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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 September 30, 1998
or
[ ] TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 0-23038
TANISYS TECHNOLOGY, INC.
(Exact name of registrant as specified in its charter)
WYOMING 74-2675493
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
12201 TECHNOLOGY BLVD., SUITE 125
AUSTIN, TEXAS 78727
(Address of principal executive offices) (Zip Code)
(512) 335-4440
(Registrant's Telephone Number, Including Area Code)
Securities to be registered pursuant to Section 12(b) of the Act: NONE
Securities to be registered pursuant to Section 12(g) of the Act:
COMMON STOCK, NO PAR VALUE PER SHARE
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. [X] Yes [ ] No
1
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K (Section 229.405 of this chapter) is not contained
herein, and will not be contained, to the best registrant's knowledge, in
definitive proxy or information statements incorporated by reference in Part
III of this Form 10-K or any amendments to this Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates of
the registrant as of December 21, 1998 was approximately $35.4 million based
upon the closing sale price of the Common Stock as reported on the Nasdaq
SmallCap Market. Shares of common stock held by each executive officer and
director and by each person who owns 5% or more of the outstanding Common
Stock have been excluded in that such persons may be deemed to be affiliates.
This determination of affiliate status is not necessarily a conclusive
determination for other purposes.
Indicated below is the number of shares outstanding of the registrant's
only class of common stock at December 21, 1998:
NUMBER OF SHARES
TITLE OF CLASS OUTSTANDING
-------------- -----------
Common Stock, no par value 21,874,714
2
TANISYS TECHNOLOGY, INC. AND SUBSIDIARIES
1998 ANNUAL REPORT ON FORM 10-K
INDEX
PAGE
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PART I
ITEM 1. BUSINESS . . . . . . . . . . . . . . . . . . . . . . . . . . 4
ITEM 2. PROPERTIES . . . . . . . . . . . . . . . . . . . . . . . . . 14
ITEM 3. LEGAL PROCEEDINGS. . . . . . . . . . . . . . . . . . . . . . 15
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. . . . . 15
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS. . . . . . . . . . . . . . . . . . . . . 15
ITEM 6. SELECTED FINANCIAL DATA. . . . . . . . . . . . . . . . . . . 16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS. . . . . . . . . . . . . . . . . . 17
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK . 31
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. . . . . . . . . 32
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE . . . . . . . . . . . . . . . . . . 53
PART III.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY. . . . . . . 53
ITEM 11. EXECUTIVE COMPENSATION . . . . . . . . . . . . . . . . . . . 56
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT . . . . . . . . . . . . . . . . . . . . . . . . . 62
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS . . . . . . . 64
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K . . . . . . . . . . . . . . . . . . . . . . . . . . 65
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68
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PART I.
ITEM 1. BUSINESS
FORWARD-LOOKING STATEMENTS - CAUTIONARY STATEMENTS
The following discussions contain trend information and other
forward-looking statements that involve a number of risks and uncertainties.
The actual results of Tanisys Technology, Inc., and its wholly owned
subsidiaries, 1st Tech Corporation ("1st Tech"), DarkHorse Systems, Inc.
("DarkHorse"), Rosetta Marketing and Sales, Inc. ("Rosetta") and Tanisys
(Europe) Ltd., (collectively, the "Company" or "Tanisys"), could differ
materially from its historical results of operations and those discussed in
the forward-looking statements. The forward-looking statements are based on
the beliefs of the Company's management as well as assumptions made by and
information currently available to the Company's management. When used
herein, the words "anticipate," "believe," "estimate," "expect" and "intend"
and words or phrases of similar import, as they relate to the Company or its
subsidiaries or the Company's management, are intended to identify
forward-looking statements. Such statements reflect the current risks,
uncertainties and assumptions related to certain factors. Factors that could
cause actual results to differ materially include, but are not limited to,
business conditions and growth in the electronics industry and general
economies, both domestic and international; lower than expected customer
orders; customer relationships and financial condition; relationships with
vendors; the interest rate environment; governmental regulation and
supervision; seasonality; distribution networks; delays in receipt of orders
or cancellation of orders; competitive factors, including increased
competition and new product offerings by competitors and price pressures; the
availability of parts and supplies at reasonable prices; changing
technologies; acceptance and inclusion of the Company's technologies by
original equipment manufacturers ("OEMs"); changes in product mix; new
product development; the negotiation of new contracts; significant quarterly
performance fluctuation due to the receipt of a significant portion of
customer orders and product shipments in the last month of each quarter;
product shipment interruptions due to manufacturing problems; one-time
events; and other factors described herein. Based upon changing conditions,
should any one or more of these risks or uncertainties materialize, or should
any underlying assumptions prove incorrct, actual results may vary materially
from those described herein as anticipated, believed, estimated, expected or
intended. The Company does not intend to update these forward-looking
statements. The forward-looking statements should be read in light of these
factors and the factors identified in "Item 1. Business" and in "Item 7.
Management's Discussion and Analysis of Financial Condition and Results of
Operations." All references to year periods refer to the Company's fiscal
years ended September 30, 1998, 1997 or 1996, and references to quarterly
periods refer to the Company's fiscal quarters ended December 31, March 31,
June 30 and September 30.
GENERAL
The Company offers build-to-order ("BTO") services, designs and markets
products consisting of semiconductor memory module products, designs and
builds memory module testers and provides design services in conjunction with
the licensing of its Touch sensor products. Operating under the Tanisys
Technology name since 1994, the Company has developed into an independent
manufacturer of standard and custom semiconductor memory modules for a
variety of semiconductor manufacturers and computer and electronics OEMs. The
Company also markets the DarkHorse line of memory testers and licenses its
proprietary Tanisys Touch technology. During fiscal 1998, the Company
continued to change its focus from selling off-the-shelf semiconductor memory
modules to specializing in services designed to provide OEM customers with
build-to-order board-level solutions. Currently, approximately 42% of the
Company's revenues are derived from selling turnkey and off-the-shelf
semiconductor memory modules. In connection with its BTO services, the
Company has developed extensive design and manufacturing expertise under its
Comprehensive Logistics and Supply Solutions ("CLASS") program to respond to
its customers' rapidly changing requirements. To this end, the Company
maintains design centers and manufacturing facilities in Austin, Texas and
Hamilton,
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Blantyre, Scotland. The Company's principal customers include electronic
semiconductor manufacturers, OEMs and memory module manufacturers. The
Company's semiconductor manufacturer and OEM customers currently include
Siemens AG, LG Semicon, Hitachi Semiconductor (America), Inc., Vanguard
International Semiconductor Corporation ("Vanguard"), Dell Computer
Corporation ("Dell"), Bay Networks, Inc. ("Bay") and Solectron Corporation
("Solectron"). The Company also provides products for the BTO
programs of Compaq Computer Corporation ("Compaq"), Dell, International
Business Machines Corporation ("IBM") and Hewlett-Packard Company ("HP").
