or sold may not protect the Company's products and other
intellectual property rights at all or to the same extent as the laws of the
United States.
The Company pays royalties to Novell, Netscape Communications, Network
TeleSystems, imagine LAN, PureSpeech Inc., Inso Corporation, AT&T Corporation,
Digital Equipment Corporation, Learnout & Hauspie Speech Products, Voxware,
Inc., International Business Machines and Atrium Software for its use of certain
licensed technologies. The licensing by these entities of their products or
brand name to competitors of the Company, or the withdrawal or termination of
licensing rights to the Company's technologies, could adversely affect the
Company's sale of products incorporating such licensed technologies and the
Company's results of operations as a whole.
Environmental Laws
Compliance with federal, state and local laws and regulations for the protection
of the environment has not had a material impact on the Company's capital
expenditures, earnings or competitive position. Although the Company does not
anticipate any material adverse impact in the future based on the nature of its
operations and the scope of current environmental laws and regulations, no
assurance can be provided that such laws or regulations or future laws or
regulations enacted to protect the environment will not have a material adverse
impact on the Company.
Employees
As of June 30, 1997, the Company employed a total of 270 regular employees,
including approximately 135 in sales, marketing and customer support, 81 in
engineering and product development, 21 in operations and 33 in administration.
Due to the restructuring as more fully described in Item 7. "Management's
Discussion and Analysis of Financial Condition and Results of Operations", as of
September 15, 1997 the Company employed 164 regular employees. The future
success of the Company will depend in large part on its continued ability to
attract and retain highly skilled and qualified personnel. Competition for such
personnel is intense. The Company has employment or change in control agreements
with most of its executive officers and noncompetition and nondisclosure
agreements with substantially all of its professional employees and executive
officers. None of the Company's employees are represented by a labor union. The
Company has experienced no work stoppages and believes that its relations with
its employees are good.
Uncertainties in the Company's Business
In addition to the factors described above that could adversely affect the
Company's business and results of operations, and, therefore, the market
valuation of its Common Stock, the Company's future results of operations may be
impacted by various trends and uncertainties that are beyond the Company's
control, including adverse changes in general economic conditions, government
regulations and foreign currency fluctuations.
In addition, as products become more complex, the Company could experience
delays in product development and software "debugging" that are common in the
computer industry. Significant delays in product development and release would
adversely affect the Company's results of operations. There can be no assurance
that the Company will respond effectively to technological changes or new
product announcements by other companies or that the Company's product
development efforts will be successful. Furthermore, introduction of new
products involves substantial marketing risks because of the possibility of
product "bugs" or performance problems, in which event the Company could
experience significant product returns, warranty expenses and lower sales.
7
The OEM marketplace is highly competitive, with a large number of vendors vying
for a limited amount of "preload dollars". With OEM customers being responsible
for a significant percentage of revenue, it is critical to maintain this
business. Although the Company maintains good relationships with OEM customers,
cost pressures and competitive products are persistent threats to the business.
Certain of the Company's OEM relationships require the scheduled delivery of
product revisions and new products. The failure to adhere to agreed-upon product
delivery schedules could result in the termination of key relationships with
major PC manufacturers, which could have a significant adverse impact on
revenues and earnings.
Other characteristics of the Company and the computer software industry may
adversely impact the Company. These include the ability of the Company to
integrate future acquired businesses by retaining key technical personnel of
acquired businesses and managing and integrating the business systems of
acquired companies. The inability to retain key personnel or to manage and
integrate business systems could substantially reduce the expected benefits of
such acquisitions.
The PC communication software industry is highly competitive. There are a number
of companies that currently compete directly with the Company's PC remote
control, modem and telephone line sharing and computer telephony tools products.
Many of these companies, including Symantec, MicroCom, Novell, Lucent
Technologies and others have substantially greater resources and name
recognition than the Company. Accordingly, there can be no assurance that
current communication products will continue to generate revenues and earnings
at current levels, or that the Company business will be able to effectively
develop and launch new competitive products in the future.
As a result, past performance trends by the Company should not be used by
investors in predicting or anticipating future results. The market price of the
Company's Common stock has been, and may continue to be, extremely volatile.
Factors identified in this and other captions, along with other factors that may
arise in the future, quarterly fluctuations in the Company's operating results
and general conditions or perceptions of securities analysts relating to the
networking and data communications marketplace or to the Company specifically
may have a significant impact on the market price of the Company's Common stock
and could cause substantial market price fluctuations over short periods. See
also "Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations" including the discussion of "Risk Factors."
Rights Plan
During fiscal 1995, the Board of Directors of the Company adopted a shareholder
rights plan (the "Rights Plan") which is intended to protect and maximize the
value of shareholders' interest in the Company and to assure that all Company
shareholders will receive fair and equal treatment in the event of any
unsolicited attempt to acquire the Company. The Rights Plan will not and is not
intended to prevent a takeover of the Company on terms that are fair to, and in
the best interests of, all shareholders. See "Note 10 of Notes to Consolidated
Financial Statements" under "Item 8. Financial Statements and Supplementary
Data."
Stock Repurchase Program
In February 1997, the Company extended a stock repurchase program (the
"Program") under which the Company would be authorized to repurchase up to
1,000,000 shares of its outstanding Common Stock for general corporate purposes.
Pursuant to the Program, management of the Company is authorized to pursue the
Program in open market transactions from time-to-time, depending upon market
conditions and other factors. To date, the Company has repurchased less than
100,000 shares in open market transactions pursuant to the Program.
8
Item 2. Properties
- ------------------
The Company owns or leases property as detailed in the following table.
Lease
Approximate Owned or Expiration Intended
Location Size Leased Date Use
-------- ---- ------ ---- ---
Tucson, Arizona 2.7 acres Owned (Sale in escrow) Vacant Land
Tucson, Arizona 57,775 sq. ft. Owned (Sale in escrow) Office
Tucson, Arizona 2,700 sq. ft. Leased March 1998 Operations
Tucson, Arizona 28,800 sq. ft. Leased February 2001 Operations
Cambridge, Massachusetts 5,150 sq. ft. Leased January 1998 Office
Cambridge, Massachusetts 18,241 sq. ft. Leased August 2000 Office
Boynton Beach, Florida 1,171 sq. ft. Leased July 1998 Office
Iselin, New Jersey 5,352 sq. ft. Leased March 2000 Office
Tokyo, Japan 197 sq. ft. Leased February 1999 Office
Mexico City, Mexico 503 sq. ft. Leased October 1997 Office
Etobicoke, Ontario, Canada 1,632 sq. ft. Leased December 1997 Office
Neutral Bay, NSW Australia 990 sq. ft. Leased April 1999 Office
Amsterdam, Netherlands 1,938 sq. ft. Leased April 2000 Office
Windsor, England 1,800 sq. ft. Leased March 2001 Office
Paris, France 2,153 sq. ft. Leased September 1998 Office
Munich, Germany 269 sq. ft. Leased September 1997 Office
Aggregate monthly rental payments for the Company's facilities are approximately
$58,000. The Company's current facilities are generally adequate for anticipated
needs over the next 12 to 24 months.
