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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 December 27, 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: 0-14016
MAXTOR CORPORATION
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(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Delaware 77-0123732
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(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) (I.R.S. EMPLOYER
IDENTIFICATION NO.)
510 Cottonwood Drive, Milpitas, CA 95035
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(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Registrant's telephone number, including area code: (408) 432-1700
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: 5.75% Convertible Subordinated Debentures,
due March 1, 2012
Indicate by checkmark 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 checkmark 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. ______
As of March 1, 1998, 88,059,701 shares of the registrant's Series A Preferred
Stock, $.01 par value, and 15,125 shares of the registrant's Common Stock, $.01
par value, were issued and outstanding, respectively. As of such date, all of
the outstanding shares of Series A Preferred Stock were held by the parent of
the registrant, all outstanding shares of Common Stock were issued to employees
of registrant pursuant to its stock option plan, and there was no public market
for the Company's equity securities.
THIS ANNUAL REPORT ON FORM 10-K CONTAINS 106 PAGES OF WHICH THIS IS NUMBER 1.
THE INDEX TO EXHIBITS BEGINS ON PAGE 66.
1
PART I
ITEM 1. BUSINESS
This report includes forward-looking statements which reflect the Company's
current views with respect to future events and financial performance. These
forward-looking statements are subject to certain risks and uncertainties,
including those discussed in Item 1. Business, "Products", "Marketing and
Customers", "Manufacturing and Suppliers", "Research and Development", and
Competition"; Item 7. Management Discussions and Analysis of Financial
Condition and Results of Operations, "Results of Operations" and "Liquidity and
Capital Resources"; and elsewhere in this report, that could cause actual
results to differ materially from historical results or those anticipated. In
this report, the words "anticipates," "believes," "expects," "intends," "future"
and similar expressions identify forward-looking statements. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date hereof.
Maxtor is a registered trademark and DiamondMax, CrystalMax and Formula 4 are
trademarks of Maxtor Corporation. All other brand names and trademarks
appearing in this Report are the property of their respective holders.
GENERAL
Maxtor Corporation (Maxtor or the Company) was organized in 1982 and is
incorporated in the state of Delaware. Maxtor develops, manufactures and
markets hard disk drive storage products for personal computer systems. The
Company sells 3.5-inch desktop storage products in capacities from 1.0 gigabyte
up to 11.5 gigabytes.
The Company's products are designed for desktop applications to meet both value
and high-performance needs of customers. Customers include original equipment
manufacturers (OEMs), distributors, and national retailers. Additionally,
several smaller retailers and value-added resellers (VARs) carry Maxtor products
purchased through Maxtor's distribution network. The Company relies on suppliers
for components including heads, media (disks) and custom integrated circuits.
All the Company's products are manufactured by Maxtor at its manufacturing
facility in Singapore and sold in North America, Europe and Asia.
2
BACKGROUND
A hard disk drive (HDD) is a magnetic data storage device that reads, writes and
stores digital data. The main components are the head disk assembly (HDA) and
printed circuit board assembly (PCBA). The HDA includes the head, media
(disks), head positioning mechanism (actuator) and spin motor. The PCBA
includes custom integrated circuits, an interface connector to the main computer
and a power connector. The components are contained in a hard base plate
protective package in a contamination-free environment. HDDs are more cost
effective than a computer's random access memory because HDDs can hold a
substantially higher volume of data at a lower cost per megabyte. Additionally,
HDDs continue to store and retrieve data faster than other storage devices such
as optical, floppy or magnetic tape.
The basic operation of a HDD has not changed since its introduction in the
1950's. One or more disks (one to four for Maxtor products) are positioned
around a spindle hub that rotates the disks by a spin motor. Disks are made of
a smooth aluminum substrate to which a thin coating of magnetic material has
been applied. Each disk has a slider suspended directly above it, holding an
electromagnetic device (head) that can read or write data to the disk while the
disk spins. The head flies over the disk on a thin layer of air. A key measure
in the HDD industry is areal density. Areal density is a measure of stored bits
per square inch on the recording surface of the disk. An increase in areal
density provides for greater storage capacity from the drive without increasing
the number of heads and disks, allowing companies to deliver higher capacity
devices at lower costs. To achieve ever higher areal densities, every
successive generation of drives uses a combination of improved head positioning
(servo mechanisms), lower "flying heights" and other new technologies.
The HDD's integrated circuits include a drive interface and a controller. The
drive interface "talks" to the user's computer, receiving instructions, while
the controller directs the flow of data to and from the disks, and controls the
movement of the heads. The location of data is logically maintained in tracks,
divided into sectors, on each disk. The user's computer sends instructions to
read or write data on the disks based on track and sector locations. In order
to "speak" the same language between the HDD and the main computer, industry
standard interfaces are utilized. Maxtor utilizes EIDE standard interfaces for
all its products.
Maxtor has continually designed and implemented new HDD technologies, especially
related to heads and disks, in order to optimize performance, reliability,
durability and areal density. Performance is generally measured by average seek
time in milliseconds (ms) to position the head over a selected track, the data
transfer rate in megabytes per second, and the spindle speed in rotations per
minute (rpm). Reliability measures expected life of the HDD. Durability
relates to the HDDs ability to withstand changing temperatures, humidity,
altitudes, vibration and shock. Physical size is measured by standard form
factors (or package size) in inches, which is important to OEMs who require
compact components for their personal computer products. The optimization of
these metrics have resulted in higher capacity products at lower costs.
The personal computer industry has been consistently driven by increased storage
needs caused by the increasing size and complexity of software applications.
The result in the storage industry in which Maxtor competes has been short
product life cycles, ranging from six to 12 months.
PRODUCTS
Maxtor currently offers two families of products, CrystalMax and DiamondMax.
The CrystalMax family is the Company's value product line, while the
DiamondMax family of HDDs offer power users high capacity and performance. In
the fourth quarter of 1996. Maxtor incorporated a new high-reliability four-disk
HDA, Formula 4, and digital signal processor (DSP) technology in its product
designs. The DSP technology combines the processor and drive interface circuits
onto one chip. Both technologies have increased the inherent reliability of the
drive. Mean time between failure is greater than 500,000 hours compared to
greater than 300,000 hours for Maxtor's previous product families. The
DiamondMax and CrystalMax series of drives both utilize Formula 4 HDA, which
allows for improved performance and reliability. The Company has achieved
improved production economies by building on a common, advanced platform.
3
The CrystalMax family of HDD's was introduced in September 1996 as a follow-on
to Maxtor's 7000 Series product family which was designed to the needs of the
highly price-sensitive entry level to mid-range desktop PC market. Capacities
range from 875 MB on one disk to 3.5 GB on four disks, meeting the increasing
demand for data storage. Volume shipments commenced in the fourth calendar
quarter of 1996 for the 1.7 GB 81750A, 2.6 GB 82625A, and 3.5 GB 83500A
products. The CrystalMax products shipped in volume through the second quarter
of 1997.
In February 1997, Maxtor announced its CrystalMax 1080 series of hard drives, in
capacities of 2.1 GB 82100A, 3.2 GB 83201A and 4.3 GB 84320A. CrystalMax 1080
products utilize thin film media with inductive heads and the DSP-based
architecture from the series, resulting in increased aerial density of 1080 MB
per disk. Seek time also improved at sub-11 ms and buffer size is increased to
256K cache. This family offers users all the benefits of the initial CrystalMax
series with additional performance. Volume shipments commenced in the first
quarter of 1997.
In October 1996, the Company announced its 3.5-inch, high performance DiamondMax
family of HDDs for the desktop. Product offerings for this first generation of
DiamondMax products were 2.5 GB 82560A, 3.8 GB 83840A and 5.1 GB 85120A,
providing 1.28 GB of storage space per disk. Volume shipments commenced on the
5.1 GB in the fourth calendar quarter of 1996.
The DiamondMax family is Maxtor's first to use MR (magneto-resistive) heads and
PRML (Partial Response Maximum Likelihood) read channels. MR heads provide more
signal than older inductive head technologies at today's high densities. PRML
read channels further improve the usability of small data signals and contribute
to the product's fast internal data transfer rate of 8 to 13 MB per second. The
DiamondMax family has ANSI ATA-3 Enhanced IDE interface, host transfer rates of
16.67 MB per second, less than 10 ms seek time, 5,400 rpm spindle speed and
contains 256K cache. Like the CrystalMax family, these drives also feature the
custom on-the-fly Error Correction Code logic, are compliant with the S.M.A.R.T.
specification, have low power consumption and ATA power saving commands
supporting Green PC standards. The DiamondMax family of products are designed
for power users who require high capacity and maximum performance from a HDD.
In June of 1997, Maxtor announced its second generation of MR technology based
drives for the desktop PC market. The DiamondMax 1750 Series has capacities
ranging from 1.75 GB up to 7.0 GB of storage. These products were targeted to
address the broad range of desktop storage requirements in both the commercial
and consumer segments. The 7.0 GB capacity of the DiamondMax 1750 was featured
by several PC vendors in their summer 1997 system announcements. This second
generation of DiamondMax products introduces support for UDMA 33 interface and
has host transfer rates of up to 33 MB per second.
In September of 1997, Maxtor announced the DiamondMax 2160, its third generation
of MR based hard drives for desktop PC applications. With capacities ranging
from 2.16 GB to 8.6 GB the drive is well positioned to address all of the most
popular storage capacities. The timely introduction and fast production ramp of
the DiamondMax 2160 enabled Maxtor to be an industry leader at this capacity
point. This Time to Volume leadership is key to Maxtor's continued success in
the market.
In February 1998, Maxtor announced its fourth generation of MR product storage
drives. The DiamondMax 2880 offers capacities from 2.88 GB to 11.5 GB. The
Company began volume production of this product in the first quarter of 1998.
4
IMPACT OF INDUSTRY CHARACTERISTICS ON THE COMPANY'S PRODUCTS
Competitive areal densities are continuing to increase dramatically. Several
larger competitors have already focused their desktop drive products on MR
technology. Currently, the Company believes this more aggressive MR-based areal
density curve is dictating the capacities of choice at major OEM accounts. The
Company's strategy is to introduce desktop products which incorporate MR
technology and which are increasingly less expensive to manufacture.