INDUSTRY BACKGROUND
The demand for semiconductor memory modules in digital electronic
systems has grown significantly over the last several years, resulting in the
increased importance of memory in determining system performance. An
increasing demand for greater system performance requires that electronics
manufacturers increase the amount of memory incorporated into a system.
Factors contributing to the growing demand for memory include growing
unit sales of personal computers ("PCs") in the business and consumer market
segments; increasing use of PCs to perform memory-intensive graphics tasks;
increasingly faster microprocessors; the release of increasingly memory
intensive software; and the increasing performance requirements of PCs,
workstations, servers and networking and telecommunications equipment.
Semiconductor memory products are segmented into three primary classes:
Dynamic Random Access Memory ("DRAM"), Static Random Access Memory ("SRAM")
and non-volatile memory, such as Flash memory. DRAM typically is the large
"main" memory of systems, SRAM provides higher performance and Flash memory
and other non-volatile memory retain their contents when power is removed. In
addition, within each of these broad categories of memory products,
semiconductor manufacturers are offering an increasing variety of memory
devices designed for application specific uses.
The growing variety of memory components also drives demand for memory
tester systems to test each of these memory module types.
The Dram Market
Of the three primary classes of semiconductor memory, DRAM is used
predominately in computers due to lower cost than SRAM and Flash memory and
higher performance than Flash memory. Market demand for higher performance
PCs and workstations and the increased shipments of high-throughput
networking and telecommunications systems are creating a need for higher
volumes of DRAM memory in electronic systems. IBM has estimated that PCs use
70% of all memory, and market researcher de Dios and Associates estimates
that the average amount of memory shipped inside each PC will grow from less
than 40 megabytes in first calendar quarter 1998 to 92 megabytes by the end
of 2000.
The Company believes that the near-term DRAM market will separate into
segments for PC suppliers and other DRAM customers. PC customers are
completing a migration to Synchronous DRAM ("SDRAM") technology and beginning
an expected shift in 1999 to Direct Rambus-TM- technology. Popular among the
architectures for other DRAM customers are Fast Page Mode ("FPM") and
Extended Data Out ("EDO"), although the other DRAM customers tend to adopt
the standards of PC suppliers over time. DRAM integrated circuits are
undergoing a shift through 64 megabit ("Mbits") technology to 128 and even
256 Mbits and in operating voltages from 5.0 volts to 3.3 volts and less. The
Company anticipates the number of distinct module types will increase over
the next few years.
5
The Sram Market
The market for SRAM typically is segmented into low power and high speed
segments. Low power SRAM devices are used primarily in computing or
electronics industry applications in which minimal power consumption is the
top priority. Popular uses of low power SRAM devices include portable
computers that rely on battery power.
The primary market demand for high speed SRAM devices is to "buffer"
fast system components from slower system components. In PCs, the most common
use of SRAM devices has been as "cache" memory, which increases a system's
performance and avoids having the increasingly faster microprocessor waiting
on slower DRAM. Access rates of DRAMs are increasing relative to SRAMs in
many cases, and the demand for cache memory has become limited to non-PC
markets. SRAMs have become a solution of choice in many new
telecommunications and datacommunications designs.
The Flash Memory Market
Flash memory is a specialized non-volatile memory that can be updated
similar to DRAM but retains its data after power has been turned off. The
ability to update the contents of Flash memory is the main benefit relative
to most other non-volatile memory devices, such as erasable programmable read
only memory ("EPROM") devices, that makes Flash memory useful for containing
software which is likely to need updating. Typical uses include Basic Input
Output System ("BIOS") for PCs, control memory for the rapidly evolving
market of thin client/network computer/Windows terminals, control programs
for new types of computer peripherals and networking equipment and storage
for portable computers, personal digital assistants and digital cameras.
Consequently, the market for Flash memory is growing rapidly.
Flash memory is often packaged in removable modules to meet the needs of
portable applications. These modules vary widely for their target systems.
There are many Flash memory architectures available in the market today,
which often are offered in multiple modes and voltages. The number of Flash
memory configurations has proliferated widely.
Build to Order Module Segment
The memory module market is segmented into off-the-shelf and custom
components. Off-the-shelf modules often comply with industry standards and
are available from multiple vendors. These are usually popular, high volume
designs using DRAM memory which are used in desktop PCs, mobile computers,
servers, network equipment and computer peripherals. These modules typically
are sold directly to OEMs and to end users via computer resellers.
Custom semiconductor memory modules meet the unique needs of OEM
computer and electronic systems. The proliferation of memory device options
has resulted in specialized semiconductor memory modules that are ideal for
the performance of a particular system or a set of applications but are not
available off the shelf. These custom modules typically are contracted from a
few suppliers. The limited market for such modules often dictates BTO
manufacturing in order to limit inventory risks.
Computer and electronics manufacturers frequently choose to use memory
expert partners for the design and manufacture of semiconductor memory
modules due to the wide array of memory devices which can be considered for a
target system. Increasing speeds make the design and testing of modules more
complex, thus using memory partners permits system manufacturers to focus on
differentiating their product. OEMs outsource these services in a range of
levels, including build-to-print (manufacturing only), turnkey design and
manufacture, vendor specification and build-to-order.
6
In August of 1998 market researcher Semico Research Corporation
recognized a new class of module supplier which it called Module
Manufacturers providing Engineering design and Test capabilities ("MMETs").
These new suppliers focus on supplying modules for OEMs and Semico has
proclaimed them as the "successful" module supplier. The increasing trend
toward BTO has driven both OEMs and semiconductor manufacturers to accept
MMETs as a natural part of the supply chain for modules. As a result, the
semiconductor manufacturers who provide memory components no longer dominate
the manufacture of modules, often outsourcing production to MMETs while
selling the modules under their own brand to major OEMs. The Company expects
a continuing trend toward independent suppliers as it believes that
semiconductor manufacturers do not have a business model in place which is
suited to meet the needs of many large customers of custom semiconductor
memory modules, including BTO support.
Memory Module Market
Semiconductor memory modules ("modules") are small printed circuit board
assemblies containing memory devices and support components. Many computer
and electronic systems use modules to permit OEMs to more easily upgrade
their systems and to increase flexibility by permitting different types of
modules to configure one base system for multiple price or performance
targets. Semiconductor memory modules are nearly always attached to a main
system board in a daughter card fashion rather than directly to a computer
system board, for reasons of upgradeability and flexibility. Memory modules
permit OEMs to manufacture systems on a build-to-order basis by configuring
the system after the customer's order is placed. The benefits of BTO for OEMs
are faster announcement of new systems, increased customer satisfaction,
reduced inventory risk and reduced costs. Semico Research Corporation
estimates the market size for semiconductor memory modules in 1998 will be
$14.8 billion worldwide.