Item 3. Legal Proceedings
- -------------------------
The Company is a party to a number of legal proceedings arising in the ordinary
course of its business. The Company believes that the ultimate resolution of
these claims will not have a material adverse effect on its financial position
or results of operations.
Item 4. Submission of Matters to a Vote of Security Holders
- -----------------------------------------------------------
Not applicable.
Executive Officers of the Registrant
The following table sets forth information concerning the executive officers of
the Company as of June 30, 1997 except as noted:
Name Age Position
William C. Keiper 46 Chairman of the Board and Chief Executive Officer
T. Paul Thomas 37 President and Chief Operating Officer
Gary R. Acord 44 Vice President and Chief Financial Officer
Ernest E. East 54 Vice President, General Counsel and Corporate Secretary
Kirk D. Mayes 29 Controller and Principal Accounting Officer
Rick L. McGee 39 Vice President, Sales and Marketing
L. Ned Shipp 42 Vice President, Engineering and Product Management
Olivier Zitoun 29 Senior Vice President and General Manager of the Networking Product Group
Mr. Keiper joined the Company in January 1993 as President and Chief Operating
Officer. In June 1993, he became Chief Executive Officer and was appointed
Chairman of the Board in October 1995. From 1986 through January 1993, Mr.
Keiper held various positions at MicroAge,
9
Inc., and was serving as President and Chief Operating Officer until he joined
the Company. MicroAge, Inc. is a company that distributes, markets and supports
personal computer hardware and software.
Mr. Acord joined Artisoft in April 1996 as Vice President and Chief Financial
Officer. Prior to joining Artisoft, Mr. Acord was Senior Vice President of
Finance and Chief Financial Officer of Elsinore Corporation, a publicly-traded
gaming company in Las Vegas, Nevada from April 1995 to April 1996. Elsinore
Corporation filed a petition for reorganization under Chapter 11 of the federal
bankruptcy code in October, 1995. Prior to his employment with Elsinore, he was
with KPMG Peat Marwick LLP from 1979 through 1995, with his last position being
Managing Partner of the Las Vegas office and Director of the firm's national
gaming practice.
Mr. East joined Artisoft in January 1996 as Vice President, General Counsel, and
Corporate Secretary. Prior to joining Artisoft, Mr. East was Vice President and
General Counsel of Elsinore Corporation in Las Vegas, Nevada from October 1994
to January 1996. Elsinore Corporation filed a petition for reorganization under
Chapter 11 of the federal bankruptcy code in October, 1995. He was Senior Vice
President and General Counsel for Trump Hotels and Casino Resorts, New York
City, from June 1991 to September 1994 and also served as an officer of Trump
Castle, Trump Taj Mahal and Trump Plaza Casinos, Atlantic City, New Jersey at
the time of their reorganizations under the federal bankruptcy laws in 1991 and
1992. Mr. East was Vice President, Secretary and General Counsel for Del Webb
Corporation, Phoenix, Arizona from January 1984 to June 1991.
Mr. Mayes joined Artisoft in November 1994. In June 1997, Mr. Mayes was named
Corporate Controller, and the Company's Principal Accounting Officer and in
August 1997 was named Acting Principal Financial Officer. Mr. Mayes joined
Artisoft from Arthur Andersen LLP.
Mr. McGee joined Artisoft in November 1995 as Director of North American Sales
which was the result of Artisoft's acquisition of Synergy Solutions. In June
1997, he became Vice President of Sales and Marketing. Mr. McGee was the founder
and President of Synergy Solutions, the developer of ModemAssist PLUS. Prior to
founding Synergy, Mr. McGee successfully built channel sales and marketing
organizations for Fresh FTechnology Company, Clyde Digital Systems, and WICAT
systems International.
Mr. Shipp joined Artisoft in January 1989. Mr. Shipp joined Artisoft from Hughes
Aircraft where he served in both engineering and management capacities. Mr.
Shipp has been one of the key development team builders during his eight year
tenure at Artisoft, Inc. Mr. Shipp has a Masters of Science in Computer Science
and a Bachelors of Science in Systems and Industrial Engineering. Mr. Shipp is
the Vice President of Engineering and Product Management and is currently acting
as the manager of the Information Systems and Technology Department.
Mr. Thomas joined Artisoft in June 1997 as President of the Communication
Software Group and was later named President and Chief Operating Officer of the
Company. Thomas joined Artisoft from Sunquest Information Systems where he was
Senior Vice President of Marketing. Earlier in his career, Thomas held the
position of Vice President of Marketing for Artisoft, as well as other senior
level positions with Apple Computer, Compaq Computer and MicroAge, Inc.
Mr. Zitoun is a native of France who joined Artisoft in December 1991 and was
responsible for establishing the Artisoft France office. Later he was named
Director of Sales for France, Spain, Italy, Belgium, Luxembourg and the
Netherlands. In February 1995, Mr. Zitoun became Vice President of Sales and
Marketing for Europe. In March 1996, Mr. Zitoun became Senior Vice President and
General Manager of Artisoft's Networking Product Group. Prior to Artisoft, from
March 1987 to November 1991, he was the European Marketing Director for Kortex,
one of Europe's leaders in the communication and modem industry.
NOTE: Messrs. Acord and Zitoun are no longer with the Company as of the filing
of this document. Mr. McGee was promoted to Vice President, Sales and Marketing,
subsequent to June 30, 1997. Mr. Keiper resigned as Chairman on September 12,
1997, and will no longer be employed by the Company as Chief Executive Officer
effective September 30, 1997.
10
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
- ------------------------------------------------------------------------------
The principal market for Artisoft common stock is The Nasdaq Stock Market.
Market information and related shareholder matters are contained in "Securities
Information" on the inside back cover of the Artisoft, Inc. 1997 Annual Report
to Shareholders, and are incorporated herein by reference. On June 30, 1997, the
Company's Common Stock was held by approximately 400 shareholders of record.
The Company currently intends to retain future earnings to fund the development
and growth of its business and, therefore, does not anticipate paying any cash
dividends in the foreseeable future.
Item 6. Selected Financial Data.
- --------------------------------
Artisoft, Inc. and Subsidiaries
Selected Consolidated Financial Data
(in thousands, except per share amounts)
Years Ended June 30,
1997 1996 1995 1994 1993
Statements of Operations Data
Net sales $ 33,409 $ 60,972 $ 84,243 $107,430 $ 84,642
Operating income (loss) (29,124) (24,838) (9,832) 18,983 12,709
Net income (loss) (28,425) (18,328) (5,848) 13,613 9,410
Net income (loss) per common
and equivalent share $ (1.95) $ (1.27) $ (.41) $ .89 $ .52
Shares used in per share calculation 14,555 14,463 14,315 15,377 17,970
As of June 30,
1997 1996 1995 1994 1993
Balance Sheet Data
Working Capital $ 17,747 $ 37,917 $ 56,324 $ 52,462 $ 48,675
Total Assets 35,371 57,712 77,807 97,464 92,615
Long-term obligations, net of
current portion 714 96 -- 3,950 --
Shareholders' equity 22,604 50,981 68,245 72,847 82,915
Item 7. Management's Discussion and Analysis of Financial Condition and Results
- --------------------------------------------------------------------------------
of Operations.