Short product life cycles also increase the importance of the Company's ability
to successfully manage product transitions. Although the Company successfully
managed product transitions in the recent past, the Company has historically
experienced difficulties with some product transitions and there can be no
assurance that product transitions will be successfully managed in the future.
New products introduced by competitors, as well as those introduced by the
Company, tend to displace older products. The failure to adequately manage
product transitions could result in the loss of market opportunities, decreased
sales of existing products, cancellation of products or product lines, the
accumulation of obsolete and excess inventory, and unanticipated charges related
to obsolete inventories and capital equipment. The Company's ability to
anticipate market trends and to successfully develop, manufacture in volume and
sell new products in a timely manner and at favorable gross margins will be
important factors affecting the Company's future results.
MARKETING AND CUSTOMERS
The Company has a direct sales force of approximately 100 sales professionals
that market the Company's products to OEMs, distributors and certain key
retailers in the personal computer (PC) industry. Sales offices are located
throughout the U.S., and in Germany, Hong Kong, Great Britain, France,
Singapore, Taiwan, South Korea, Australia and Japan. Market demand for the
Company's products generally follows the annual demand cycles experienced in the
PC industry, which typically rise during the late summer and fall months, peak
during the winter months and drop off in the spring and early summer months.
However, market demand is highly volatile and there can be no assurances that
future demand cycles will follow historical trends.
CUSTOMER INFORMATION
During the year ended December 27, 1997 two customers, Compaq and Dell
Computer, accounted for more than 21% and 10%, respectively, of the Company's
revenue. During the nine months ended December 28, 1996 one customer, Southern
Electronics Distribution accounted for 11% of the Company's revenue. During
the year ended March 30, 1996 no customer accounted for more than 10% of the
Company's revenue.
For financial data relating to major customers, export sales and geographic
information (foreign and domestic operations) refer to Part II, Item 8, Footnote
6, on PAGE 35.
ORIGINAL EQUIPMENT MANUFACTURERS (OEMs)
A majority of industry's HDDs are sold into the OEM channel. OEM customers
select HDD vendors seasonally based on the price, capacity and operational
specifications required for their PC product lines. Once the vendor's HDD is
qualified, the OEM will generally purchase quantities in large blocks for the
life of that PC product. An OEM will usually qualify several HDD vendors to
ensure adequate supply. In order to be chosen as a qualified vendor, the
Company must be able to provide high quality, low cost products within the OEM's
requested time-frames. Time-to-market and product quality are essential to
securing and maintaining the OEM relationship. If a qualification opportunity
is missed, the HDD manufacturer may not have another opportunity to do business
with the OEM until the next generation of the manufacturer's products are
introduced.
The PC industry exhibits volatile business conditions, generally related to
market share and price competition. In addition, the industry has had a trend
toward consolidation among PC manufacturers, Accordingly, maintaining long-term
vendor relationships with OEMs can be difficult. The Company believes that its
success depends on its ability to develop excellent OEM customer relationships
and provide products that fit the needs of the OEM channel. OEMs accounted for
64% of the Company's revenue for the fiscal year ended December 27, 1997, 52% of
revenue for the nine months ended December 28, 1996 and 50% of revenue for the
fiscal year ended March 1996.
5
The Company generally negotiates pricing, volume discounts, order lead times,
product support requirements and other terms and conditions prior to receiving
the OEM's first purchase order. Terms generally range from six months to two
years. Shipments are not scheduled until purchase orders are received and
cancellation of purchase orders may occur without significant penalty.
Historically, the Company has experienced cancellations for orders, which had a
material adverse impact on the financial results of the Company during the nine
months ended December 28, 1996 and the year ended March 30, 1996.
DISTRIBUTORS
The Company is also dependent upon sales to the commercial distribution channel.
Its distributors are located worldwide, and generally market the Company's
products to VARs (value-added resellers), dealers, smaller retailers, system
integrators and small OEMs. Distributors generally enter into non-exclusive
agreements with the Company for purchase and redistribution of product on a
quick turnover basis. Purchase orders are placed and revised on a weekly basis.
Distributors have limited rights to return product on a rotation basis.
Distributors (including smaller retailers) accounted for 36% of revenue for the
year ended December 27, 1997, 48% of revenue for the nine months ended December
28, 1996 and 39% of revenue for the fiscal year ended March 30, 1996.
Because distributors are constrained by low overhead requirements, providing
competitive pricing and sales incentives are key to selling product through
distribution. Price protection and sales incentive programs are the industry's
method of quickly effecting price corrections in the channel. The industry has
and continues to experience volatile price erosion in the distribution channel.
The Company believes price erosion is inherent with each product capacity point
introduced to the market. Therefore, the Company also believes it must
introduce its new products before or at the same time as its competitors in
order to minimize the negative impact of price erosion on its financial results.
In 1998, the Company will continue to focus on time-to-market product
introductions and linearity of product flow into its sales channels to reduce
the negative impact of price erosion.
RETAILERS
The Company sells its retail-packaged products directly to major retail sectors
such as computer superstores, warehouse clubs and computer electronic stores.
Its retail customer base is in the United States and Canada. Retailers accounted
for 9% of revenue for the year ended December 27, 1997, 8% of revenue for the
nine months ended December 28, 1996 and 5% of revenue for the fiscal year
ended March 30, 1996.
It appears that the demand for end-users to have more PC storage space will
continue due to a number of factors, including larger and more powerful software
applications, new capabilities (such as desktop video editing) and the wealth of
information available from the Internet and on-line services. As a result, the
Company believes the retail channel complements its other sales channels.
Retailers supply to the aftermarket "upgrade" sector where end-users purchase
and install products to upgrade their computers.
WARRANTY AND SERVICE
The Company currently warrants its products against defects in parts or labor
from the date of shipment. Products currently in production are warranted for a
period of 36 months after shipment. Products are generally repaired or
refurbished by the Company's Singapore facility. The Company operates a
European drive exchange center in Ireland, a domestic drive exchange center in
San Jose, California, and an Asian drive exchange center in Singapore.
Additionally, the Company provides customer service and technical support for
end-users, as well as access to important information and software via the World
Wide Web. The Company also believes that sales through the retail channel
increases brand awareness. In 1998, the Company will continue to support the
growth of the retail channel.
6
BACKLOG
The Company generally sells standard products according to standard purchase
order terms. Delivery dates are specified by purchase orders. Such orders may
be subject to change or cancellation by the customer without significant
penalties. The quantity actually purchased and shipment schedules are
frequently revised to reflect changes in the customer's needs. At times, when
price competition is intense and price moves are frequent, the Company believes
most customers may place purchase orders below their projected needs, delay
placing orders or even cancel purchase orders with the expectation that future
price reductions may occur. Conversely, at times when industry-wide production
is believed to be insufficient to meet demand, the Company believes that certain
customers may place purchase orders beyond their projected needs in order to
maintain a greater portion of product allocation.
In addition, orders for the Company's products are filled for several large
customers from JIT ("just in time") inventory stocked warehouses, whereby orders
are not placed ahead of time on the Company's order entry backlog system.
Instead, the Company receives a periodic forecast of requirements from the
customer. Upon shipment from the JIT warehouse, the customer is invoiced.
In light of these factors, backlog reporting as of any particular date may not
be indicative of the Company's actual revenues for any succeeding period, and,
therefore, is not necessarily an accurate barometer of the Company's future
revenue.
MANUFACTURING AND SUPPLIERS
The Company's disk drive manufacturing operations consist primarily of the final
assembly of high-level subassemblies and testing of completed products. The
Company manufactures disk drive products in volume production at its
manufacturing facility located in Singapore. The majority of all PCB assembly
is performed by an affiliate of the Company, International Manufacturing
Services, Inc. (IMS), under the terms of a manufacturing services agreement.
Maxtor owns 16% of the outstanding shares of IMS (See Management Discussion and
Analysis of Financial Condition and Results of Operation - Liquidity, on page
23, for financial information regarding IMS). In addition to risks typically
associated with the concentration of vital operations, foreign manufacturing is
subject to additional risks, including changes in governmental policies,
currency fluctuations, political instability, transportation delays and
interruptions, and the imposition of tariffs and export controls. A disruption
of the Company's manufacturing operations could have an adverse effect on its
results of operations and customer relations.
Pilot production of the Company's products, as well as cost reduction, quality
and product improvement engineering on current products are conducted in the
Company's Longmont, Colorado facilities. When a new product or a design change
to a current product is ready for volume production, it is transferred from the
Longmont pilot line to the Company's Singapore manufacturing facilities.
The Company seeks to maintain the flexibility necessary to accommodate the
continuous changes in product mix and volume requirements that result from the
characteristically short product life cycles of the disk drive industry. The
Company accomplishes this by closely managing its vendor relationships for raw
materials and utilizes its capital equipment for the manufacture of multiple
product lines.
The Company's manufacturing processes require large volumes of leading edge,
high-quality components supplied by outside vendors. Generally, the Company
does not have long-term supply agreements with its vendors, some of which have
limited financial and operational resources. The Company has qualified multiple
vendors for components where practical. However, some leading edge components
for the Company's new generation of products are available either only from
single sources or, even if potentially available from multiple sources, involve
relatively long lead times to manufacture, such that the Company cannot quickly
obtain additional supply or can do so only by incurring significant incremental
costs. The Company has periodically received notices from vendors that they are
unable to supply required volumes of certain key components. Vendor
cancellations can adversely impact the Company's ability to ship products as
scheduled to its customers. While the Company has qualified and continues to
qualify multiple vendors for many components, it is reliant on, and will
continue to be reliant on, the availability of supply from its vendors for many
semi-custom and custom integrated circuits, heads, media and other key
components. In light of current industry conditions, including consolidation of
competitors, the Company is focused on developing excellent business
relationships with its vendors and utilizing strategic alliances for certain
7
components where practical. There can be no assurance, however, that the
Company will be successful in such efforts or that in the future the Company's
vendors will meet the Company's needs for required volumes of high-quality
components in a timely and cost effective manner. The Company's inability to
obtain sufficient quantities of components required, or to develop alternative
manufacturing capability if and as required in the future, could result in
delays or reductions in product shipments that could materially and adversely
affect the Company's business, results of operations and financial condition.