Modules typically are manufactured by leading semiconductor memory
component companies and independent third party suppliers. Semiconductor
manufacturers sell modules almost exclusively to OEMs. Third party
manufacturers of modules supply product to two primary market segments: the
OEM channel and the reseller channel. Third party suppliers to the OEM
channel typically offer custom product, although some computer and peripheral
OEMs use off-the-shelf modules. Third party suppliers to the reseller channel
typically offer standard DRAM modules as an upgrade product sold through
computer distributors and retail channels. Both semiconductor memory
suppliers and independent third party module manufacturers are customers for
module testers, and as such, represent both potential customers and
competitors of the Company. The memory module tester market is described
below under the heading "Memory Module Tester Market."
Memory Module Tester Market
Memory module testers are important to assure that semiconductor memory
modules meet the necessary specifications of performance. Memory module
tester use typically is segmented into system manufacture and system
aftermarket. System manufacture typically requires the manufacturer of the
memory module to test its completed modules under the same demands as actual
use. Most module manufacturers perform "at speed" testing of all modules with
accurate testers. The Company believes that module tester buyers typically
evaluate reliability, productivity, accuracy, advanced automation, software
flexibility, service, customer support and price as purchase criteria.
Significant new purchases of test capacity are likely due to changing
architectures and strong growth of memory demand.
The actual test for a module is unique to its design in terms of
architecture, pinout, speed rating, voltage, organization and size and will
use any of several common test algorithms. Therefore, the number of potential
memory test configurations is much greater than the number of semiconductor
memory modules. This makes test
7
development a potentially costly task. The ability of a tester manufacturer
to provide support for the development of low cost, accurate tests is a
significant consideration in the buying decision.
Module testing requirements for the system aftermarket typically are
less robust. Memory additions to systems in use typically are already tested
in accordance with the needs of system manufacturers and often may need only
module identification to assure the correct module is being installed.
Servicing of failed systems often requires limited testing of modules but
typically does not require "at speed" testing. As a result, aftermarket
module testing often needs less rigorous test capabilities but higher
portability and lower cost than does module testing at the time of system
manufacture.
Touch Sensor Market
The touch sensor market is extremely broad since the sensor is capable
of being utilized in switches used in many applications. Switches using
touch sensor technology provide several customer benefits including low
profile, high durability, low cost, easy customization and sealed,
environmentally robust characteristics.
PRODUCTS AND SERVICES OF THE COMPANY
The Company offers BTO services, designs and markets products consisting
of semiconductor memory modules, designs and builds memory module testers and
provides design services in conjunction with the licensing of its Touch
sensor products. The Company's semiconductor memory modules include DRAM,
SRAM and Flash memory. The Company offers custom semiconductor memory
modules, as well as standard semiconductor memory modules that comply with
industry standards established by the Joint Electronic Development
Engineering Council ("JEDEC"). The Company's memory module testers are
oriented for both system assembly and aftermarket purposes and include a
broad line of test fixtures and test algorithm suites.
Comprehensive Logistics and Supply Solutions
The Company offers BTO services for custom products under its CLASS
program. CLASS is oriented toward building alliances with semiconductor
suppliers and major computer and electronic manufacturers. The Company will
assist these customers in achieving fast time-to-market for new products as
well as rapid manufacturing cycle times. The Company will assist
semiconductor suppliers to develop increased market share and help computer
and electronic manufacturers to be faster to market, providing lower cost and
more rapidly satisfying the needs of their customers.
Specific functions of CLASS include design/development, quick-turn
prototyping, assembly, test development, documentation, supply chain
management, complete Electronic Data Interchange ("EDI") integration, support
services and security/disaster recovery plan. The Company offers design
expertise in memory and other product areas and is unique in maintaining its
own commercial memory module test equipment capabilities.
Semiconductor Memory Modules
The Company offers off-the-shelf memory modules under its own brand with
its FOCUS program. The program is intended to add value to commodity like
third party memory market by providing many of the benefits of the CLASS
program to OEMs who are too small to receive direct support from
semiconductor companies. These companies are interested in a consistent
supply of modules they cannot get from the commodity market and are also
interested in custom design and qualification services.
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The Company offers a wide line of DRAM semiconductor memory modules,
including single in-line semiconductor memory modules ("SIMMs"), dual in-line
semiconductor memory modules ("DIMMs") and small outline dual in-line
semiconductor memory modules ("SO DIMMs"). The Company's DRAM modules are
available in various configurations of up to 168 pins and densities of up to
512 MBytes. These modules are available in FPM, EDO, SDRAM and SGRAM
architectures, with both 5.0 volt and 3.3 volt versions.
The following chart summarizes the Company's more than 838 off-the-shelf
DRAM module products:
PRODUCT DESCRIPTION TYPES MODES DENSITIES PRIMARY USAGE
168-pin PC100 x64/x72ECC SDRAM 16MB- Newest PCs, highend workstations
Synchronous DIMM 256MB
168-pin PC66 x64/x72ECC FPM/EDO 16MB- Newer PCs, servers, workstations, routers
Synchronous DIMM 256MB
168-pin PC100 x72ECC SDRAM 32MB- Newest highend servers
Registered DIMM 512MB
168-pin DIMM (buffered x64/x72ECC FPM/EDO 8MB-128MB Legacy PCs, switches, routers, controllers
or unbuffered)
144-pin Synchronous x64 SDRAM 8MB-128MB Newest notebooks, network PCs, set tops
SO-DIMM
144-pin SO-DIMM x64 FPM/EDO 8MB-64MB Later notebooks, laptops and set tops
72-pin SO-DIMM x32 FPM/EDO 4MB-32MB Legacy laptops, notebooks ATMs
72-pin SIMMs X32/x36/x40 FPM/EDO 4MB-128MB Legacy PC servers, routers and controllers
Memory Module Tester Products
The Company's memory module testers are marketed under the DarkHorse
brand name to utilize existing brand awareness. The tester line is oriented
toward both module manufacturers for system assembly and aftermarket
purposes. The SIGMA-3 tester is sold to module manufacturers who build
leading edge SDRAM modules for the newest PC100 specification for personal
computers and targets high volume production testing. The SIGMA-2 tester is
designed for module manufacturers who need to perform "at speed" tests of
older synchronous and asynchronous DRAM, SRAM, Flash memory and VRAM modules.
It is aggressively priced relative to major competitors. The SIGMA-3 and
SIGMA-2 are used widely by leading module manufacturers throughout the world.
The Company also markets the portable SIGMA-LC and SYNC-LC testers for
the aftermarket segment. Customers in this segment value the ease-of-use and
rapid identification of module type. The types of customers for these testers
include module manufacturers, module retailers, large retail chains using
them for PC service purposes, and distributors.
New tester development is ongoing, driven by new memory industry
developments.