- --------------
Overview
During fiscal 1997 the Company's product lines experienced rapidly increasing
competitive pressures from major software manufacturers. These marketplace
conditions contributed to a substantial decline in sales of the Company's
flagship LANtastic NOS product line. Revenues from the Company's Remote Control
and Computer Telephony product lines partially offset some of these declines. In
response to the lowered demand for its products the Company implemented
substantial restructuring actions designed to bring the Company's cost structure
to a level commensurate with the level and mix of operating revenues. The
restructuring actions included the closure of seven of its international
offices, and attendant headcount reductions at these offices but principally at
its Tucson, Arizona headquarters. These actions were taken in order to move the
Company toward improved operating results.
11
New Products
Communication Software Group
In the second quarter of fiscal 1997, the Company launched i.Share 2.0, an
Internet access-sharing software product for networked PC's that enables
multiple users to share a single Internet connection simultaneously. In the
fourth quarter of fiscal 1997, Artisoft released version 2.5 of the Internet
access-sharing software. i.Share is targeted at Microsoft, Novell and Artisoft
network customers.
In the second quarter of fiscal 1997, the Company released XtraMail for Windows
NT and Windows 95. XtraMail is an e-mail server software product that runs on
Microsoft NT or Windows 95 servers and enables businesses to send or receive
interoffice e-mail via their local area networks at the same time they
transparently pass e-mail to and from the Internet. XtraMail runs on any TCP/IP
network, including Microsoft, Novell and Artisoft LANtastic.
Artisoft's Communication Software Group product offering also includes LANtastic
7.0, the Company's flagship small business networking product. LANtastic 7.0 is
the first Internet-ready networking solution for small and growing businesses,
and supports the three most popular PC operating systems - Windows 95, Windows
and DOS. It also allows multiple-user access to a single Internet connection,
modem and telephone line sharing and capabilities to enable a small business to
inexpensively build a wide area network (WAN).
Computer Telephony Product Group
The Company's computer telephony products include Visual Voice Pro 3.0 and
Visual Voice for TAPI 2.0. In August 1997, Artisoft released Visual Voice Pro
4.0, which allows users to create a wide variety of 32-bit computer-based
telephony solutions for Windows NT and Windows 95 platforms, including voice
mail, audio text, outbound calling, interactive voice response, fax-on-demand,
and international callback. Visual Voice Pro adds telephony and voice
capabilities to any development environment that supports ActiveX controls,
including Visual Basic, Visual C++, Delphi and Visual Fox Pro.
In the second quarter of 1997, the Company launched InfoFast 1.0, a
fax-on-demand/audio text software solution jointly promoted with Dialogic
Corporation. InfoFast 1.0 provides 24-hour automated access to fax documents,
Web documents and voice recordings via fax or phone.
In August 1997, Artisoft launched InfoFast 2.0 for Windows NT and Windows 95.
InfoFast 2.0 offers the same features as InfoFast 1.0 but is compatible with
both Windows NT and Windows 95.
Remote Control Product Group
CoSession Remote 32 is a remote control software application that enables users
running a Windows 95 or a Windows NT 4.0 PC to connect and control remote PCs
running Windows NT 4.0 or Windows 95. First shipped in March 1997 on select IBM
PC models, CoSession Remote 32 supports connections over analog modems, IPX/SPX,
NetBIOS, NetBEUI and TCP/IP. CoSession Remote 32 also supports TAPI 2.0 and
connections over IRDA and parallel ports.
CoSession Remote 32 uses shell extensions to enable ease of use in setting up
and accessing remote PCs. Once connected, the users can do one or more of the
following:
o Remote control
o File transfer with differential update, synchronization and cloning
capabilities
o Keyboard chat with remote users
o Simultaneous voice conversations using standard analog modems or
network/Internet connections (with a sound card, speakers and microphone on
the two PCs)
CoSession Remote version 7.0, first shipped in March of 1996, is for users of
Windows 95 and Windows 3.1x systems. It is a 16-bit application that provides
most of the functionality of the CoSession Remote 32 product except it does not
support IRDA or parallel port connections, nor does it provide simultaneous
voice conversations without the use of specialized DSVD modems.
CoSession PC2X provides UNIX to PC remote control capabilities. From a UNIX
workstation, users can access and control PCs running Windows NT 4.0, Windows
95, Windows 3.1x and DOS. This product is primarily targeted toward corporate IS
departments running enterprise and mission critical network management
applications in the overall corporate computing environment.
In the fourth quarter of fiscal 1997, the Company launched ConfigSafe Support
Edition, a configuration tracking and recovery utility that is licensed from
imagine LAN, Inc. ConfigSafe, which supports Windows 3.1x, Windows 95 and
Windows NT enables users to recover from PC
12
crashes with one-step system restoration and tracking features. ConfigSafe
restores systems to previously working configurations by monitoring changes to
critical files, directories and the registry.
Net Sales
The Company's net sales decreased 45% to $33.4 million for the fiscal year ended
June 30, 1997 from $61.0 million for fiscal 1996. The overall decrease in net
sales was primarily due to an approximate 60% decline in sales of the Company's
LANtastic network operating system (NOS) products during fiscal 1997. Management
believes that the principal reason for the decline was the impact of Microsoft's
Windows 95 and Windows NT personal computer (PC) operating systems (OS) on the
small business networking market. More specifically, Windows 95, which is
pre-loaded on substantially all Pentium processor-based PC's currently sold
worldwide, includes peer-to-peer networking capabilities (printer, file and
applications sharing). The impact of Windows 95 on the Company's business has
been compounded by the dominance and visibility of Microsoft in the PC
marketplace and the rapid upgrade by small businesses to Pentium PC's. In August
1996, Microsoft released Windows NT 4.0, a client-server network version of the
Windows OS. Management believes that Windows NT 4.0, which like Windows 95,
includes peer-to-peer networking capabilities in the workstation version, and is
preloaded on certain Pentium PC's, has provided additional significant direct
competition to the LANtastic NOS both as a peer-to-peer and client-server
networking solution. Overall, sales of LANtastic software only licenses and kits
have decreased approximately 56%, and hardware (networking interface cards and
other components), 61%. The year-over-year declines were across all worldwide
direct and indirect channels of distribution. For the fiscal years ended June
30, 1997 and 1996, net sales of LANtastic NOS products comprised approximately
60% and 83%, respectively, of consolidated net sales.