RESEARCH AND DEVELOPMENT
The Company participates in an industry that is characterized by rapid
technological change and short product life cycles. The Company's ability to
compete effectively will depend on, among other things, its ability to
anticipate such change. To compete effectively, the Company has and will
continue to devote substantial personnel and capital resources to develop
high-quality products which can be produced in volume on a cost effective basis.
The Company believes that common architectures, vertical integration and new
technologies are among the key areas in which to direct its focus.
In order to develop cost effective products, the Company has focused on
implementing common architectures. Because the Company believes that sharing
common mechanics and electronics between product families will decrease the
product development period, thus enable it to compete more effectively, the
Company will continue to focus its efforts on implementing common architectures
where technologically feasible. Common architectures utilized in the Company's
current products include the HDA, custom electronics and firmware. The HDA is
the four-disk HDA, Formula 4 which represents a marked improvement in the shock
resistance and reliability of Maxtor products. First in the industry, DSP-based
drive electronics and common PCBAs reduce product costs. Further utilization
of a common firmware architecture allows for faster product development.
The Company is highly dependent upon its vendors for components. The Company
believes that vertical integration for certain components is necessary in order
to effectively compete in the market. Vertical integration allows for joint
development of technology, provides a more robust component supply and allows
the Company an advance view of new components. There can be no assurance that
the Company will be able to adequately vertically integrate as required by
market conditions.
The Company believes that increasing storage capacities, increasing performance
and lowering cost depends on developing and incorporating new data storage
technologies into the Company's products. New technologies are difficult to
implement due to short product life cycles, without sufficient research and
development resources. In the past, the Company has experienced difficulty
moving product from design to production with satisfactory yields. During 1997,
the Company launched a new design effort for server class products. In
addition, the Company will focus on developing new technologies to address areal
density targets, media tribology limitations and shock resistance issues, among
others, in order to provide high performance products.
For the year ended December 27, 1997, the nine months ended December 28, 1996,
and fiscal year ended March 30, 1996 the Company's research and development
expenses were $106.2 million, $87.8 million and $94.7 million, respectively. In
order to effectively implement its product strategy, the Company intends to
continue to make significant investments in research and development.
8
COMPETITION
The Company presently competes primarily with manufacturers of 3.5-inch disk
drives, including International Business Machines, Corporation; Quantum
Corporation; Seagate Technology, Inc; and Western Digital Corporation; each of
which have larger market shares than the Company. Seagate Technology, Inc, is
the dominant competitor in the 3.5-inch market. Potential entrants include other
major OEMs. If such customers successfully develop disk drive manufacturing
capabilities, the Company's market share could be reduced.
The principal methods of competition are timing of product introductions, price,
product capacity and performance. When competitors introduce products which
offer lower prices, greater capacity and better performance, or any combination
of these factors, or when the Company's new products are not brought to market
on a timely basis, the selling price of its older products generally must be
reduced in order to compete effectively with competitors' new products. The
Company believes price erosion is an inherent factor for each product capacity
point introduced to the market. Therefore, it believes it must introduce its
new products before or at the same time as its competitors in order to reduce
the negative impact of price erosion on its financial results. In 1998, the
Company will focus on time-to-market product introductions and linearity of
product flow into its sales channels in order to reduce the negative impact of
price erosion. There can be no assurance that the Company will be successful in
its efforts.
The disk drive industry has been subject to significant consolidation in the
past two years. A number of companies, including Maxtor, have either merged or
been acquired and the number of competitors in the market have been reduced.
Subsequent to the industry consolidation, some competitors remain better
positioned than Maxtor from a market share and financial resources availability
perspective.
The Company believes that in order to successfully increase its market share and
improve its financial position, the Company must continue to lower its product
costs and introduce its products before or at the same time as its competitors.
However, there can be no assurance that the Company's efforts will be successful
in the new competitive environment.
PATENTS AND LICENSES
The Company has been granted approximately 170 U.S. and foreign patents related
to disk drive products and technologies, and has additional patent applications
pending in the United States and foreign countries. The Company has entered into
cross-license agreements with certain of its competitors and conducted
discussions with others concerning cross-license relationships.
The Company further relies on trade secrets, copyrights, trademarks and
contractual provisions to protect its proprietary rights. There can be no
assurance that the Company's protective measures will be adequate to protect the
Company's proprietary rights, that others have not or will not independently
develop or otherwise acquire equivalent or superior technology, or that the
Company will not be required to obtain royalty-bearing licenses to use other
intellectual property in order to utilize the inventions embodied in the patents
owned or currently licensed by the Company. There can be no assurance that any
patents will be issued pursuant to the Company's current or future patent
applications. Or that patents issued pursuant to such applications or any
patents the Company owns or has licenses to use will not be invalidated,
circumvented or challenged. Moreover, there can be no assurance that the rights
granted under any such patents will provide competitive advantages to the
Company or be adequate to safeguard and maintain the Company's proprietary
rights. In addition, the laws of certain countries in which the Company's
products are or may be assembled, tested or sold, including various countries in
Asia, may not protect the Company's products and intellectual property rights to
the same extent as the laws of the United States. The failure of the Company to
enforce and protect its intellectual property rights could have a material
adverse effect on the Company's business, financial condition and results of
operations.
The computer storage industry, like many technology-based industries, is
characterized by frequent claims and litigation involving patent and other
intellectual property rights. The Company from time to time may be notified by
third parties that the Company may be infringing patents owned by or proprietary
rights of third parties. If necessary, the Company may have to seek a license
under such patent or proprietary rights, or redesign or modify their products
and processes in order to avoid infringement of such patent or proprietary
rights. There can be no assurance that such a license would be available on
acceptable terms, if at all, or that the Company could so avoid infringement of
such patent or proprietary rights, in which case the Company's business
financial condition and
9
results of operations could be materially and adversely
affected. Additionally, litigation may be necessary to protect the Company's
proprietary rights. Any claims or litigation involving the Company's owned or
licensed patents or other intellectual property rights may be time consuming and
costly, or cause product shipment delays, either of which could have a material
adverse effect on the Company's business, financial condition and results of
operation.
10
EMPLOYEES
As of March 1, 1998, the Company had approximately 5,700 employees worldwide.
The Company believes that its future success will depend on its ability to
continue to attract and retain a team of highly motivated and skilled
individuals. None of the Company's employees are represented by a labor
organization. The Company believes that its employee relations are positive.
ITEM 2. PROPERTIES
The Company's administrative offices and new advanced technology operations are
located in Milpitas, California. The Company currently plans to use the
additional floor space for expansion of the advanced technology operation. The
Company also maintains engineering and pilot production facilities in Longmont,
Colorado. All the Company's domestic facilities are leased.
The Company's manufacturing facilities are located in Singapore. The Company
owns and occupies a 384,000 square-foot building in Singapore, situated on land
leased through the year 2016 (subject to an option to renew for an additional 30
years). All the Company's sales offices, located in the United States, Europe
and Asia Pacific, are leased.
The Company believes as it pursues its growth strategy its requirements for
facilities are constantly under review and consideration and will be added as
the need arises.
ITEM 3. LEGAL PROCEEDINGS
STORMEDIA LITIGATION
The dispute between StorMedia and the Company arises out of the Agreement
between the Company and StorMedia which became effective on November 17, 1995,
under which StorMedia agreed to supply disk media, a key component of hard disk
drives, to the Company. StorMedia's supply of disk media did not meet the
Company's specifications and functional requirements and, as a result, after
negotiations, the Company terminated the Agreement.
On September 18, 1996 a class action securities lawsuit was filed against
StorMedia Incorporated ("StorMedia") and certain of its officers in Superior
Court of the State of California, County of Santa Clara. Among the allegations
against StorMedia was the assertion that StorMedia failed to perform under a
November 17,1995 Purchase Agreement ("Agreement") with Maxtor Corporation ("the
Company") and that StorMedia's failure to sue the Company for breach of the
Agreement was evidence that StorMedia had breached the Agreement. (A concurrent
class action was later filed in the U.S. District Court for the Northern
District of California by the same parties.)
One week later, on September 25,1996, StorMedia commenced an action in the U.S.
District Court for the Northern District of California entitled, STORMEDIA
INCORPORATED V. HYUNDAI ELECTRONICS INDUSTRIES CO., LTD., ET AL., U.S. District
Court, Northern District, No. C-96 20805 RMW (EAI) (the "Federal Action"),
against Hyundai Electronics Industries Co., Ltd. ("HEI")-- the Company's Korean
grandparent -- which also signed the Agreement. StorMedia also sued M.H. Chung,
HEI's chairman; K.S. Yoo, the individual who signed the Agreement on behalf of
the Company. StorMedia, however, did not sue the Company.
StorMedia filed an Amended Complaint of February 14,1997 in the Federal Action.
The Amended Complaint alleged Fraud and Deceit (against all Defendants);
Negligent Misrepresentation (against all Defendants); Breach of Contract
(against HEI); Breach of Contract--Covenant Not to Compete (Against HEI); Breach
of the Implied Covenant of Good Faith and Fair Dealing (against HEI); and
Unlawful, Unfair or Fraudulent Business Practices (against HEI). The plaintiff
alleged that HEI entered into a volume purchase agreement with StorMedia
Pursuant to which HEI and the Company committed to purchase rigid discs for use
in the Company's drives. At the time HEI entered the Agreement, plaintiff
contends that HEI knew that it could not and would not purchase the volume of
products which it committed to purchase. Plaintiff further contends that HEI
entered the contract in order to secure a source of components for the Company
only long enough for HEI to develop its own internal disc manufacturing capacity
and that it and the other defendants never intended to fully perform the
Agreement.
11
Plaintiff sought damages in excess of $206 million dollars, punitive
damages, injunctive relief, attorneys' fees, pre-judgment and post-judgment
interest, and costs.