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The DarkHorse testers have standard or optional capabilities to support
the following types of products:
- - 30 and 72 pin SIMMs for PCs -- Buffered 168 pin DIMMs for PCs
- - Registered 168 pin DIMMs for workstations and servers
- - Buffered 168 pin DIMMs for PCs
- - Unbuffered 168 pin DIMMs for PCs
- - Unbuffered 168 pin SDRAM DIMMs for PCs
- - 144 pin SO DIMMs for certain proprietary notebook computers
- - 144 pin JEDEC SO DIMMs
- - SOJ normal DRAM components
- - SOJ SRAM components
- - SOJ wide DRAM components
- - TSOP DRAM components
- - DIP SRAM components
- - Notebook docking adapters
- - 60, 68 and 88 pin credit card semiconductor memory modules
- - VRAM upgrades
- - 80 pin JEDEC Flash memory
- - Modules for Intel Corp. "COAST" architecture
- - Prototype development of proprietary test fixtures
The Company differentiates its testers by targeting its tester features
specifically for the purpose of testing specific types of memory products.
The Company's testers are designed for comparable performance at lower prices
relative to general purpose testers offered by HP and Advantest.
Touch Sensor Products
Tanisys Touch is a proprietary technology which the Company attempts to
protect by patents, copyrights and trademarks, and is available for licensing
to third parties for incorporation into their products. The Company licenses
Tanisys Touch to OEMs which embed it into various products as a robust
switching mechanism. The touch sensor market is primarily an alternative to a
variety of switch technologies such as mechanical switches, membrane switches
and bubble switches.
Some advantages of Tanisys Touch relative to alternative switch
technologies are no moving parts, high reliability, ability to work through
most plastics, easy customization, ability to work on multiple materials and
low cost. Relative to other vendors' touch implementations, Tanisys Touch
does not need reference capacitors, analog-to-digital converters or multiple
electrodes. Instead, the Company's proprietary technology is designed to be a
reliable, simple, low cost touch implementation, and the Company intends to
position these advantages against alternative switch technologies.
CUSTOMERS, SALES AND MARKETING
The Company's primary customers include semiconductor manufacturers,
computer and electronics OEMs, memory module and electronic contract
manufacturers, and distributors. In fiscal 1998 and 1997, the Company's ten
largest customers accounted for approximately 74.4% and 53.2% of net sales,
respectively. During fiscal 1998, the Company had two customers, Siemens AG
and LG Semicon which accounted for 27.4% and 14.1% of the Company's net
sales, respectively. In fiscal 1997, one customer, Tandy Corporation,
accounted for 11.7% of net sales.
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The Company primarily sells its module products directly and through a
network of independent sales representative organizations to OEM customers
worldwide. The Company sells the majority of its tester products directly to
other module manufacturers and sells a portion through distribution partners
and independent sales representative organizations. Licensing of Tanisys
Touch is through licensing agreements with customers.
The Company maintains relationships with leading global suppliers of
memory semiconductor devices and frequently works jointly with these
suppliers in quoting customer opportunities.
The Company's OEM marketing activities include advertising in trade and
business magazines, direct mail and solicitation via the Company's Internet
web site.
Sales generally are made against standard customer purchase orders. The
Company's backlog generally includes those customer orders for which it
accepted purchase orders and planned shipment dates within the next year.
Backlog is not an indicator of future sales, and orders in the backlog are
subject to change in delivery terms or even cancellation. Accordingly, there
is no assurance that current backlog will lead to future sales. The Company's
total backlog was $4.5 million and $2.4 million at fiscal 1998 and 1997 year
end, respectively.
Research and Development
The Company's management believes that the timely development of new
products and technologies is essential to maintain the Company's competitive
position. In the electronics market, the Company's research and development
activities are focused primarily on new module products, the continual
improvement in memory test products and solutions and the ongoing improvement
in manufacturing processes and technologies. Additionally, the Company
provides research and development services for customers either as joint or
contracted development. The Company plans to continue to devote substantial
research and development efforts to the design of new module products which
address the requirements of OEM, corporate and retail customers.
The Company's management believes that its Tanisys Touch technology has
been developed to a viable commercial level and that the next step is
introduction of consumer products utilizing Tanisys Touch into the
marketplace by OEMs. Support continues to be provided to OEMs in the
appliance industries toward this end.
The Company's research and development expenses were $2.8 million in
fiscal 1998, $2.6 million in fiscal 1997 and $1.1 million in fiscal 1996.
Competition
The memory module and memory test equipment industries are intensely
competitive. Each of these markets includes a large number of competitive
companies, several of which have achieved a substantial market share. Certain
of the Company's competitors in each of these markets have substantially
greater financial, marketing, technical, distribution and other resources,
greater name recognition, lower cost structures and larger customer bases
than the Company. In the memory module market, the Company competes against
semiconductor manufacturers that maintain captive memory module production
capabilities, including Samsung Electronics Company Limited ("Samsung") and
Micron Electronics, Inc. (a subsidiary of Micron Technology, Inc.). The
Company also competes with independent memory module manufacturers, including
Smart Modular Technologies, Inc. and Kingston Technology, Inc. In the memory
tester market, the Company competes primarily with companies such as HP, and
Advantest. Competition for the Company's CLASS business of manufacturing
services includes SCI Systems, Inc., Celestica, Inc., Smart Modular
Technologies, Inc. and Avex Electronics, Inc. The Company faces competition
from current and prospective customers that evaluate the Company's
capabilities against the merits of manufacturing products internally. In some
cases the Company's tester customers represent direct competition to the
Company's memory module
11
business. In addition, certain of the Company's competitors, such as Samsung,
are significant suppliers to the Company. These suppliers may have the
ability to manufacture competitive products at lower costs than the Company
as a result of their higher levels of integration. The Company also faces
competition from new and emerging companies that have recently entered or may
in the future enter the markets in which the Company participates.
The Company expects its competitors to continue to improve the
performance of their current products, to reduce their current product sales
prices and to introduce new products that may offer greater performance and
improved pricing, any of which could cause a decline in sales or loss of
market acceptance of the Company's products. There can be no assurance that
enhancements to or future generations of competitive products will not be
developed that offer better prices or technical performance features than the
Company's products. To remain competitive, the Company must continue to
provide technologically advanced products and manufacturing services, improve
quality levels, offer flexible delivery schedules, deliver finished products
on a reliable basis, reduce manufacturing and testing costs and compete
favorably on the basis of price. In addition, increased competitive pressure
has led in the past, and may continue to lead to, intensified price
competition, resulting in lower prices and gross margin, which could
materially adversely affect the Company's business, financial condition and
results of operations. There can be no assurance that the Company will be
able to compete successfully in the future.
Intellectual Property
The Company has filed the following applications with the U.S. Patent
and Trademark Office for patents to protect its intellectual property rights
in products and technology that have been developed or are under development:
NESTED LOOP METHOD OF IDENTIFYING SYNCHRONOUS MEMORIES. Issued as U.S.
Patent 5,812,472 on September 22, 1998. The patent describes how to
automatically identify a synchronous memory module configuration using a
table-based method with nested loops.
COMPUTER INPUT DEVISE FOR USE IN CONJUNCTION WITH A MOUSE INPUT DEVICE.
Issued as U.S. Patent 5,831,597 on November 3, 1998. The patent describes the
use of a computer input device used in conjunction with a mouse input device.