The decline in sales of LANtastic NOS products, was partially offset by
increases in sales of the Company's computer telephony and PC communication
products. Included in the computer telephony category are the Visual Voice and
Visual Fax computer telephony toolkit products, Infofast, an
information-on-demand solution, and computer telephony hardware. After
consideration of the fact that the Company has recognized sales of the toolkit
products and associated hardware since the acquisition of Stylus Innovation,
Incorporated ("Stylus") on February 13, 1996, and, accordingly, for only a
portion of fiscal 1996, sales of these products in fiscal 1997 are flat with the
prior fiscal year. Infofast, which was released in November 1996, has not made a
material contribution to the Company's consolidated net sales. For the fiscal
years ended June 30, 1997 and 1996, net sales of computer telephony products
comprised approximately 15% and 3%, respectively, of consolidated net sales.
Included in the PC communication product category are ModemShare, a modem and
telephone line sharing product, CoSession Remote, a remote control product,
i.Share, an Internet connection sharing product, XtraMail, an Internet e-mail
product and ConfigSafe, a system reconfiguration solution. ModemShare and
CoSession Remote have been sold by the Company since the respective acquisitions
of Synergy Solutions, Inc. ("Synergy") on November 22, 1995, and Triton
Technologies, Inc. ("Triton") on December 21, 1995. Accordingly, these products
were only sold for a portion of fiscal 1996. While, these products have
continued to sell at preacquisition levels or better in the direct sales
channels (PC manufacturer OEM for CoSession Remote), they have performed below
management's expectations in distribution and retail. i.Share and XtraMail were
launched in December 1996. While not yet a significant contributor to
consolidated net sales for the second half of fiscal 1997, i.Share experienced
sequential growth in each of the two quarters following the launch. During
fiscal 1997 XtraMail did not make a material contribution to consolidated net
sales. For the fiscal years ended June 30, 1997 and 1996, net sales of PC
communications products comprised approximately 20% and 11%, respectively, of
consolidated net sales.
The Company's net sales decreased 28% to $61.0 million for the fiscal year ended
June 30, 1996 from $84.2 million for fiscal 1995. The overall decrease in net
sales was primarily due to the sale of substantially all of the assets of Eagle
Technology and the consequent cessation of sales by the Company of Eagle
Technology hardware products as of January 30, 1995. Worldwide net sales for the
Eagle Technology business unit were approximately $24.4 million for the fiscal
year ended June 30, 1995. Net sales for fiscal 1996 include sales attributable
to the Company's acquisition of three software companies from the dates of their
acquisitions. Net sales also reflect the Company's strategic decision to move to
a software-centric financial model and a sales mix shift toward the
software-only version of the Company's LANtastic network operating system (NOS).
The shift to the software-only version of LANtastic was principally the result
of increased price sensitivity in the Ethernet adapter market and a related
willingness of local area network (LAN) resellers to select low-priced Ethernet
adapters instead of the Company's Ethernet adapters that were sold in
stand-alone versions or as part of starter and add-on kits. In the fourth
quarter of fiscal 1996, the Company introduced LANtastic version 7.0. In
connection with the transition to this newest version of the LANtastic NOS, the
Company reduced worldwide channel inventories of previous versions of the
product, as well as LANtastic Power Suite, and increased the allowances for
returns and rotations. In the fourth quarter of fiscal 1995, the Company
introduced LANtastic Power Suite. Sales for this product did not reach the
levels anticipated by the Company when the product was introduced. Upon the
release of LANtastic v7.0, the Company elected to de-emphasize Power Suite. As a
consequence of the foregoing, the Company experienced higher than expected
returns and rotations during fiscal 1996, which also contributed to the overall
decrease in net sales.
The Company distributes its products internationally, and tracks sales by major
geographic area. Non-U.S. sales represented 27%, 30% and 38% of net sales for
fiscal 1997, 1996 and 1995, respectively. International sales decreased 51% to
$8.9 million in fiscal 1997 from $18.3 million in fiscal 1996. The reasons for
the decline are the same as those discussed above. International sales decreased
43% to $18.3 million in fiscal 1996 from $32.2 million in fiscal 1995. The
decrease is principally the result of the cessation of sales of Eagle Technology
hardware products as of January 30, 1995 and other factors described above.
13
Gross Profit
The Company's gross profit was $21.1 million, $41.1 million and $41.4 million in
fiscal 1997, 1996 and 1995, respectively, or 63%, 67% and 49% of net sales,
respectively. The decrease in gross profit percentage for fiscal 1997 was due to
the fixed elements of cost of sales being spread over a much reduced level of
net sales. The increase in gross profit for fiscal 1996 was primarily the result
of an increased percentage of higher margin software sales, a reduced percentage
of network starter and add-on kits (which include hardware), and the cessation
of sales of Eagle Technology hardware products. Gross profit may fluctuate on a
quarterly basis because of product mix, pricing actions and changes in sales and
inventory allowances.
Sales and Marketing
Sales and marketing expenses were $23.4 million, $26.2 million and $33.0 million
for fiscal 1997, 1996 and 1995, respectively, representing 70%, 43% and 39% of
net sales. The increase in sales and marketing expenses as a percentage of net
sales for fiscal 1997 is principally due to the overall decrease in net sales
driven by an approximate 60% decline in sales of the Company's LANtastic network
operating system (NOS) products during fiscal 1997. The decrease in aggregate
dollars for sales and marketing expenses for fiscal 1997 reflects expense
reductions including a decrease in the Company's staffing levels. This decrease
was implemented to bring sales and marketing costs more closely into alignment
with the reduced sales level from fiscal 1996 to fiscal 1997. The increase in
sales and marketing expenses as a percentage of net sales in fiscal 1996 is due
primarily to the cost of promoting the Company's new and existing products. The
decrease in aggregate dollars for sales and marketing expenses for fiscal 1996
reflects expense reductions including a decrease in the Company's staffing
levels. This decrease was implemented to bring costs more closely into alignment
with the reduced sales level from fiscal 1995 to fiscal 1996.
Product Development
Product development expenses were $9.3 million, $7.1 million and $7.7 million
for fiscal 1997, 1996 and 1995, respectively, representing 28%, 12% and 9% of
net sales. The increase in both the aggregate dollars for fiscal 1997 and the
increase in product development expenses as a percentage of net sales for fiscal
1997, is principally attributable to the addition of product development
resources in the Company's Computer Telephony and Remote Control Groups. The
addition of new development personnel to these product groups is required to
meet planned future product introduction timetables. The Company believes the
introduction of new products to the market in a timely manner is critical to its
future success. The increase in product development expenses as a percentage of
net sales for fiscal 1996 and 1995 is principally attributable to the addition
of product development expenses associated with the companies acquired during
fiscal 1996 and the addition of research and development personnel to meet
planned future product introduction timetables. The decrease in aggregate
dollars for fiscal 1996 reflects expense reductions across the board to bring
Company costs more closely into alignment with the reduced level of sales.