12
On December 20, 1996, the Company filed a Complaint in Colorado state court
entitled MAXTOR CORPORATION V. STORMEDIA INC. ET AL., District Court, County of
Boulder Colorado, No. 96CV 161 ("Colorado Action"), against StorMedia
Incorporated, StorMedia International Ltd., and William J. Almon, StorMedia's
CEO. The complaint alleges Breach of Contract (against all Defendants except
Almon), Breach of the Implied Warranty of Fitness (against all Defendants except
Almon), Breach of the Implied Warranty of Merchantability (against all
Defendants except Almon), Fraud (against all Defendants), and Negligent
Misrepresentation (against all Defendants). The Company seeks damages in excess
of $100 million dollars, punitive damages, reasonable attorneys' fees and costs.
In March, 1997, the Colorado Action was stayed.
On October 24, 1997, the Company filed a Motion to Intervene in the Federal
Action. HEI moved to dismiss the action for failure to join the Company as a
party. On February 18, 1998, the U.S. District dismissed the Federal Action in
its entirety. Accordingly, on February 20, 1998, the Company filed a Motion for
Relief from Stay in the Colorado action. On February 24, STORMEDIA
INTERNATIONAL LTD. V. HYUNDAI ELECTRONICS INDUSTRIES CO., LTD., ET AL., in the
Superior Court of California, County of Santa Clara, Case No. CV 772103
("California Action"). This new complaint alleges Fraud and Deceit (against all
Defendants), Negligent Misrepresentation (against HEI and the Company).
Plaintiff seeks damages in excess of $206 million dollars, punitive damages,
injunctive relief, attorneys' fees, pre-judgment and post-judgment interest, and
costs. On March 26, 1998, the Company moved to stay the California Action in
light of the substantially identical action pending in Colorado.
There has been no discovery in the Colorado Action or the recently filed
California Action. There has been some initial discovery exchanged in the
now dismissed Federal Action. No depositions on the merits of the claims
have been taken. The Company believes that it has meritorious defenses to
such claims and intends to defend the litigation vigorously. However, due to
the nature of the litigation and because the pending lawsuits are in the very
early pre-trial stages, the Company cannot determine the possible loss, if
any, that may ultimately be incurred either in the context of a trial or as a
result of a negotiated settlement. The two pending litigations could result
in significant diversion of time by the Company's technical personnel. While
after consideration of the nature of the claims and facts relating to the
litigation, including the results of preliminary discovery, management
believes that the resolution of this matter will not have a material adverse
effect on the Company's business, operating results and financial conditions,
the results of these proceedings, including any potential settlement are
uncertain and there can be no assurance that they will not have a material
adverse effect on the Company's business, operating results, and financial
condition.
The Company has been notified of certain other claims, including claims of
patent infringement. While the ultimate outcome of these claims and the claims
described above is not determinable, it is reasonably possible that resolution
of these matters could have a material impact on the financial condition,
results of operations or cash flows of the Company. No amounts related to any
claims or action have been accrued in the accompanying financial statements.
13
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company's annual meeting was held August 13, 1997, at which its then sole
stockholder reelected Charles H. Christ and Y.H. Kim as Class II directors
each, to hold office for a three-year term, and ratified the appointment of
Coopers & Lybrand L.L.P. as the Company's independent accounting firm for the
year ended December 27, 1997. On February 25, 1998, the Company's sole
shareholder authorized by written consent an Amended and Restated 1996 Stock
Option Plan, effective October 1, 1997 and an increase to 12,272,168 as the
maximum number of shares reserved for issuance thereunder.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
In January 1996, the Company became a wholly owned subsidiary of Hyundai
Electronics America (HEA). As of the acquisition, trading of Maxtor common
stock on the NASDAQ National Market was suspended. Currently, there is no public
market for the Company's equity securities. The Company's 5.75% convertible
subordinated Debentures, due March 1, 2012, $100,000,000 in aggregate principal
amount, remain publicly traded.
In June 1996, the Company entered into an exchange agreement with HEA whereby
HEA exchanged 600 shares of Common Stock for 58,208,955 shares of Series A
Preferred Stock, $.01 par value. In December 1997, the Company and HEA entered
into a Debt Payment and Stock Purchase Agreement pursuant to which HEA accepted
29,850,746 new shares of the Corporation's preferred stock as payment for
$200,000,000 owed to HEA by the Corporation. As of December 27, 1997,
88,059,701 shares of Series A Preferred Stock and 15,125 shares of Common Stock,
$.01 par value, were issued and outstanding. At March 1, 1998, all of the
outstanding shares of Series A Preferred Stock were held by the parent of the
registrant and all outstanding shares of Common Stock were held by three
individuals who obtained shares upon exercise of options granted under the
Company's 1996 Stock Option Plan.
DIVIDEND POLICY
The holders of shares of Series A Preferred Stock are entitled to non-cumulative
dividends of $0.40 per share, when and as declared by the Board of Directors, in
preference of the holders of shares of the Common Stock. No such dividends were
declared in 1997. The Company has never paid cash dividends on its capital
stock. The Company does not anticipate paying cash dividends in the near
future. Under the terms of the Company's line of credit facilities, the Company
may not declare or pay any dividends without the prior consent of its lenders.
14
ITEM 6. SELECTED FINANCIAL INFORMATION
(IN THOUSANDS)
December 27, December 28, December 28, March 30, March 25, March 26,
FISCAL YEAR ENDED 1997 1996 1996 1996 1995 1994
(twelve months)(twelve months)(nine months)
(unaudited)(1)
-------------- --------------- ------------- ---------- ----------- ------------
Revenue $1,424,320 $1,113,842 $798,884 $1,268,998 $906,799 $1,152,615
Gross margin 71,384 (77,929) (89,974) 72,693 56,130 (52,399)
Operating expenses:
Research and development 106,249 113,053 87,752 94,717 60,769 97,168
Selling, general and administrative 62,520 82,944 60,701 82,775 81,600 78,854
Other - (69) - 4,460 (10,213) 19,500
Loss from operations (97,385) (273,857) (238,427) (109,259) (76,026) (247,921)
Interest expense 36,502 22,096 18,075 11,849 8,379 10,087
Interest and other income 25,031 1,333 1,000 1,169 4,216 2,283
Provision for income taxes 1,035 1,523 824 2,826 2,033 1,864
Net Loss (109,891) (296,143) (256,326) (122,765) (82,222) (257,589)
Total assets 555,472 314,539 314,539 442,487 381,847 492,375
Long-term debt and capital lease
obligations due after one year 224,313 229,109 229,109 100,181 101,967 107,393
Cash dividends declared - - - - - -
(1) Unaudited information for the twelve months ended December 28, 1996 is
provided to compare with the twelve months ended December 27, 1997
in Item 7: Management's Discussion and Analysis.
15
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH ITEM 1: BUSINESS,
ITEM 6: SELECTED FINANCIAL INFORMATION AND ITEM 8: CONSOLIDATED FINANCIAL
STATEMENTS AND SUPPLEMENTARY DATA.
CHANGE IN FISCAL YEAR END
During 1996, the Company changed its fiscal year end to be consistent with
the year end of its parent, Hyundai Electronics America ("HEA"). The fiscal
year end changed from the last Saturday of March, the date used in the
Company's prior filings of its Form 10-K with the Securities and Exchange
Commission, to the last Saturday of December conforming to its 52/53-week
year methodology.
The current fiscal period ended on December 27, 1997 comprises twelve months
or 52 weeks. For discussion and analysis purposes, the twelve months ended
December 27, 1997, comprising 52 weeks, are compared to the unaudited twelve
months ended December 28, 1996, also comprising 52 weeks. The nine months
ended December 28, 1996 comprises 39 weeks and is compared to the nine months
ended December 30, 1995, comprising 40 weeks.
RESULTS OF OPERATIONS
Twelve months ended December 27, 1997 compared to twelve months ended
December 28, 1996
REVENUE AND GROSS PROFIT (LOSS)
- --------------------------------------------------------------------------
(IN MILLIONS) December 27, December 28,
TWELVE MONTHS ENDED 1997 1996 Change
- --------------------------------------------------------------------------
(unaudited)
Revenue $1,424.3 $1,113.8 $ 310.5
Gross profit (loss) $ 71.4 $ (77.9) $ 149.3
As a percentage of revenue 5.0% (7.0%)
Net loss $ (109.9) $ (296.1) $ 186.2
- --------------------------------------------------------------------------
REVENUE
Revenue increased 28% in 1997, primarily due to an increase in unit shipments
of approximately 48%, while average unit prices were lower by 14%. Revenue
from the OEM channel increased 56% even though the 1996 results included $44
million in revenues from the Company's IMS affiliate, which is not included
in the Company's 1997 results. The increase in OEM revenues was offset by a
4% decline in year over year revenues from the Company's Distributor Channel.
Revenue and unit volume growth in 1997 were favorably impacted by better
time to market performance, strengthening of the customer base and a
continued trend to shipping higher capacity drives. This was offset somewhat
by continued pricing pressures which resulted in lower year over year average
unit selling prices.
GROSS PROFIT (LOSS)
Gross profit as a percentage of revenue improved consistently, quarter over
quarter, throughout 1997. The increase in gross profit is due mainly to the
increase in unit volumes and the introduction of new products which achieved
market acceptance due to a return to competitive aerial density. As mentioned
above, the increase in revenues and profits due to increased shipment volumes
was somewhat offset in 1997 by continued pricing pressures which resulted in
lower year over year average unit selling prices.
The Company will continue its efforts to increase gross profit by reducing its
average unit manufacturing costs. However, there can be no assurance that
average unit selling prices will not decline at a more rapid rate or that the
Company will be successful in its efforts to continue to gain improvements in
gross profit percentages.
16
OPERATING EXPENSES
- --------------------------------------------------------------------------
(IN MILLIONS) December 27, December 28,
TWELVE MONTHS ENDED 1997 1996 Change
- --------------------------------------------------------------------------
(unaudited)
Research and development $ 106.2 $ 113.1 $ (6.9)
As a percentage of revenue 7.5% 10.1%
Selling, general and administrative $ 62.5 $ 82.9 $ (20.4)
As a percentage of revenue 4.4% 7.4%
- --------------------------------------------------------------------------
In 1997 the Company continued to make substantial investments in research and
development (R&D) related to new technology for its products. Although R&D
as a percentage of revenue decreased from 1996, the absolute dollar level of
investment in R&D remained close to 1996 levels. The decrease in percentage
of R&D expenditures compared to 1996 was expected partly because the Company
redefined its products and technology road map to focus on its core desk top
business (see discussion under Desktop Computer Products, page 4).