CAPACITANCE SENSITIVE SWITCH AND SWITCH ARRAY. Issued as U.S. Patent
5,508,700 on April 16, 1998. The patent describes a broad range of
applications for capacitance sensitive touch technology covering hardware,
firmware, software and methods of operations.
CAPACITIVE SENSITIVE SWITCH METHOD AND SYSTEM. Serial number 08/935,468
filed September 1997. This patent application deals with simultaneous
measurement of multiple touch sensors.
SYNCHRONOUS MEMORY TEST SYSTEM. Serial number 08/895,307 filed July
1997, divided July 1998. This patent application describes the operation of
the Sync-LC memory tester.
SYNCHRONOUS MEMORY IDENTIFICATION SYSTEM. Serial Number 08/895,550
filed July 1997. This patent application describes additional applications
for the use of table-based method with nested loops to automatically identify
a synchronous memory module configuration.
PARAMETRIC TEST SYSTEM AND METHOD. Serial Number 09/033,285 filed
March 1998. This patent application describes a method for performing a
leakage test more quickly.
12
CONTACT TEST METHOD AND SYSTEM FOR MEMORY TESTERS. Serial Number
08/932,958 filed March 1998. This patent application describes a contact
test for determining pin-to-pin and ground shorts, as well as opens for
memory modules.
MICROSEQUENCER FOR MEMORY TEST SYSTEMS. Serial Number 09/033,363 filed
March, 1998. This patent application discusses the sequencer function in
Sigma 3 tester with emphasis on exception handling and timing set compression
through use of VLIW instructions.
PROGRAMMABLE PULSE GENERATOR. Serial Number 09/032,968 filed March
1998. This patent application describes the PPG operation in the Sigma 3
tester.
TESTER SYSTEMS. Serial Number 09/033,364 filed March 1998. This patent
application describes the code generation for Sigma 3.
SYNCHRONOUS MEMORY TESTER. Division of Serial Number 08/895,307 filed
July 1997, divided July 1998. This division patent application describes the
operation of the SyncLC memory tester.
SYNCHRONOUS MEMORY TEST METHOD. Division of Serial Number 081895,307
filed July 1997, divided July 1998. This division patent application
describes the method of operation of the SyncLC memory tester.
METHOD AND SYSTEM FOR IDENTIFYING A MEMORY MODULE CONFIGURATION. Filed
November 1998. This patent application describes a speedier approach for
identifying memory modules.
METHOD AND SYSTEM FOR TESTING RAMBUS MEMORY MODULES. This patent
application which will replace the provisional application with Serial Number
60/097,894 describes a low cost method of testing Rambus Memory Modules.
There can be no assurance that the pending patent applications will be
approved or approved in the form requested. The Company expects to continue
to file patent applications where appropriate to protect its proprietary
technologies; however, the Company believes that its continued success
depends primarily on factors such as the technological skills and innovation
of its personnel rather than on patent protection. In addition, the Company
attempts to protect its intellectual property rights through trade secrets,
copyrights, trademarks and a variety of other measures, including
non-disclosure agreements. There can be no assurance, however, that such
measures will provide adequate protection for the Company's trade secrets or
other proprietary information, that disputes with respect to the ownership of
its intellectual property rights will not arise, that the Company's trade
secrets or proprietary technology will not otherwise become known or be
independently developed by competitors or that its intellectual property
rights can otherwise be protected meaningfully. There can be no assurance
that patents will issue from pending or future applications or that if
patents are issued, they will not be challenged, invalidated or circumvented,
or that rights granted thereunder will provide meaningful protection or other
commercial advantage. Furthermore, there can be no assurance that third
parties will not develop similar products, duplicate the Company's products
or design around the patents owned by the Company or that third parties will
not assert intellectual property infringement claims against the Company. In
addition, there can be no assurance that foreign intellectual property laws
will adequately protect the Company's intellectual property rights abroad.
The failure of the Company to protect its proprietary rights could have a
material adverse effect on its business, financial condition and results of
operations.
13
Environmental Regulation
The Company's operations and manufacturing processes are subject to
certain federal, state, local and foreign environmental protection laws and
regulations. Public attention has increasingly been focused on the
environmental impact of manufacturing operations that use hazardous materials
or generate hazardous wastes, and environmental laws and regulations may
become more stringent over time. There can be no assurance that failure to
comply with either present or future regulations, or to obtain all necessary
permits required under such regulations, would not subject the Company to
significant compliance expenses, production suspensions or delay,
restrictions on expansion at its present or future locations, the acquisition
of costly equipment or other liabilities.
EMPLOYEES
At September 30, 1998, the Company had 199 full-time employees. Those
employees included 23 engineering and product development employees, 35
finance and administration employees, 20 employees in the sales, marketing,
technical and customer support areas, and 121 manufacturing employees.
Recruitment of personnel in the computer industry, particularly
engineers, is highly competitive. The Company believes that its future
success will depend in part on its ability to attract and retain highly
skilled management, engineers, sales, marketing, finance and technical
personnel. There can be no assurance of the Company's ability to recruit and
retain the employees that it may require.
FACTORS THAT AFFECT FUTURE RESULTS
The Company's business, financial condition and results of operations
can be impacted by a number of factors. See "Item 7. Management's Discussion
And Analysis Of Financial Condition And Results Of Operations - Factors That
May Affect Future Results."
ITEM 2. PROPERTIES
At December 21, 1998, the Company leased and occupied facilities in the
U.S. and Scotland totaling 64,176 square feet. The Company occupied
approximately 39,176 square feet of space for its U.S. production facility
and corporate and administrative offices at 12201 Technology Boulevard, Suite
125, Austin, Texas, pursuant to a lease which expires on August 15, 2000. The
Company has the right to terminate the lease anytime after August 31, 1998
upon sixty days' advance written notice. The lease has certain expansion
options, renewal options and rights of first refusal. The Company currently
is paying annual rental of approximately $308 thousand, plus a pro rata
charge for property taxes, common area maintenance and insurance.
The Company leases and occupies approximately 25,000 feet of space for
its European production facility and corporate administrative offices at 2
Bell Drive, Hamilton International Technology Park, Blantyre G72 OFB,
Scotland U.K. pursuant to a lease which expires in April 2013 and is paying an
annual rental rate of approximately $231,548. The lease is subject to rate
reviews at five-year intervals.
The Company will need additional U.S. facilities within the next 12
months and is presently considering alternatives for expansion and relocation.
14
ITEM 3. LEGAL PROCEEDINGS
At the date hereof, there is no pending, or to the best knowledge of the
Company, threatened litigation involving the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
PART II.
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
MARKET INFORMATION
On May 22, 1997, the Company began trading on the Nasdaq SmallCap Market
under the symbol "TNSU." From March 20, 1995 to June 6, 1997, the Common
Stock was traded on the VSE under the symbol "TNS.U," with prices quoted in
U.S. dollars. On June 6, 1997, the Company voluntarily delisted its stock on
the VSE, as a result of the change to Nasdaq. From July 11, 1994 to March
19, 1995, the Common Stock was traded on the VSE under the symbol "TNS," with
prices quoted in Canadian dollars. From July 7, 1993 to July 10, 1994, the
Common Stock was traded under the symbol "RSG," with prices quoted in
Canadian dollars.