General and Administrative
General and administrative expenses were $6.3 million, $6.0 million and $7.5
million for fiscal 1997, 1996 and 1995 respectively, representing 19%, 10% and
9% of net sales. The net increase in fiscal 1997 principally results from the
full year's impact in fiscal 1997 of the acquisitions of the three businesses in
fiscal 1996, and the subsequent expansion of the Company's computer telephony
operations in Cambridge, Massachusetts (higher number of employees and larger
facility). Another factor contributing to the net increase is an increase in the
Company's allowance for doubtful accounts receivable. Bad debt expenses included
in general and administrative expenses were $.5 million, $0 and $0 in fiscal
1997, 1996 and 1995, respectively. The aforementioned increase was substantially
offset by a significant decrease in general and administrative expenses incurred
at the Company's Tucson, Arizona headquarters. Significant reductions were
realized in payroll and related costs as a consequence of involuntary employee
terminations and other actions taken as part of restructuring actions effected
in the September 1996 and March 1997 quarters and other cost-cutting programs to
bring operating expenses more in line with the declining sales levels. The
increase in general and administrative expenses as a percentage of net sales is
principally attributable to the overall decrease in net sales as a result of an
approximate 60% decline in sales of the Company's LANtastic network operating
system (NOS) products during fiscal 1997. The decrease in general and
administrative expenses for fiscal 1996 reflects expense reductions to bring
Company costs more closely into alignment with the reduced sales levels. These
expense reductions included a decrease in the Company's staffing levels in the
general and administrative area.
Costs to Exit Hardware Business
The January 1995 sale of Eagle Technology for approximately $16.0 million
resulted in a gain of $5.7 million before costs associated with the decision to
cease hardware development and manufacturing activities, and wind down that
business. These exit costs included severance, facility closings, inventory
dispositions and other related items, and are included in "Costs to exit
hardware development and manufacturing business, net of gain on disposition" in
the Consolidated Statement of Operations for the fiscal year ended June 30,
1995. Also, as part of the Company's decision to exit the hardware business, the
Company adjusted operating expenses to conform to the new business model. During
the last half of fiscal 1995, the Company reduced staffing levels by over 280
employees, a 48% reduction. In addition, the Company disposed of its
manufacturing operations to a contract manufacturer and began outsourcing the
production of its hardware products on June 30, 1995.
Purchased In-Process Technology and Related Costs
14
In conjunction with the acquisition of Synergy, Triton and Stylus, the Company
recorded a charge to operations during the second and third quarters of fiscal
1996 totaling $21.7 million. The charge related to purchased in-process
technology that had not reached technological feasibility and had indeterminable
alternative future use. In addition, as a result of the acquisitions, the
Company recorded a charge to operations for other related costs totaling $5
million. The other related costs were principally attributable to costs
associated with the integration of Triton, Synergy and Stylus technology with
the Company's technology and the elimination of duplicate distribution
arrangements in Europe. Other related costs also included increases in
allowances for returns, rotations and inventory obsolescence associated with the
transition to new technology, costs for severance and outplacement, and facility
costs relating to the cancellation of leases in order to consolidate technical
support and distribution. Although the Company expects the elimination of
duplicative expenses, as well as other efficiencies related to the integration
of the businesses acquired, there can be no assurance that such benefit will be
achieved in the near term, or at all.
Restructuring Costs
Restructuring costs in the accompanying consolidated statement of operations for
the fiscal year ended June 30, 1997 include the costs of: involuntary employee
termination benefits, international sales and support office closures and
related costs associated with the restructuring actions effected during that
fiscal year. Employee termination benefits include severance, wage continuation,
notice pay and medical and other benefits. International sales and support
office closures and related costs include costs of premise and other lease
terminations, losses on disposal of furniture and equipment, legal and other
professional fees, and an increase in the allowance for bad debts resulting from
the decision to reduce the number of international distributors, particularly in
Europe. Other costs associated with the restructuring actions include an
impairment loss on the expected disposition of excess computers and other
equipment resulting from the significant reduction in workforce at the Company's
corporate headquarters in Tucson, Arizona and lease termination costs for
certain Tucson, Arizona facilities.
The restructuring actions were the result of substantially declining sales,
principally LANtastic NOS products, and the attendant necessity to reduce the
Company's cost structure to a level commensurate with the level and mix of
operating revenues. The restructuring actions taken during the fiscal year ended
June 30, 1997 included a reduction in workforce affecting approximately 160
employees at the Company's corporate headquarters location in Tucson, Arizona,
the sale of the Company's Tucson headquarters land and building in connection
with the planned relocation to a smaller facility and the closure of all
international sales and support offices with the exception of the United Kingdom
and Japan.
Accrued restructuring costs in the accompanying June 30, 1997 consolidated
balance sheet are principally comprised of accrued employee termination benefits
of approximately $4.2 million and expected costs to be incurred in connection
with the closure of the international sales and support offices.
Other Income (Expense)
For fiscal 1997, other income (expense), net, decreased to $.7 million from $1.5
million in fiscal 1996. This decrease resulted principally from lower investment
income resulting from the reduction in cash and investment balances due to the
acquisition of Synergy, Triton and Stylus for approximately $26.4 million in
1996. The Company also incurred increased interest expense in fiscal year 1997
due primarily to a $1.4 million sale-leaseback of computer equipment and related
software in December 1996. Additionally, the Company entered into a $2.2 million
mortgage loan transaction in February 1997.
For fiscal 1996, other income (expense), net, increased to $1.5 million from
$(3,000) in fiscal 1995. This increase resulted primarily from investing cash
balances in higher-yielding taxable securities, the inclusion of the net gains
from the sale of property and equipment and the elimination of interest expense
that was accrued under a note payable relating to the purchase of Eagle
Technology that partially offset interest income in fiscal 1995.
Income Tax Benefit
The effective tax rates were 0%, (21)%, and (41)% for fiscal 1997, 1996 and
1995, respectively. For the fiscal year ended June 30, 1997, an immaterial
amount of income tax benefit was recognized as the Company established a
valuation allowance equal to the entire net deferred tax asset balance. In the
assessment of the recognition of a valuation allowance, the Company considered
recent operating losses experienced during the Company's transition from a
company with primarily a hardware orientation focused solely on small business
networking, to a PC software company with diversified technology and product
portfolios; the expected future impact of the restructuring actions effected
during the fiscal year; the uncertainty in estimating the magnitude and timing
of the revenue contribution from products expected to be released over the next
several quarters; and the expiration dates of state net operating loss
carryforwards. The 21% effective tax rate benefit for fiscal 1996 is the result
of the non-deductibility for federal income tax purposes of approximately $9.2
million of in-process technology written off for financial reporting purposes in
connection with the Triton acquisition, which was effected as a purchase of
stock. Other factors causing the effective tax rates to differ from the expected
tax expense (benefit) calculated using the U.S. federal corporate income tax
rate for those years are the inclusion of state and foreign income taxes
partially offset by tax benefits from the Company's FSC and tax-exempt interest
income. Income taxes receivable as of June 30, 1997 and 1996 are the result of
carrying back all or a portion of the Federal net operating losses incurred in
fiscal 1997 and 1996 for a refund of income taxes paid in prior years.