Additionally during 1996, the Company established the new advanced technology
group in Milpitas and a new production engineering group in Singapore.
During 1998, the Company will focus on controlling spending while continuing R&D
activities that support timely product introduction and transition to volume
production. There can be no assurances that the Company will be successful in
its efforts.
Selling, general and administrative expenses (SG&A) decreased as a percentage of
revenue and in absolute dollars due to the Company's ongoing efforts to control
costs. Reductions in overall headcount and controlled marketing expenses
contributed to lower SG&A expenses throughout 1997.
INTEREST EXPENSE AND INTEREST INCOME
- --------------------------------------------------------------------
(IN MILLIONS) December 27, December 28,
TWELVE MONTHS ENDED 1997 1996 Change
- --------------------------------------------------------------------
(unaudited)
Interest expense $ 36.5 $ 22.1 $ 14.4
Interest and other income $ 25.0 $ 1.3 $ 23.7
- --------------------------------------------------------------------
Interest expense increased due to an increase in borrowings required during
the first three quarters, in order to fund the Company's operations and an
increase in the cost to borrow due to changes in the economic environment in
Korea. The Company's debt is guaranteed by Hyundai Electronics Industries,
Co., Ltd. (HEI) and the rate at which the Company can borrow is substantially
affected by the borrowing rates available to HEI. The Company had $159.8
million of short-term and $129 million of long-term lines of credit
borrowings outstanding at December 27, 1997. The Company expects to maintain
approximately the same or higher levels of borrowings during the next fiscal
year.
Interest and other income increased because of a one time gain associated with
the reversal of a $20 million fully-reserved note which was paid in full by IMS.
However, cash availability overall has and will continue to be constrained in
1998 due to funding required for the Company's operations.
17
PROVISION FOR INCOME TAXES
- ---------------------------------------------------------------------
(IN MILLIONS) December 27, December 28,
TWELVE MONTHS ENDED 1997 1996 Change
- ---------------------------------------------------------------------
(unaudited)
Provision for income taxes $ 1.0 $ 1.5 $ (0.5)
- ---------------------------------------------------------------------
The provision for income taxes consists primarily of foreign taxes. The
decrease of $0.5 million is due to elimination of taxes in Hong Kong due to the
sale of a majority interest in IMS to certain IMS management and other investors
in June 1996.
The Company's effective tax rate for the periods 1997 and 1996 differs from the
combined federal and state rates due to the repatriation of foreign earnings
absorbed by current year domestic losses, and the Company's U.S. operating
losses not providing current tax benefits, offset in part by the tax savings
associated with the Company's Singapore operations and valuation of temporary
differences. Income from the Singapore operation is not taxable as a result of
the Company's pioneer tax status in Singapore.
18
RESULTS OF OPERATIONS
NINE MONTHS ENDED DECEMBER 28, 1996 COMPARED TO NINE MONTHS ENDED
DECEMBER 30, 1995
REVENUE AND GROSS PROFIT (LOSS)
- -----------------------------------------------------------------------
(IN MILLIONS) December 28, December 30,
NINE MONTHS ENDED 1996 1995 Change
- -----------------------------------------------------------------------
(unaudited)
Revenue $ 798.9 $ 954.0 $ (155.1)
Gross profit (loss) $ (90.0) $ 60.6 $ (150.6)
As a percentage of revenue (11.3%) 6.4%
Net loss $ (256.3) $ (82.9) $ (173.4)
- -----------------------------------------------------------------------
Revenue decreased primarily due to a decrease in unit shipments of approximately
22%, while average unit prices for the nine months were comparable. The
decrease in shipments was a result of a 32% decrease in revenue from the OEM
channel, partially offset by an increase in distribution revenue of 17%.
Shipments to the OEM channel in the third quarter of 1996 were lower than
expected due to a shortage of qualified components from vendors.
As expected in the disk drive industry, products sold during the 1996 period
were higher in capacity than in the 1995 period. However, prices for the higher
capacity products (1.3 to 2.0 GB) in 1996 remained relatively flat with the
products in 1995 (which ranged from 540 MB to 1.6 GB).
Part of the revenue decrease is also attributed to the sale of International
Manufacturing Services, Inc. (IMS) in June 1996. IMS revenue decreased by $25
million from the prior period. Revenue for 1995 also reflects a 40-week period
as compared to a 39-week period for 1996. The first quarter of 1995 was
extended to realign the fiscal year ended March 30, 1996.
Gross margin decreased primarily due to the decrease in unit shipments discussed
above and a substantial drop in average unit selling prices for lower capacity
products during the quarter ended June 29, 1996. In June 1996, the Company
incurred a $42.3 million charge for products in inventory and scheduled to be
built over the following six months which had market prices lower than cost.
Although the shift in sales of the Company's products was toward higher capacity
products, which generally had higher average selling prices per unit, the
increase in margins which resulted from this shift was more than offset by
intense pricing pressures on certain lower capacity products without
corresponding decreases in manufacturing costs. Furthermore, the Company
incurred one-time charges of $6.5 million to consolidate certain manufacturing
activities in 1996, including the closure of a head stack assembly plant in
Thailand and a reduction in production shifts in Singapore.
19
OPERATING EXPENSES
- ---------------------------------------------------------------------------
(IN MILLIONS) December 28, December 30,
NINE MONTHS ENDED 1996 1995 Change
- ---------------------------------------------------------------------------
(unaudited)
Research and development $ 87.8 $ 69.4 $ 18.4
As a percentage of revenue 11.0% 7.3%
Selling, general and administrative $ 60.7 $ 60.5 $ 0.2
As a percentage of revenue 7.6% 6.3%
Other $ - $ 4.5 $ (4.5)
As a percentage of revenue 0.0% (0.5%)
- ----------------------------------------------------------------------------
R&D expenses increased primarily due to the Company's continued commitment to
make substantial investments in new technology for its products. Additionally,
the Company established the new advanced technology group in Milpitas and a new
production engineering group in Singapore during 1996. In the third quarter of
the 1996 period, the Company incurred charges of approximately $4.5 million
related to obsolete equipment and internally built equipment not utilized due to
rapid changes in product volumes and mix during the latter half of 1996.
Selling, general and administrative (SG&A) expenses increased as a percentage of
revenue primarily due to the decrease in the revenue base. SG&A spending in
absolute dollars was relatively unchanged due to the Company's ongoing effort to
control costs and expenditures. Certain SG&A expenses decreased during the 1996
period due to an overall reduction in force and controlled spending in
marketing. However, the decrease was offset by a substantial change in
executive staff and related severance costs incurred throughout the nine month
period.
Other expenses decreased due to $4.5 million of professional fees incurred in
1995 related to the acquisition of the Company by HEA. Effective January 1996,
HEA acquired by a cash tender offer of $6.70 per share all of the outstanding
shares of the Company's common stock which were not previously owned by HEA or
its affiliates and the Company became a wholly owned subsidiary of HEA.
20
INTEREST EXPENSE AND INTEREST INCOME
(IN MILLIONS) December 28, December 30,
NINE MONTHS ENDED 1996 1995 Change
- ------------------- ------------ ------------ ------
(unaudited)
Interest expense $ 18.1 $ 7.8 $ 10.3
Interest income $ 1.0 $ 0.8 $ 0.2
Interest expense increased due to a substantial increase in short-term and
long-term borrowings required in order to fund the Company's operations. The
Company had $149.8 million of short-term and $129 million of long-term lines
of credit borrowings outstanding at December 28, 1996, whereas $99 million of
short-term borrowings were outstanding at December 30, 1995.
Interest income increased slightly due to the availability of cash for
investing purposes.
PROVISION FOR INCOME TAXES
(IN MILLIONS) December 28, December 30,
NINE MONTHS ENDED 1996 1995 Change
- ------------------- ------------ ------------ ------
(unaudited)
Provision for income taxes $ 0.8 $ 2.1 $ (1.3)
The provision for income taxes consists primarily of foreign taxes. The
decrease of $1.3 million is due to elimination of taxes in Hong Kong due to
the sale of a majority interest in IMS to certain IMS management and other
investors in June 1996.
The Company's effective tax rate for the periods 1996 and 1995 differs from
the combined federal and state rates due to the repatriation of foreign
earnings absorbed by current year losses, and the Company's U.S. operating
losses not providing current tax benefits, offset in part by the tax savings
associated with the Company's Singapore operations and valuation of temporary
differences. Income from the Singapore operation is not taxable as a result
of the Company's pioneer tax status in Singapore.
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are coded to
accept only two digit entries in the date code field. Beginning in the year
2000, these date code fields will need to accept four digit entries to
distinguish 21st century dates from 20th century dates. As a result, in less
than two years, computer systems and/or software used by many companies may
need to be upgraded to comply with such "Year 2000" requirements.
Significant uncertainty exists in the software industry concerning the
potential effects associated with such compliance. The Company has evaluated
its level of exposure to the risks and costs associate with Year 2000
problems and is currently in the process of updating its information systems
to be Year 2000 compliant. The Company expects its information systems to be
Year 2000 compliant by the end of fiscal 1999, and anticipates no disruptions
in the manufacturing services it provides to its customers as a result of
Year 2000 problems; however, no assurance can be given that such updates will
be fully completed in a timely manner or that such disruptions will not
occur. Any disruption in manufacturing services provided by the Company as a
result of Year 2000 noncompliance would materially adversely affect the
Company's business, financial condition and results of operations. Moreover,
the Company could be adversely impacted by Year 2000 issues faced by major
distributors, suppliers, customers, vendors and financial service
organizations with which the Company interacts.