The table below sets forth the high and low closing prices of the Common
Stock from October 1, 1996 through May 22, 1997, as reported by the VSE, and
from May 23, 1997 to December 21, 1998, as reported on the Nasdaq SmallCap
Market. These price quotations reflect interdealer prices, without retail
mark-up, mark-down or commission, and may not necessarily represent actual
transactions.
COMMON STOCK
------------
QUARTER ENDED HIGH LOW
------------- ---- ---
FISCAL 1997:
December 31, 1996 $6.25 $3.50
March 31, 1997 5.35 2.75
June 30, 1997 4.50 2.87
September 30, 1997 5.56 4.06
FISCAL 1998:
December 31, 1997 $4.13 $2.00
March 31, 1998 4.50 2.38
June 30, 1998 3.16 2.25
September 30, 1998 2.56 1.50
FISCAL 1999:
Through December 21, 1998 $2.13 $1.41
15
STOCKHOLDERS
On September 30, 1998, there were 20,799,714 shares of Common Stock
outstanding held by 314 holders of record. The last reported sales price on
the Common Stock on December 21, 1998 was $1.88 (rounded) per share.
DIVIDENDS
On September 30, 1998, the Company declared and issued a dividend of
40,000 shares of Common Stock to the holders of record of its 5% Series A
Convertible Preferred Stock. The Company has not declared or paid any
dividends with respect to the Common Stock, and the current policy of the
Board of Directors is to retain earnings, if any, to provide for the growth
of the Company's business. Consequently, no cash dividends are expected to be
paid on the Common Stock in the foreseeable future. Further, there can be no
assurance that the proposed operations of the Company will generate the
revenue and cash flow needed to declare a cash dividend or that the Company
will have legally available funds to pay dividends at any time in the future.
In addition, at this time the Company's bank borrowings prohibit the payment
of cash dividends.
PRIVATE PLACEMENTS
On June 30, 1998, the Company entered into a Convertible Stock Purchase
Agreement with an accredited investment group. The Company issued 400 shares
of its 5% Series A Convertible Preferred Stock, par value $1 per share
("Series A Stock"), for $10,000 per share, with offering costs of
approximately $460,000. The Series A Stock is convertible into the Company's
no par value common stock ("Common Stock") at the option of the holder
beginning 90 days after the June 30, 1998 closing date. The conversion price
is the lesser of the fixed conversion price of $2.31 per share or a variable
conversion price. The Series A Stock also provides certain mandatory
redemption rights which are triggered upon the occurence of certain
events. Attached to the Series A Stock were warrants to purchase 199,999
shares of Common Stock at $3.00 per share. The warrants are currently
exercisable and have a term of four years. The Company believes that the
sale of the Series A Stock was exempt from registration under the Securities
Act by reason of Section 4(2) of the Securities Act. The underlying Common
Stock has been registered under the Securities and Exchange Commission Form
S-3 effective August 13, 1998. The net proceeds from this offering were used
as working capital for the Company. These uses of net offering proceeds were
made in the form of direct or indirect payments to others.
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data presented below are derived
from the consolidated financial statements of the Company, which financial
statements have been audited by Arthur Andersen LLP, independent public
accountants, to the extent indicated in their reports included elsewhere
herein.
On May 21, 1996, the Company acquired 1st Tech Corporation and Darkhorse
Systems, Inc. The acquisitions were accounted for using the purchase method,
resulting in total goodwill of $7.2 million to be amortized over a two-year
period. The results of operations have been included in the consolidated
financial statements since the acquisition date.
16
The selected consolidated financial data set forth below are qualified
in their entirety by, and should be read in conjunction with, "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the consolidated financial statements.
(In Thousands, except per share data) FISCAL YEARS ENDED SEPTEMBER 30,
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
Net sales $33,146 $47,674 $14,989 $359 $113
Net loss (8,548) (10,114) (3,684) (2,445) (1,972)
Goodwill Amortization Expense (2,092) (3,585) (1,494) N/A N/A
Net loss applicable to common
stock per share (0.44) (0.58) (0.31) (0.29) (0.30)
Total assets 15,913 17,232 17,463 1,613 2,295
Long term debt 755 81 123 0 0
Mandatorily redeemable convertible
preferred stock 2,390 - - - -
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
OVERVIEW
The following is a discussion of the consolidated financial condition
and results of operations of the Company for the fiscal years ended September
30, 1998, 1997 and 1996. It should be read in conjunction with the
Consolidated Financial Statements of the Company, the Notes thereto and other
financial information included elsewhere in this report. For purposes of the
following discussion, references to year periods refer to the Company's
fiscal year ended September 30. (See quote "Business - Forward Looking
Statement - Cautionary Statements.)
The Company was organized under the laws of the Province of British
Columbia, Canada, on January 27, 1984, as Montebello Resources Ltd., and
pursued oil and gas exploration in British Columbia and Manitoba, Canada. In
October 1992, the Company changed its name to First American Capital Group
Inc. Unsuccessful in the exploration business, the Company became dormant
pursuant to the rules and regulations of the VSE. During the first two
quarters of 1993, the Company was reorganized in accordance with the rules of
the VSE. As part of this reorganization, the Company acquired Timespan
Communications Corp. ("Timespan") and its computer game controller
technology. Timespan, a wholly owned subsidiary of the Company, was
dissolved as of October 23, 1996. The Company changed its name to Rosetta
Technologies Inc. in May 1993 and to Tanisys Technology, Inc. in July 1994.
Until May 21, 1996, the Company focused on research and development of highly
specialized applications of capacitive touch sensing technology.
Effective May 21, 1996, the Company acquired, through mergers with its
wholly owned subsidiaries, all of the outstanding common stock of 1st Tech
Corporation ("1st Tech") and DarkHorse Systems, Inc. ("DarkHorse") and began
operations in Austin, Texas as a consolidated group of companies providing
custom design, engineering and manufacturing services, test solutions and
standard and custom module products to leading original equipment
manufacturers ("OEMs") in the computer networking and telecommunications
industries. In consideration for the acquisitions of 1st Tech and DarkHorse,
the Company issued 2,950,000 and 1,200,000 shares, respectively, of Common
Stock. Prior but subject to the consummation of the acquisitions of 1st Tech
and DarkHorse by the Company, 1st Tech issued 1,150,000 shares of its common
stock for $2.00 per share in an equity financing, raising a total of $2.3
million, the proceeds of which were used to reduce short-term debt and
provide working capital for 1st Tech.
17
The Company's gross margin as a percent of net sales increased 2.5% in
fiscal 1998 over fiscal 1997 while its sales and gross margins decreased due
to the Company's emphasis of its CLASS program that supports BTO programs of
major semiconductor manufacturers and OEMs. The CLASS program reduces net
sales and cost of sales by removing the cost of the semiconductor chip, which
is the highest cost component in a memory module. Revenues declined to $33.1
million in fiscal 1998 from $47.7 million in fiscal 1997 as the company's
off-the-shelf and turnkey memory products declined from 80.7% of net revenues
in fiscal 1998 to 41.7% of net revenues in fiscal 1997.