15
Liquidity and Capital Resources
The Company had cash and investments of $14.7 million at June 30, 1997, compared
to $15.3 million at June 30, 1996, and working capital of $17.7 million at June
30, 1997 and $37.9 million at June 30, 1996. The decrease in cash and cash
equivalents during fiscal 1997 of $.6 million was principally the result of net
cash used in the operations of the business of $2.4 million and capital
expenditures of $1.5 million offset substantially by the proceeds from two
financings closed during the year: First, was the mortgage of the Tucson,
Arizona headquarters building of $2.2 million, and second, a sale-leaseback
transaction of $1.4 million for computer equipment. The decrease in working
capital of $20.2 million was primarily the result of the following: decreases in
trade accounts receivable of $11.0 million, inventories of $1.8 million, current
deferred income taxes of $2.2 million and the accrual of restructuring costs of
$5.0 million. The decreases in trade accounts receivable and inventories are
principally the result of the substantial decline in net sales experienced
during the fiscal year. Trade accounts receivable was further impacted by
increases in the allowances for sales returns and bad debts in connection with
the Company's decision to reduce U.S. distribution channel inventories to
approximately six weeks on hand and to reduce international distribution channel
inventories to approximately ten weeks on hand, and by provisions for bad debts
recognized for certain international distributors in connection with the
significant decline in international sell-through and the closure of all
international sales and support offices, with the exception of the United
Kingdom and Japan. The decline in current deferred income taxes is the result of
the recognition of a valuation allowance for the entire balance of deferred tax
assets as of June 30, 1997 (see discussion above under caption, "Income Tax
Benefit"). Accrued restructuring costs of approximately $5.0 million are
comprised of unpaid involuntary termination benefits and other expected but
unpaid costs in connection with the restructuring actions (see discussion above
under the caption, "Restructuring Costs"). These costs will largely, if not
completely, be paid during the first two quarters of fiscal year 1998.
Management anticipates that the amount of cash yet to be paid in connection with
the restructuring actions will be offset by the estimated net proceeds from the
expected sale of the Tucson headquarters land and building of approximately $1.5
million (see discussion above under the caption, "Restructuring Costs") and the
refund of prior years' Federal income taxes resulting from the carryback of a
portion of fiscal 1997's net operating loss of approximately $4.3 million.
Management believes that the future reduction in operating expenses resulting
from the restructuring actions will bring those expenses in line with the level
and mix of expected future operating revenues.
The Company had cash and investments of $15.3 million at June 30, 1996, compared
to $37.8 million at June 30, 1995, and working capital of $37.9 million at June
30, 1996 and $56.3 million at June 30, 1995. The decrease in cash and
investments was primarily a result of the acquisition of Synergy, Triton and
Stylus but was partially offset by the proceeds from the sale of certain assets
and the receipt of a federal income tax refund.
The Company funds its working capital requirements primarily through cash flows
from operations and existing cash balances. While the Company anticipates that
existing cash balances and cash flows from operations will be adequate to meet
the Company's current expected cash requirements for at least the next year,
additional investments by the Company to acquire new technologies and products
may necessitate that the Company seek additional debt or equity capital. There
can be no assurance that the Company could successfully acquire additional debt
or equity capital in the future.
Risk Factors
Competition.
The PC industry is highly competitive and is characterized by rapidly changing
technology and evolving industry standards. The Company's products compete with
products available from numerous companies, many of which have substantially
greater financial, technological, production, sales and marketing and other
resources, as well as greater name recognition and larger customer bases, than
the Company. As a result, these competitors may be able to respond more quickly
and effectively to new or emerging technologies and changes in customer
requirements or to devote greater resources to the development, promotion, sales
and support of their products than the Company. Competition in the PC industry
is likely to intensify as current competitors expand their product lines, more
features are included in operating systems (e.g., Windows 95), motherboards and
microprocessors, and as new companies enter the markets or segments in which the
Company currently competes. The industry is also characterized by a high degree
of consolidation which favors companies with greater resources than those of the
Company. Consequently, the Company expects to continue to experience increased
competition, which could result in significant price reductions, loss of market
share and lack of acceptance of new products, any of which could have a material
adverse effect on the Company's business, financial condition and results of
operations. There can be no assurance that the Company's products will be able
to compete successfully with other products offered presently or in the future
by other vendors.
Networking.
The Company's major competitors in the small business networking market are
Microsoft Corporation (Microsoft) and Novell, Inc. (Novell). Both of these
companies have substantially greater financial, technological, production and
sales and marketing resources than those of the Company. Management believes
that the inclusion of networking capabilities (printer, file and application
sharing) in Microsoft's Windows 95 operating system (released in August 1995)
has had a detrimental impact on sales of the Company's LANtastic NOS products.
Windows 95 is pre-loaded on virtually all Pentium processor-based personal
computers currently sold worldwide. The impact of Windows 95 has been compounded
by the dominance and visibility of Microsoft in the personal computer software
market and the more rapid than expected upgrade
16
by small businesses to Pentium PC's. In August 1996, Microsoft released Windows
NT 4.0, a client server network version of the Windows operating system.
Management believes that the workstation version of Windows NT 4.0 which, like
Windows 95, includes peer-to-peer networking capabilities and is pre-loaded on
certain Pentium PC's, has provided significant direct competition to the
LANtastic NOS in the small business networking market. Further, business
applications software vendors appear to be rapidly adapting their products to
Windows NT. Management believes that this trend, combined with the fact that
DOS, Windows 3.x and Windows 95 clients are compatible with the NT server, has
provided and will continue to provide substantial competitive pressure on sales
of LANtastic NOS products. Recently, Microsoft released a small business server
that runs on Microsoft NT 4.0. This client server network version of the Windows
operating system is designed to meet the buying requirements of small businesses
and could further substantially reduce opportunities for LANtastic technologies
to add value for small business customers. This small business solution could
further diminish demand for LANtastic. The Company expects Microsoft to launch
the Windows 98 operating system as early as March 1998. Windows 98 may have
additional networking features that further undermine the future sales of the
Company's LANtastic NOS products. In addition, press reports suggest that
Microsoft will be releasing Windows NT 5.0 in the next 12 to 18 months.
Management believes that the features and functionality included in the Windows
NT 5.0 client server network version of the Windows operating system, could
detrimentally impact the future sales of LANtastic NOS, i.Share and ModemShare
product lines.
In February 1997, Novell released a new version of its IntranetWare NOS, aimed
at the small business market. The product, IntranetWare for Small Business, is
targeted toward businesses with 25 or fewer users and priced lower than previous
NetWare versions. There can be no assurance that the introduction of
IntranetWare for Small Business, along with other new products from Novell, may
not adversely affect the Company's competitive positioning and its financial
results.