21
LIQUIDITY AND CAPITAL RESOURCES
As of and for
the twelve months ended
December 27,
(IN MILLIONS) 1997
- -------------- -----------------------
Cash and cash equivalents $ 16.9
Net cash used in operating activities $ (146.7)
Net cash used in investing activities $ (61.3)
Net cash provided by financing activities $ 193.6
Short-term credit borrowings $ 159.8
Long-term credit borrowings $ 129.0
As of December 27, 1997, the Company had cash and cash equivalents of $16.9
million as compared to $31.3 million as of December 28, 1996, a decrease of
$14.4 million. The decrease in the Company's cash and cash equivalents was
primarily the result of operating losses and capital expenditures offset by
external financing to fund those activities.
Net cash used in operating activities was primarily attributable to the net
loss less non-cash depreciation and amortization totaling approximately $65.6
million an increase in accounts receivable and inventories of $142.9 million
and $74.4 million, respectively, and an increase in accrued and other
liabilities of $15.9 million. These uses of cash in operating activities
were offset by an increase in accounts payable of $102.1 million and increases
in payables to affiliates of $11.6 million. In addition, the net loss
included a gain of $20 million from the payment on a note from an affiliate,
International Manufacturing Systems (IMS), Inc., that had been fully reserved.
The increases in accounts receivable and inventories, as well as the
offsetting increases in accounts payable and payables to affiliates result
from the increase in shipment volumes and resulting increases in revenue in
1997 as compared to 1996.
On March 30, 1996, the Company entered into an accounts receivable
securitization program with Citicorp Securities, Inc. Under this program the
Company could sell its qualified trade accounts receivable up to $100 million
on a non-recourse basis. The face amount of the eligible receivables are
discounted based on the Corporate Receivables Corporation commercial paper
rate (5.85% as of December 27, 1997) plus commission and is subject to a 10%
retention. As of December 27, 1997, $79.8 million in sales of accounts
receivable, for which proceeds had not yet been received, were included in
accounts receivable and $79.8 million in collections of accounts receivable
not yet remitted were included in accrued and other liabilities. The
Company's asset securitization program was subject to certain conditions,
among which was a condition that all of HEI's long-term public senior debt
securities achieve a specified rating. This condition was not met in February
1998, and the Company obtained waivers of this condition through April 8,
1998.
The Company completed a new asset securitization program dated as of April 8,
1998 (the "New Program") arranged by Citicorp to replace the existing
program. Under the New Program, the Company sells all of its trade accounts
receivable through a special purpose vehicle with a purchase limit of $100
million on a non-recourse basis, subject to increase to $150 million upon the
fulfillment of the conditions subsequent described below. On April 8, 1998,
the uncollected purchase price under the existing program, in the amount of
approximately $100 million, was transferred to represent the purchased
interest of Citicorp's Corporate Receivables Corporation ("CRC") under the
New Program. Continuance of the New Program is subject to certain conditions,
including a condition that all of the long-term public senior debt securities
of Hyundai Heavy Industries, Inc. ("HHI") achieve a specified rating. In
addition, the New Program remains subject to certain conditions subsequent
related to obtaining appropriate waivers as may be necessary from lenders of
the Company's credit facilities, or effecting a cure, of any outstanding
defaults under such credit facilities of the Company and obtaining a
performance guarantee from HHI of the obligations of the Company and Maxtor
Receivables Corporation under the New Program. This performance guarantee is
similar to the arrangement that HEI provided under the Original Program. The
Company must satisfy these conditions subsequent by May 4, 1998 and presently
believes that it will be able to successfully satisfy these conditions.
Net cash used in investing activities was primarily attributable to $82.5
million of capital expenditures offset by the collection of the $20 million
note receivable from the Company's IMS affiliate that was fully reserved (see
discussion of IMS transactions below). A majority of the capital
expenditures activity related to the acquisition of manufacturing and
engineering equipment to develop new products and enhance the productivity of
the Singapore manufacturing facility.
22
In November 1994, the Company formed a wholly-owned subsidiary, IMS
International Manufacturing Services, Ltd. whose primary business was
contract manufacturing for electronic original equipment manufacturers
(OEMs). The Company's printed circuit board (PCB) assembly plant in Hong
Kong formed the foundation of the business, and a second plant was added in
Thailand in May 1995. In early June 1996 the Company reorganized all of the
operations under a wholly-owned Delaware subsidiary, International
Manufacturing Services, Inc. (IMS). IMS not only supplies the Company, but a
variety of external customers, with PCB assemblies, sub-assemblies and fully
integrated box products. In May 1996 the Company entered into an agreement
to sell a majority interest in IMS to certain IMS management and other
Investors ("Buyer"). At the completion of the transaction in June 1996 the
Company received $25 million in cash and $20 million in notes from IMS, and
retained a 23.5% ownership interest in IMS. Pursuant to the Agreements, the
Company made various representations and warranties as to itself and IMS and
has agreed to indemnify Buyer for any breaches thereof. Generally, in the
event that losses from such breaches when aggregated exceed $500,000, Buyer
shall be entitled to indemnification for all losses, including the first
$500,000 up to a maximum of $17,500,000, provided that tax and environmental
representations are not subject to the liability limit.
In October 1997, IMS completed an initial public offering of 5 million shares
of common stock at $11.50 per share. Under the terms of the note issued by
IMS to the Company, IMS was required to pay the outstanding principal balance
and all accrued an unpaid interest, aggregating $20.1 million, and IMS made
the payment in full on October 28, 1997. In connection with these
transactions, the Company revalued its investment and recorded a $16.3
million unrealized gain in IMS to reflect its current 16% ownership interest.
Net cash provided by financing activities results mainly from an issuance of
$200.0 million in preferred stock of the Company to the Company's parent,
HEA. In December 1997, the Company and HEA entered into a Debt Payment and
Stock Purchase Agreement pursuant to which HEA accepted 29,850,746 new shares
of the Corporation's preferred stock as payment for $200,000,000 owed to HEA
by the Corporation. As of December 27, 1997, 88,059,701 shares of Series A
Preferred Stock and 15,125 shares of Common Stock, $.01 par value, were
issued and outstanding. In addition, cash increased due to a net increase in
borrowings of $10.0 million in 1997.
On January 31, 1996 the Company signed a one year credit facility in the
amount of $13.8 million to be used for capital equipment requirements at the
Singapore facility. This credit facility is guaranteed by HEI and all
outstanding amounts of principal and accrued interest were payable on January
30, 1998. In January 1998, this facility was retired and all principal and
interest owed under this facility have been paid. As of December 27, 1997,
$13.8 million of borrowings under this line were outstanding.
On April 10, 1997, the Company obtained a $150 million intercompany line of
credit from HEA. This line of credit allows for draw downs up to $150
million and interest is payable quarterly. All outstanding amounts of
principal and accrued interest are due and payable on April 10, 1998. As of
December 27, 1997 $65 million was outstanding under this facility. In March
1998, this intercompany line was reduced to $100 million.
On August 29, 1996, the Company established two uncollateralized, revolving
lines of credit totaling $215 million (the "Facilities") through Citibank,
N.A. and syndicated among fifteen banks. In September 1996, the Facilities
were increased $10 million to a total of $225 million. The Facilities are
guaranteed by HEI and a total of $129 million of the Facilities is a three
year committed Facility that is used primarily for general operating purposes
and bears interest at a rate based on LIBOR plus 0.53 percent. As of
December 27, 1997, $129 million of borrowings under this line were
outstanding. A total of $96 million of the Facility is a 364-day committed
facility, renewable annually at the option of the syndicate banks. On August
28, 1997, this Facility was amended and reduced to $31 million. The Facility
is primarily for general operating purposes and bears interest at a rate
based on LIBOR plus 0.53 percent. As of December 27, 1997, $31 million under
this line of credit were outstanding.
The Company has credit facilities amounting to $50 million in the aggregate
from three banks. The facilities, which are guaranteed by HEI, will be used
primarily for general operating purposes and bear interest at a rate ranging
from 6.27 percent to 7.88 percent. As of December 27, 1997, $50 million of
borrowings under this line of credit were outstanding. In January 1998 one
$10 million facility was retired and all principal owing has been paid.
HEI is the guarantor of an aggregate $170 million outstanding under the
Company's credit facilities as of December 27, 1997. HEI has various
obligations as guarantor, including the satisfaction of certain financial
covenants. Due to the economic conditions in the Republic of Korea and a
significant recent devaluation of the Korean won versus the U.S. dollar, the
Company believes that that HEI may be found not to be in compliance with
certain financial covenants. The Company received notice on April 9, 1998
from the administrative agent for the facilities that HEI is not in
compliance with certain financial covenants. In the event HEI is not able to
comply with its obligations as guarantor, there will be a default under the
terms of the guaranty which will constitute a default under the Company's
credit facilities guaranteed by HEI and a default under a credit facility
with $30 million outstanding as of December 27, 1997 not guaranteed by HEI.
The Company will endeavor to seek any necessary waivers; although there can
be no such assurance, the Company believes that such waivers can be obtained.
The Company has a commitment from an affiliated company to provide an
equivalent long-term facility in the event the waivers are not successfully
obtained. Consequently, the Company has not reclassified the debt
outstanding under the credit facilities as a current liability.
23
The liquidity of the Company continued to be adversely affected during the
fiscal year ended December 27, 1997 by significant losses from operations.
The Company is implementing ongoing measures with that focus on a return to
profitability and improved liquidity. In addition to attempting to improve
operating margins on product sales through the introduction of new products
and reduction of manufacturing costs, the Company remains focused on
controlling other operating expenses. However, the Company believes that it
must continue to make substantial investments in R&D since the timely
introduction and transition to volume production of new products is essential
to its future success.
The Company expects that it will require alternative sources of liquidity,
including additional sources of financing in fiscal 1998. The Company is
engaged in ongoing discussions with various parties regarding additional
sources of financing. While the Company believes that additional sources of
financing will be available, there can be no assurance that financing will be
available on terms which are favorable to the Company.