Management believes that revenues and gross profits will increase in
future periods but could fluctuate due to changes in supply of memory
chips, which dramatically impacts the prices of the Company's products;
the continuing fluctuations in the cost of memory and components; the fact
that many of the Company's competitors are better capitalized and can
purchase inventory in sufficient quantities to obtain more favorable pricing
and other factors, including changes in pricing by suppliers and competitors
and changes in the proportion of contract manufacturing done, where the
customer consigns the material,versus manufacturing on a turnkey
basis, where the Company purchases the necessary materials.
RESULTS OF OPERATIONS
The following table sets forth certain consolidated financial data of the
Company expressed as a percentage of net sales for the years ended September
30, 1998, 1997 and 1996:
1998 1997 1996
---- ---- ----
Net sales 100.0% 100.0% 100.0%
Cost of goods sold 84.5 87.0 84.5
------ ------ ------
Gross profit 15.5 13.0 15.5
Operating expenses:
Research and development 8.4 5.4 7.2
Sales and marketing 8.4 6.4 7.9
General and administrative 13.2 7.6 12.9
Depreciation and amortization 8.5 8.8 11.7
Bad debt expense 1.2 4.7 0.3
------ ------ ------
Total operating expenses 39.7 32.9 40.0
------ ------ ------
Operating loss (24.2) (19.9) (24.5)
Other expense, net (1.6) (1.3) (0.2)
------ ------ ------
Net loss (25.8%) (21.2%) (24.7%)
------ ------ ------
------ ------ ------
NET SALES
Until the acquisitions of 1st Tech and DarkHorse on May 21, 1996, net
sales consisted of software sales, less returns and discounts, and design
engineering fees. After the acquisitions, net sales consist of custom
manufacturing services, custom semiconductor memory modules, standard
semiconductor memory modules, design engineering fees, memory module test
solutions and advanced technology services, less returns and discounts. Net
sales decreased to $33.1 million in fiscal 1998 from $47.7 million in fiscal
1997, a decrease of 30.5%. The decrease in fiscal 1998 is due primarily to
the changes in the Company's product mix. The Company is presently
emphasizing its CLASS program whereby the semiconductor memory chips used in
this program are supplied by the customer, which reduces net sales and cost
of sales by removing the cost of the semiconductor chip, which is the highest
cost component in a memory module. Off-the-shelf and turnkey semiconductor
memory modules which include the price of the semiconductor memory chips,
declined as a percent of total net sales in fiscal 1998 to 41.7% from 80.7%
in fiscal 1997. The Company expects this trend to continue in fiscal 1999 as
its CLASS program expands.
18
Net sales for fiscal 1997 increased 218.1% to $47.7 million from $15.0
million in fiscal 1996. The increases in fiscal 1997 were primarily due to
the acquisitions of 1st Tech and DarkHorse and, to a lesser degree, to
increases in sales volume in both the memory and tester product lines.
COST OF SALES AND GROSS PROFIT
Cost of sales includes the costs of all components and materials
purchased for the manufacture of products and the direct labor and overhead
costs associated with manufacturing. Gross profit decreased to $5.1 million
in fiscal 1998 from $6.2 million in fiscal 1997. Gross profit margin
increased to 15.5% in fiscal 1998 from 13.0% in fiscal 1997. The decrease in
gross profit, as well as the increase in gross profit margin, was due
primarily to the transition to the CLASS program and the continuing decline
in the cost of raw materials, as described in Net Sales above.
In fiscal 1997, gross profit increased to $6.2 million from $2.3 million
in fiscal 1996. Gross profit margin decreased to 13.0% in fiscal 1997 from
15.5% in fiscal 1996. The increase in gross profit and the decrease in gross
profit margin were primarily due to the acquisitions of 1st Tech and
DarkHorse and the dramatic change in the product mix caused by the
acquisitions.
RESEARCH AND DEVELOPMENT
Research and development expenses consist of the costs associated with
the design and testing of new technologies and products. These relate
primarily to the costs of materials, personnel, management and employee
compensation and engineering design consulting fees. Research and
development expenses increased to $2.8 million in fiscal 1998 from $2.6
million in fiscal 1997, representing an increase of 7.0%. The increase was
primarily due to the development of new tester products. Research and
development expenses are expected to remain approximately the same in terms
of absolute dollars and to decrease as a percentage of revenues as growth in
revenues occurs.
Research and development expenses increased 140.2% to $2.6 million in
fiscal 1997 from $1.1 million in fiscal 1996. The significant increase is
due to the acquisitions of the additional product lines of 1st Tech and
DarkHorse and the related research and development expenditures, and the
development of new memory module products and new tester products.
SALES AND MARKETING
Sales and marketing expenses include all compensation of employees and
independent sales personnel, as well as the costs of advertising, promotions,
trade shows, travel, direct support and overhead. Sales and marketing
expenses decreased to $2.8 million in fiscal 1998 from $3.0 million in 1997.
Sales and marketing expenses expressed as a percentage of revenues in fiscal
1998 and 1997 were 8.4% and 6.4%, respectively. The decrease in sales and
marketing expenses and the increase in expenses expressed as a percentage of
revenues relate directly to decreased revenues in fiscal 1998. Sales and
marketing expenses are expected to increase significantly in terms of
absolute dollars and to decrease as a percentage of revenues in future
periods.
Sales and marketing expenses increased to $3.0 million in fiscal 1997
from $1.2 million in fiscal 1996. Expressed as a percentage of revenues,
sales and marketing expenses were 6.4% in 1997 and 7.9% in 1996. The
increase in sales and marketing expenses is a direct result of the
acquisition of 1st Tech and DarkHorse product lines. The decreases in
expenses expressed as a percentage of revenues are caused primarily by the
significant increases in revenues related to the acquisitions of 1st Tech and
DarkHorse.
19
GENERAL AND ADMINISTRATIVE
General and administrative expenses consist primarily of personnel
costs, including employee compensation and benefits, and support costs
including utilities, insurance, professional fees and all costs associated
with a reporting company. In fiscal years 1998 and 1997, general and
administrative expenses increased to $4.4 million from $3.6 million, a 22.2%
increase. General and administrative expenses expressed as a percentage of
revenues were 13.2% and 7.6% in fiscal years 1998 and 1997, respectively. The
increase in actual funds expended in fiscal 1998 is due primarily to the
additional expenditures related to the Company's Scotland facility. The
increase in expenses expressed as a percentage of revenues is a result of
decreased revenues. The absolute dollar expenses associated with the general
and administrative area are expected to increase at a much slower pace than
revenues in future periods with the anticipated continued growth in business
activity. The general and administrative expenses are expected to decline in
future periods when expressed as a percentage of sales.