Finally, the movement of the networking industry toward the uniform use of
Internet technologies in the construction of local area networks (so called
Intranets) constitutes a risk that demand for more proprietary networks such as
LANtastic, will decline further, and that competition will emerge from a new
class of players, such as Netscape Communications, Sun Microsystems, and others.
Due to the negative impact of competition on sales of the LANtastic NOS product
line to date, and the likely further decline in the future, the Company is
evaluating the strategic alternatives which might be available to optimize the
asset value attendant to such product line.
PC Communications.
The principal distribution channel for the Company's remote control product,
CoSession Remote, is through OEM arrangements with PC manufacturers. The Company
is developing, but has not yet released in the U.S., a 32-bit version of the
product to support the Windows 95 and Windows NT operating systems. As the
Company's major competitors currently offer 32-bit remote control products, it
is critical, for the continuance of the Company's current OEM relationships,
that the Company successfully complete development of the 32-bit product in a
timely manner and in accordance with any agreed-upon delivery schedules. The
loss of one or more of these OEM relationships could have a significant impact
on the Company's net sales and operating results. Microsoft, because of its
dominant position in the PC operating systems and business applications markets,
frequently offers value-added functionality to its products in the form of
enhancements to its Windows operating systems, which are pre-loaded on new PC's,
or by offering free products for download from its World Wide Web site.
Microsoft has announced its intention to release a version of Windows NT Server
with modem sharing capabilities. The inclusion of modem sharing capabilities in
Windows NT could result in substantially increased competition for the Company's
ModemShare product which could have a significant impact on the Company's sales
and operating results (see caption above entitled, "Networking" for further
discussion of Windows NT). Microsoft has also announced its intention to include
remote control components in future versions of Windows operating systems, and
currently distributes Net Meeting at no charge from its Web site. These actions
could lead to diminished demand for the Company's CoSession remote control
product, and consequently decreased net sales and operating results.
Computer Telephony.
The market for open, standards-based telephony tools, applications and
system-level products is relatively new, and rapidly evolving. There can be no
assurances that these markets will continue to expand, or if they do, that the
Company's products will receive widespread acceptance. Further, the market for
the Company's computer telephony products is characterized by the rapid
evolution of telephony hardware and software standards, by changing customer
requirements, and is highly competitive with respect to timely product
introduction. These characteristics may render the Company's computer telephony
products obsolete or unmarketable. The Company is currently investing
significant resources in the development of computer telephony products. Due to
the complexity of these tools and system level products, and the difficulty in
gauging the engineering effort required to develop and bring these products to
market, the Company's computer telephony product line is subject to significant
risk. Software products as complex as those currently under development by the
Company are subject to frequent and unpredictable delays during development.
There can be no assurance that the Company will not encounter difficulties that
could delay or prevent the successful and timely development, introduction and
marketing of these products. Furthermore, the successful development of the
Company's computer telephony products is dependent to a significant extent upon
a number of key technical employees and technical contractors, the loss of one
or more of whom could have a material adverse effect upon the Company's
development schedule. The future success of the Company's computer telephony
products will depend in large part on its ability to attract and retain talented
and qualified technical personnel.
Other Competitive Factors. The Company believes that the principal competitive
factors affecting the markets it serves include vendor and product reputation,
product architecture, functionality and features, scalability, ease of use,
quality of product and support, performance, price,
17
brand name recognition and effectiveness of sales and marketing efforts. There
can be no assurances that the Company can maintain and grow its market position
against current and potential competitors, especially those with significantly
greater financial, marketing, service, support, technical and other competitive
resources. Additionally, an integral part of the Company's sales strategy for
the computer telephony products is the expansion into new distribution channels,
including the recruitment of new value-added resellers and interconnects. Any
failure by the Company to expand its distribution channel for telephony products
or any failure to maintain and grow its competitive position would have a
material adverse effect upon the Company's revenues and anticipated contribution
from its telephony product line.
Customers. The Company relies on a network of distributors and value added
resellers (VARs) for a significant portion of both its domestic and
international networking and PC communication product revenues. In addition, a
majority of the sales of CoSession Remote, the Company's remote control product,
are to PC OEM's. Generally, there are no minimum purchase requirements for the
Company's distributors, VARs and OEMs, and many of the Company's distributors
and VARs sell competitive products. There can be no assurance that these
customers will give priority to the marketing of the Company's products as
compared to competing products or alternative solutions or that such customers
will continue to offer the Company's products. Further, in light of the
significant decline in sales experienced over the last several quarters, there
can be no assurance that the Company's major domestic and international
distributors will continue to purchase the Company's products at the same levels
(relative to rates of resale) or under the same terms and conditions as in the
past. In the event of the termination of the Company's relationship with one or
more major distributors, the Company would have to find suitable alternative
channels of distribution. The absence of such alternatives could have a material
adverse effect on the Company's business, financial condition and results of
operations. Certain of the Company's PC OEM relationships require the scheduled
delivery of product revisions and new products. The failure to adhere to
agreed-upon product delivery schedules could result in the termination of key
relationships with major PC manufacturers, which could have a significant
adverse impact on current and future revenues in the PC OEM channel.
The Company is exposed to the risk of product returns and rotations from its
distributors and other volume purchasers, which are estimated and recorded by
the Company as a reduction in sales. Although the Company attempts to monitor
and manage the volume of its sales to distributors and other volume purchasers,
overstocking by these customers or changes in their inventory policies or
practices may require the Company to accept returns above historical levels. In
addition, the risk of product returns and rotations may increase if the demand
for existing products or new products introduced by the Company proves to be
lower than anticipated. Although the Company believes that it provides adequate
allowances for product returns and rotations, there can be no assurance that
actual product returns and rotations will not exceed the Company's allowances.
Any product returns and rotations in excess of recorded allowances could result
in a material adverse effect on net sales and operating results. As the Company
introduces more new products, the predictability and timing of sales to end
users and the management of returns to the Company of unsold products by
distributors and volume purchasers becomes more complex and could result in
material fluctuations in quarterly sales and operating results.
The Company is also exposed to its distributors and other volume purchasers for
price protection for list price reductions by the Company on its products held
in such customers' inventories. The Company provides its distributors with price
protection in the event that the Company reduces the list price of its products.
Distributors and other volume purchasers are usually offered credit for the
impact of a list price reduction on the expected revenue from the Company's
products in the distributors' inventories at the time of the price reduction.
Although the Company believes that it has provided an adequate allowance for
price protection, there can be no assurance that the impact of actual list price
reductions by the Company will not exceed the Company's allowance. Any price
protection in excess of the recorded allowance could result in a material
adverse effect on sales and operating results.