Subject to unforeseen changes in general business conditions, the Company
believes that the combination of the measures described above and other
available actions, together with its balances of cash and cash equivalents,
equipment financing and line of credit borrowing capabilities (supported by
HEI and HEA), will be sufficient to fund the Company's working capital and
capital expenditure requirements through fiscal year 1998.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
24
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS PAGE
Financial Statements:
Consolidated Balance Sheets -
December 27, 1997 and December 28, 1996 26
Consolidated Statements of Operations -
Fiscal year ended December 28, 1997, nine months ended
December 28, 1996 and fiscal year ended March 30, 1996 27
Consolidated Statements of Stockholders' Equity (Deficit) -
Fiscal year ended December 28, 1997, nine months ended
December 28, 1996 and fiscal year ended March 30, 1996 28
Consolidated Statements of Cash Flows -
Fiscal year ended December 28, 1997, nine months ended
December 28, 1996 and fiscal year ended March 30, 1996 29 - 30
Notes to Consolidated Financial Statements 31 - 45
Report of Coopers & Lybrand L.L.P., Independent Accountants 46
Report of Ernst & Young LLP, Independent Auditors 47
Financial Statement Schedules:
The following consolidated financial statement schedule of Maxtor
Corporation is filed as part of this Report and should be read in
conjunction with the Consolidated Financial Statements of Maxtor
Corporation.
Schedule II Valuation and qualifying accounts S-1
Schedules not listed above have been omitted since they are not applicable
or are not required or the information required to be set therein is
included in the Consolidated Financial Statements or notes thereto.
25
MAXTOR CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
December 27, December 28,
ASSETS 1997 1996
------------ ------------
Current assets:
Cash and cash equivalents $ 16,925 $ 31,313
Accounts receivable, net of allowance for doubtful accounts
of $3,573 at December 27, 1997 and $5,255 at December 28, 1996 241,777 82,876
Accounts receivable from affiliates 5,870 6,248
Inventories 155,312 80,878
Prepaid expenses and other 20,814 5,239
---------- ----------
Total current assets 440,698 206,554
Net property, plant and equipment 99,336 92,073
OTHER ASSETS 15,438 15,912
---------- ----------
$ 555,472 $ 314,539
---------- ----------
---------- ----------
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Short-term borrowings $ 100,057 $ 149,800
Short-term borrowings due to affiliates 65,000 --
Accounts payable 206,563 109,956
Accounts payable to affiliates 25,022 13,459
Accrued and other liabilities 155,563 139,678
---------- ----------
Total current liabilities 552,205 412,893
Long-term debt and capital lease obligations due after one year 224,313 229,109
Commitments and contingencies (Note 8) -- --
Stockholder's deficit:
Series A Preferred Stock, $0.01 par value, 95,000,000
shares authorized; 88,059,701 shares issued and
outstanding at December 27, 1997; 58,208,955 issued and
outstanding at December 28, 1996; aggregated liquidation value
$590,000 at December 27, 1997 and $390,000 at December 28, 1996 880 582
Common Stock, $0.01 par value, 110,000,000 shares authorized;
15,125 shares issued and outstanding at December, 27, 1997;
no shares issued and outstanding at December 28, 1996 -- --
Additional paid-in capital 534,765 335,017
Unrealized gain on investment in equity securities 16,262 --
Accumulated deficit (772,953) (663,062)
---------- ----------
Total stockholders' deficit (221,046) (327,463)
---------- ----------
$555,472 $314,539
---------- ----------
---------- ----------
SEE ACCOMPANYING NOTES.
26
MAXTOR CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS)
YEAR NINE MONTHS YEAR
ENDED ENDED ENDED
DECEMBER 27, DECEMBER 28, MARCH 30,
1997 1996 1996
-------------- --------------- --------------
Revenue $1,384,799 $771,655 $1,264,627
Revenue from affiliates 39,521 27,229 4,371
-------------- --------------- --------------
Total revenue 1,424,320 798,884 1,268,998
-------------- --------------- --------------
Cost of revenue 1,316,774 861,551 1,192,403
Cost of revenue from affiliates 36,162 27,307 3,902
-------------- --------------- --------------
Total cost of revenue 1,352,936 888,858 1,196,305
-------------- --------------- --------------
Gross profit (loss) 71,384 (89,974) 72,693
-------------- --------------- --------------
Operating expenses:
Research and development 106,249 87,752 94,717
Selling, general and administrative 62,520 60,701 82,775
Other -- -- 4,460
-------------- --------------- --------------
Total operating expenses 168,769 148,453 181,952
-------------- --------------- --------------
Loss from operations (97,385) (238,427) (109,259)
Interest expense (36,502) (18,075) (11,849)
Interest and Other Income 25,031 1,000 1,169
-------------- --------------- --------------
Loss before income taxes (108,856) (255,502) (119,939)
Provision for income taxes 1,035 824 2,826
-------------- --------------- --------------
Net loss $(109,891) $(256,326) $(122,765)
-------------- --------------- --------------
-------------- --------------- --------------
SEE ACCOMPANYING NOTES.
27
MAXTOR CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
Preferred stock Common stock Additional
--------------------- ------------------------- paid-in Accumulated
Shares Amount Shares Amount capital deficit
----------- ---------- ------------- ---------- ------------ ---------------
Balance, March 25, 1995 -- $ -- 51,697,287 $517 $327,357 $(283,971)
Issuance of common stock under stock
option plans -- -- 1,134,805 11 4,734 -
Issuance of common stock under stock
purchase plan -- -- 800,426 8 2,972 -
Shares canceled resulting from
acquisition by HEA -- -- (53,631,918) (536) 536 -
Net Loss -- -- -- -- -- (122,765)
----------- ---------- ------------- ---------- ------------ ---------------
Balance, March 30, 1996 -- -- 600 -- 335,599 (406,736)
Exchange of common shares for
Series A Preferred 58,208,955 582 (600) -- (582) -
Net loss -- -- -- -- -- (256,326)
------------- ---------- ------------- ---------- ------------ ---------------
Balance, December 28, 1996 58,208,955 582 -- -- 335,017 (663,062)
Issuance of additional Series A
Preferred to parent in exchange
for debt 29,850,746 298 -- -- 199,702
Issuance of stock under stock
option plan and related benefits 15,125 46
Change in unrealized gain on
equity investment --
Net loss (109,891)
------------- ---------- ------------- ---------- ------------ ---------------
Balance, December 27, 1997 88,059,701 $880 15,125 $-- $534,765 $(772,953 )
------------- ---------- ------------- ---------- ------------ ---------------
------------- ---------- ------------- ---------- ------------ ---------------
Unrealized Gain Total
on Investment stockholder's
in Equity equity
Securities (deficit)
--------------- --------------
Balance, March 25, 1995 $- $43,903
Issuance of common stock under stock
option plans - 4,745
Issuance of common stock under stock
purchase plan - 2,980
Shares canceled resulting from
acquisition by HEA -
Net loss - (122,765)
--------------- --------------
Balance, March 30, 1996 - (71,137)
Exchange of common shares for
Series A Preferred - -
Net loss - (256,326)
--------------- --------------
Balance, December 28, 1996 - (327,463)
Issuance of additional Series A
Preferred to parent in exchange
for debt - 200,000
Issuance of stock under stock
option plan and related benefits 46
Change in unrealized gain on
equity investment 16,262 16,262
Net loss (109,891)
--------------- --------------
Balance, December 27, 1997 $16,262 $(221,046)
--------------- --------------
--------------- --------------
SEE ACCOMPANYING NOTES.
28
MAXTOR CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
Year Nine months Year
ended ended ended
December 27, December 28, March 30,
1997 1996 1996
------------- ------------- -----------
Increase (decrease) in cash and cash equivalents
Cash flows from operating activities:
Net loss $(109,891) $(256,326) $(122,765)
------------- ------------- -----------
Adjustments to reconcile net loss
to net cash used in operating activities:
Depreciation and amortization 65,642 47,064 45,200
Reserves for lower of cost or market -- 15,194 --
Change in non-current deferred tax liabilities -- -- 300
Loss on disposal of property, plant and equipment 4,366 700 669
Gain on sale of subsidiary -- (2,385) --
Gain on fully reserved note receivable from
affiliate (20,000) -- --
Other (157) (589) --
Changes in assets and liabilities:
Accounts receivable (142,860) 62,786 (12,485)
Accounts receivable from affiliates 378 (1,822) (2,229)
Net collections of accounts receivable
sold to financing company -- 16,327 --
Inventories (74,434) 45,955 (66,255)
Prepaid expenses and other 687 3,839 (2,947)
Accounts payable 102,108 (37,297) 18,407
Accounts payable to affiliates 11,563 4,803 8,656
Accrued and other liabilities 15,885 13,015 637
------------- ------------- -----------
Total adjustments (36,822) 167,590 (10,047)
------------- ------------- -----------
Net cash used in operating activities (146,713) (88,736) (132,812)
------------- ------------- -----------
Cash flows from investing activities:
Proceeds from sale of subsidiary -- 25,000 --
Cash received on a note receivable from affiliate 20,000 -- --
Proceeds from maturities of available-for-sale investments -- -- 11,998
Purchase of property, plant and equipment (82,489) (53,780) (72,656)
Proceeds from disposals of property, plant and equipment 609 363 354
Other assets 621 (7,599) (928)
------------- ------------- -----------
Net cash used in investing activities (61,259) (36,016) (61,232)
------------- ------------- -----------
Cash flows from financing activities:
Proceeds from issuance of debt, including short-term borrowings 319,363 410,715 145,595
Principal payments on debt, including capital lease obligations (309,784) (307,444) (3,000)
Proceeds from issuance of common stock, net of issuance
of notes receivable and stock repurchase 46 -- 7,725
Proceeds from intercompany notes issued to parent 200,000 -- --
Net payments under accounts receivable securitization (16,041) -- --
------------- ------------- -----------
Net cash provided by financing activities 193,584 103,271 150,320
------------- ------------- -----------
Net decrease in cash and cash equivalents (14,388) (21,481) (43,724)
Cash and cash equivalents at beginning of period 31,313 52,794 96,518
------------- ------------- -----------
Cash and cash equivalents at end of period $16,925 $31,313 $52,794
------------- ------------- -----------
------------- ------------- -----------
SEE ACCOMPANYING NOTES.