Substantially all of the Company's revenue in each fiscal quarter results from
orders booked in that quarter. A significant percentage of the Company's
bookings and sales to distributors and other volume purchasers historically has
occurred during the last month of the quarter and are concentrated in the latter
half of that month. Orders placed by major customers are typically based upon
customers' recent historical and forecasted sales levels for Company products
and inventory levels of Company products desired to be maintained by those major
customers at the time of the orders. Moreover, orders may also be based upon
financial practices by major customers designed to increase the return on
investment or yield on the sales of the Company's products to VARs or end-users.
Major distribution customers receive market development funds from the Company
for purchasing Company products and from time to time may also receive
negotiated cash rebates or extended terms, in accordance with industry practice,
depending upon competitive conditions. Changes in purchasing patterns by one or
more of the Company's major customers, changes in customer policies pertaining
to desired inventory levels of Company products, negotiations of market
development funds and rebates, or otherwise, or in the Company's ability to
anticipate in advance the product mix of customer orders, or to ship large
quantities of products near the end of a quarter, could result in material
fluctuations in quarterly operating results. Expedited outsourcing of production
and component parts to meet unanticipated demand could also adversely affect
gross margins.
Product Concentration. The Company has in the past derived, and may in the
future derive, a significant portion of its revenues from a relatively small
number of products. Declines in the revenues from these software products,
whether as a result of competition, technological change, price pressures or
other factors, would have a material adverse effect on the Company's business,
results of operations and financial condition. Further, life cycles of the
Company's products are difficult to estimate due in part to the recent emergence
of certain of the Company's markets, the effect of new products or product
enhancements, technological changes in the communication software industry in
which the Company operates and future competition. The Company's future
financial performance will depend in part on the successful development,
introduction and market acceptance of new products and product enhancements.
There can be no assurance that the Company will continue to be successful in
marketing its current products or any new products or product enhancements.
18
Dependence on New Product Offerings. The Company's future success will depend,
in significant part, on its ability to successfully develop and introduce new
software products and improved versions of existing software products on a
timely basis and in a manner that will allow such products to achieve broad
customer acceptance. The Company expects to begin offering TeleVantage, a
computer telephony integration product, in the future. There can be no assurance
that this and other anticipated new products will be introduced on a timely
basis, if at all. If new products are delayed or do not achieve market
acceptance, the Company's business, results of operations and financial
condition will be materially adversely affected. In the past, the Company has
also experienced delays in purchases of its products by customers anticipating
the launch of new products by the Company. There can be no assurance that
material order deferrals in anticipation of new product introductions will not
occur. There can also be no assurance that the Company will be successful in
developing, introducing on a timely basis and marketing such software or that
any such software will be accepted in the market.
Technological Change. The communication software market for personal computers
is characterized by rapid technological change, changing customer needs,
frequent product introductions and evolving industry standards. The introduction
of products incorporating new technologies and the emergence of new industry
standards could render the Company's existing products obsolete and
unmarketable. The Company's future success will depend upon its ability to
develop and introduce new software products (including new releases and
enhancements) on a timely basis that keep pace with technological developments
and emerging industry standards and address the increasingly sophisticated needs
of its customers. There can be no assurance that the Company will be successful
in developing and marketing new products that respond to technological changes
or evolving industry standards, that the Company will not experience
difficulties that could delay or prevent the successful development,
introduction and marketing of these new products, or that its new products will
adequately meet the requirements of the marketplace and achieve market
acceptance. If the Company is unable, for technological or other reasons, to
develop and introduce new products in a timely manner in response to changing
market conditions or customer requirements, the Company's business, results of
operations and financial condition would be materially adversely affected.
Potential for Undetected Errors. Software products as complex as those offered
by the Company may contain undetected errors. There can be no assurance that,
despite testing by the Company and by current and potential customers, errors
will not be found in new or existing products after commencement of commercial
shipments, resulting in loss of or delay in market acceptance or the recall of
such products, which could have a material adverse effect upon the Company's
business, results of operations and financial condition. The Company provides
customer support for most of its products. The Company will in the future offer
new products. If these products are flawed, or are more difficult to use than
traditional Company products, customer support costs could rise and customer
satisfaction levels could fall. Duplication of Software. The Company duplicates
nearly all of its software at its Tucson, Arizona facility. The Company believes
that its internal duplication capability is economically advantageous because it
eliminates the profit margin required by outside duplication sources and enables
a high degree of scheduling and other control. This concentration of production
does, however, expose the Company to the risk that production could be disrupted
by natural disaster or other events, such as the presence of a virus in the
Company's duplicators. The Company believes that it could retain outside
duplication alternatives quickly, but there is no assurance that it could do so
or, if such arrangements could be made, that duplication could take place in an
economical or timely manner.
Pre-Load Software Market. The Company primarily sells its software in a form
that includes a disk or disks and a manual. Some of its customers "pre-load" the
Company's software onto a hard disk. These pre-load arrangements eliminate the
need for a disk and may eliminate the need for a manual. The pre-load
arrangements produce smaller unit revenues for the Company and eliminate the
Company's ability to generate revenues from its production facilities.
Currently, the Company has the capability to produce its products in-house on 3
1/2-inch diskettes. The Company does not currently have the capability to
produce CD-ROMs and the cost to develop such production capability may be
prohibitive. As the size of software programs grow, CD-ROM is becoming a more
prominent medium. The Company currently contracts CD-ROM production to
specialized CD-ROM facilities. In the event of a shift of this kind, more of the
Company's relationships would involve product pre-loads and CD-ROM production
and the Company's business, results of operations and financial condition could
be adversely affected.
Intellectual Property Rights. The Company's success is dependent upon its
software code base, its programming methodologies and other intellectual
properties. To protect its proprietary technology, the Company relies on a
combination of trade secret, nondisclosure and copyright and trademark law which
may afford only limited protection. The Company owns United States trademark
registrations for certain of its trademarks. There can be no assurance that the
steps taken by the Company will be adequate to deter misappropriation of its
proprietary information, will prevent the successful assertion of an adverse
claim to software utilized by the Company or that the Company will be able to
detect unauthorized use and take effective steps to enforce its intellectual
property rights. In selling its products, the Company relies primarily on
"shrink wrap" licenses that are not signed by licensees and, therefore, may be
unenforceable under the laws of certain jurisdictions. In addition, the laws of
some foreign countries do not protect the Company's proprietary rights to as
great an extent as do the laws of the United States. There can be no assurance
that the Company's means of protecting its proprietary rights will be adequate
or that the Company's competitors will not independently develop similar
technology. Further, although the Company believes that its services and
products do not infringe on the intellectual property rights of others, there
can be no assurance that such a claim will not be asserted against the Company
in the future. The failure of the Company to protect its proprietary information
could have a material adverse effect on the Company's business, results of
operations and financial condition.
From time to time, the Company has received and may in the future receive
communications from third parties asserting that the Company's trade name, or
that features, content, or trademarks of certain of the Company's products
infringe upon intellectual property rights held by such
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third parties. As the number of trademarks, patents, copyrights and other
intellectual property rights in the Company's industry increases, and as the
coverage of these patents and rights and the functionality of products in the
market further overlap, the Company believes that produc