29
MAXTOR CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS - (CONTINUED)
(IN THOUSANDS)
Year Nine months Year
ended ended ended
December 27, December 28, March 30,
1997 1996 1996
------------- ------------- ---------
Supplemental disclosures of cash flow information:
Cash paid (received) during the year for:
Interest $26,540 $13,444 $ 9,362
Income taxes 1,025 2,009 1,801
Income tax refunds -- -- (3,173)
Supplemental information on noncash investing and financing activities:
Purchase of property, plant and equipment financed by accounts payable 2,670 8,171 4,949
Purchase of property, plant and equipment financed by capital leases 881 -- --
Exchange of Common Stock for Series A Preferred Stock 582 --
Exchange of notes payable for Series A Preferred Stock 200,000 -- --
Unrealized gain in equity investments 16,262 -- --
------------- ------------- ---------
SEE ACCOMPANYING NOTES.
30
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Maxtor
Corporation and its wholly-owned subsidiaries (Maxtor or the Company). All
significant intercompany accounts and transactions have been eliminated.
Maxtor Corporation operates as a majority-owned subsidiary of Hyundai
Electronics America (HEA).
FISCAL YEAR
During 1996, the Company changed its fiscal year end to be consistent with
the year end of its parent, HEA. The fiscal year end changed from the last
Saturday of March, the date used in the Company's prior filing of its Form
10-K with the Securities and Exchange Commission, to the last Saturday of
December conforming to its 52/53-week year methodology. The current year
ended on December 27, 1997 comprises 52 weeks. Fiscal period ended on
December 28, 1996 comprised 39 weeks. Fiscal year ended March 30, 1996
comprised 53 weeks.
NATURE OF BUSINESS
The Company develops, manufactures and markets hard disk drive products to
customers who sell their products in the personal computer industry.
Products are designed for desktop applications to meet both value and
high-performance needs of customers. Customers include original equipment
manufacturers (OEMs), distributors, and national retailers. Additionally,
several smaller retailers and value-added resellers (VARs) carry Maxtor
products purchased through Maxtor's distribution network. The Company relies
on suppliers for components including heads, disks and custom integrated
circuits. Although printed circuit board assemblies and head stack
assemblies are outsourced, head disk assemblies are completed by the Company.
All the Company's products are manufactured by Maxtor at its manufacturing
facility in Singapore and sold in North America, Europe and Asia.
ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.
The actual results with regard to warranty expenditures could have a material
unfavorable impact on the Company if the actual rate of unit failure or the
cost to repair a unit is greater than what the Company has used in estimating
its warranty expense accrual.
Given the volatility of the market for disk drives and for the Company's
products, the Company makes adjustments to the value of inventories based on
estimates of potentially excess and obsolete inventories and negative margin
products after considering forecasted demand and forecasted average selling
prices. However, forecasts are always subject to revisions, cancellations,
and rescheduling. Actual demand will inevitably differ from such anticipated
demand and such differences may have a material impact on the financial
statements.
RISKS AND UNCERTAINTIES
The Company's business entails a number of risks. As is typical in the disk
drive industry, the Company must utilize leading edge components for its new
generation of products which may only be available from a limited number of
suppliers. While the Company has qualified and continues to qualify multiple
sources for many components, it is reliant on, and will continue to be
reliant on, the availability of supply from its vendors for many semi-custom
and custom integrated circuits, heads, media and other key components. Any
de-commitments from customers for product or delays of components from
vendors could have an adverse impact on the Company's ability to ship products
as scheduled to its customers.
The Company's ultimate parent is Hyundai Electronics Industries Co. Ltd.
(HEI), a Korean corporation. The Korean economy has recently suffered a
period of economic turmoil, which has resulted in the devaluation of the
Korean currency and large volatility in interest rates. A significant
portion of the Company's debt is guaranteed by HEI, and the Company is
currently dependent upon the HEI guarantees. The Company currently has a
written letter of support from HEI to support operations through May 31, 1999.
As further described in Note 7, it is reasonably possible that further
deteriorations in the Korean economy and the value of the Korean currency
could have an adverse effect on the ability of the ultimate parent to
continue to guarantee the debt of the Company. While the Company believes
that other sources of credit would be available, and has obtained a
commitment from an affiliate company for certain debt, there is no assurance
that such other credit would be available, either in the amount or at the
rates currently available to the Company.
31
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments, which are purchased with
an original maturity of three months or less, to be cash equivalents.
EQUITY SECURITIES All equity securities are classified as available-for-sale.
Available-for-sale securities are carried at fair value. Unrealized gains and
losses on securities classified as available-for-sale, when material, are
reported net of taxes as a separate component of stockholder's equity.
Realized gains and losses on sales of all such investments are included in
the results of operations computed using the specific identification cost
method.
INVENTORIES
Inventories are stated at the lower of cost (computed on a first-in,
first-out basis) or market.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost and are depreciated on the
straight-line basis over the estimated useful lives of the assets, which
generally range from three to five years, except for buildings which are
depreciated over thirty years. Assets under capital leases and leasehold
improvements are amortized over the shorter of the asset life or the
remaining lease term. Capital lease amortization is included with
depreciation expense. Upon a disposal, the Company removes the asset and
accumulated depreciation from its records and recognises the related gain or
loss in results of operations.
REVENUE RECOGNITION AND PRODUCT WARRANTY
Revenue is recognized upon product shipment. Revenue from sales to certain
distributors is subject to agreements providing limited rights of return, as
well as price protection on unsold merchandise. Accordingly, the Company
records reserves upon shipment for estimated returns, exchanges and credits
for price protection. The Company also provides for the estimated cost to
repair or replace products under warranty at the time of sale. The Company
currently warrants its products against defects in parts and labor from the
date of shipment with an additional three months allowed for distributors to
account for "shelf life". All products currently in production are warranted
for a period of 36 months after shipment.
ADVERTISING EXPENSE
Cooperative advertising costs are charged as the related revenue is earned
and other advertising costs are expensed as incurred. Advertising costs were
not significant for the fiscal year ended December 27, 1997, the nine months
ended December 28, 1996 and the fiscal year ended March 30, 1996,
respectively.
ACCOUNTING FOR INCOME TAXES
The Company accounts for income taxes under the liability method. Under the
liability method, deferred tax assets and liabilities are determined based on
differences between financial reporting and tax bases of assets and
liabilities and are measured using the enacted tax rates and laws that will
be in effect when the differences are expected to reverse. The Company is
required to adjust its deferred tax liabilities in the period when tax rates
or the provisions of the income tax laws change. Valuation allowances are
established to reduce deferred tax assets to the amounts expected to be
realized.
FOREIGN CURRENCY TRANSLATION
The functional currency for all foreign operations is the U.S. dollar. As
such, all material foreign exchange gains or losses are included in the
determination of net loss. Net foreign exchange losses included in net loss
for the fiscal year ended December 27, 1997, the nine months ended
December 28, 1996 and the fiscal year ended March 30, 1996 were immaterial.
32
CONCENTRATIONS OF CREDIT RISK
Financial instruments which potentially subject the Company to concentrations
of credit risk consist primarily of accounts receivable and cash equivalents.
The Company's products are sold worldwide to original equipment
manufacturers, distributors, and retailers. Concentration of credit risk
with respect to the Company's trade receivables is limited by the Company's
ongoing credit evaluation process and the geographical dispersion of sales
transactions. Therefore, the Company generally requires no collateral from
its customers. The allowance for doubtful accounts is based upon the
expected collectibility of all accounts receivable. The Company has cash
equivalent and short-term investment policies that limit the amount of credit
exposure to any one financial institution and restrict placement of these
funds to financial institutions evaluated as highly credit-worthy. As of
December 27, 1997, the Company had one customer who accounted for more than
10% of the outstanding trade receivables. One customer accounted for more
than 10% of outstanding trade receivables at March 30, 1996. If the customer
fails to perform its obligations to the Company, such failure would have
adverse effects upon the Company's financial position, results of operations,
cash flows, and liquidity.
LONG-LIVED ASSETS
The Company reviews property and equipment and other long lived assets for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability is
measured by comparison of its carrying amount to future net cash flows the
assets are expected to generate. If such assets are considered to be
impaired, the impairment to be recognized is measured as the amount by which
the carrying amount of the asset exceeds the present value of the future net
cash flows.
STOCK-BASED COMPENSATION
The Company has elected to continue to follow the provisions of APB No. 25,
"Accounting for Stock Issued to Employees", for financial reporting purposes
and has adopted the disclosure only provisions of Statement of Financial
Accounting Standards (SFAS) No. 123. "Accounting for Stock-Based
Compensation". Accordingly, no compensation cost for the Company's 1996
Stock Option Plan has been recognized.
FINANCIAL ASSETS AND EXTINGUISHMENT OF LIABILITIES
The Company accounts for its accounts receivable securitization program in
accordance with (SFAS) No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities".
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued Statement
issued SFAS No. 130, "Reporting Comprehensive Income". This statement
establishes requirements for disclosure of comprehensive income and is
effective for financial statements issued for fiscal years beginning after
December 15, 1997, with reclassification of earlier financial statements for
comparative purposes. Comprehensive income generally represents all changes
in stockholder's equity except those resulting from investments or
contributions by stockholders. The Company is evaluating alternative formats
for presenting this information, but does not expect this pronouncement to
materially impact the Company's results of operations.
33
In June 1997, the Financial Accounting Standards Board issued Statement
issued SFAS No 131, " Disclosures about Segments of an Enterprise and Related
Information. This statement establishes standards for disclosure about
operating segments in annual financial statements and selected information in
interim financial reports. It also establishes standards for related
disclosures about products and services, geographic areas and major
customers. This statement supersedes SFAS No. 14, "Financial Reporting for
Segments of a Business Enterprise. The new standard becomes effective for
fiscal years beginning after December 15, 1997, and requires that comparative
information from earlier years be restated to conform to the requirements of
this standard. The Company is evaluating the requirements of SFAS 131 and the
effects, if any, on the Company's current reporting and disclosures.
2. SUPPLEMENTAL FINANCIAL STATEMENT DATA
December 27, December 28,
1997 1996
----------- ------------
(In thousands)
Inventories:
Raw materials $48,834 $33,012
Work-in-process 15,177 1