In fiscal years 1997 and 1996, general and administrative expenses
increased to $3.6 million from $1.9 million, an 88.2% increase. General and
administrative expenses expressed as a percentage of revenues were 7.6% and
12.9% in fiscal years 1997 and 1996, respectively. The increase in actual
funds expended in fiscal 1997 is due primarily to the acquisitions of 1st
Tech and DarkHorse. The decrease in expenses expressed as a percentage of
revenues is primarily caused by the significant increase in revenues related
to the acquisitions of 1st Tech and DarkHorse and, to a lesser extent, to the
institution of cost controls on general and administrative expenses.
BAD DEBT EXPENSE
Bad debt expense consists of amounts charged to expense because of trade
accounts receivable becoming uncollectible. The Company's method of
accounting for bad debts is to use historical actual expenses to estimate the
amount of current sales which will be uncollectible and provide for them by
creating an allowance which is netted against the trade accounts receivable.
The Company writes off amounts related to specific accounts as the collection
of these accounts becomes questionable. For fiscal 1998, the amount charged to
bad debt expense was $387 thousand compared to $2.2 million for fiscal 1997.
The decrease in bad debts is directly attributable to the Company's change in
customer base.
For fiscal 1997, the amount charged to bad debt expense was $2.2
million, compared to a total of $46 thousand for fiscal 1996. The increase
in fiscal 1997 bad debt expense is primarily due to a $1.7 million bad debt
expense for one customer and to increased sales in conjunction with the
acquisitions of 1st Tech and DarkHorse.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization includes the depreciation for all fixed
assets exclusive of those used in the manufacturing process and included as
part of "Cost of Sales" and the amortization of intangibles, including
goodwill incurred in the May 1996 acquisitions of 1st Tech and DarkHorse.
Depreciation and amortization decreased to $2.8 million in fiscal 1998 from
$4.2 million in fiscal 1997. The decrease is due primarily to the completion
of amortization in April 1998 of goodwill relating to the acquisitions of
1st Tech and DarkHorse. Depreciation and amortization is expected to
increase slightly in terms of absolute dollars and decrease significantly as
a percentage of revenues as growth in revenues occurs.
In fiscal years 1997 and 1996, depreciation and amortization increased
to $4.2 million from $1.7 million. This significant increase is due
primarily to the amortization of goodwill recorded in conjunction with the
acquisitions of 1st Tech and DarkHorse and to the depreciation of the
acquired assets of 1st Tech and DarkHorse.
20
OTHER INCOME (EXPENSE), NET
Other income (expense), net consists primarily of interest income less
interest expense. Interest expense is attributable to borrowings from a
revolving credit note. Substantially all of the interest expense relates to
credit line draws made for short-term inventory requirements and to fund
accounts receivable. Interest income relates to investment of available cash
in short-term interest bearing accounts and cash equivalent securities. The
Company incurs net interest expense in order to maintain balances of
inventories and accounts receivable. Other income (expense) decreased to
$542 thousand of expense in fiscal 1998 from $616 thousand of expense in
fiscal 1997. The decrease in other income (expense) is primarily due to a
decrease in short-term borrowings on the revolving credit note. The Company
expects to continue to require borrowings to fund growth in accounts
receivable, inventory and capital equipment in the future and therefore
expects net interest expense to increase.
Other income (expense), increased to $616 thousand of expense in fiscal
1997 from $30 thousand of expense in fiscal 1996. The Company had no debt
and earned interest on its available cash until its May 21, 1996 acquisitions
of 1st Tech and DarkHorse. Thereafter, the Company incurred net interest
expense due to the increased balances of inventories, accounts receivable,
and borrowings.
PROVISION FOR INCOME TAXES
For the years ended September 30, 1998, 1997 and 1996, the Company
incurred consolidated net operating losses for U.S. income tax purposes of
approximately $5.3 million, $6.0 million and $1.8 million and for non-U.S.
income tax purposes of approximately $369 thousand, $-0- and $-0-,
respectively. The loss carryforwards begin to expire in 2011. At September
30, 1998 and 1997, the Company had temporary differences resulting in future
tax deductions of approximately $756 thousand and $513 thousand,
respectively, principally representing tax basis in accrued liabilities and
reserves. Deferred income tax assets from the loss carryforwards and asset
basis differences aggregate approximately $6.9 million and $4.6 million, at
September 30, 1998 and 1997, respectively.
For financial reporting purposes, a valuation allowance of $6.9 million
and $4.7 million at September 30, 1998 and 1997, respectively, has been
recorded to offset the deferred tax assets due to uncertainty as to whether
the benefits will be realized.
The availability of the net operating loss carryforwards and future tax
deductions to reduce taxable income is subject to various limitations under
the Internal Revenue Code of 1986, as amended (the "Code"), in the event of
an ownership change as defined in Section 382 of the Code. The Company may
lose the benefit of such net operating loss carryforwards due to Internal
Revenue Service ("IRS") Code Section 382 limitations. This section states
that after reorganization or other change in corporate ownership, the use of
certain carryforwards may be limited or prohibited. The Company believes
that the IRS Code Section 382 limitation did not exist at September 30, 1998
and if triggered, the consequence is expected to have no material impact on
the Company's consolidated financial position or results of operations.
LIQUIDITY AND CAPITAL RESOURCES
Since inception the Company has utilized the funds acquired in equity
financings of its Common Stock, in the exercise of warrants, exercise of
stock options, capital and operating leases, vendor credits, certain bank
borrowings and funds generated from operations to support its operations,
carry on research and development activities, acquire capital equipment,
finance inventories and accounts receivable and pay its general and
administrative expenses. For fiscal 1998, the Company generated $1.7 million
in net cash from financing activities versus $9.2 million in fiscal 1997. The
$1.7 million in fiscal 1998 consisted of $3.9 million from Common Stock
sales, exercise of warrants and options and issuance of preferred stock less
payments of approximately $2.2
21
million on revolving credit and capital lease obligations. At September 30,
1998, the Company had $253 thousand of cash, $154 thousand of restricted cash
and a negative working capital of ($2.9) million. The negative working
capital is primarily attributable to approximately $3.1 million of short-term
liabilities for equipment purchases for which the Company is attempting to
obtain long-term financing. Restricted cash represents customer payments
deposited into the Company's lockbox account but not yet transferred to pay
down the Company's line of credit.
On November 2, 1998, the Company completed a private placement of $2
million of debt with warrants.
Capital expenditures totaled $5.5 million and $1.5 million in fiscal
years 1998 and 1997, respectively. These capital expenditures were primarily
for the purchase of enterprise manufacturing equipment, test equipment,
expansion of manufacturing facilities and upgrades to enterprise information
systems. The Company expects to fund capital expenditures of approximately
$13.2 million in fiscal 1999 for additional manufacturing capacity, test
equipment and expansion of manufacturing facilities through working capital,
operating leases and capital leases.
The Company believes that its existing funds, anticipated cash flows
from operations, amounts available from future vendor credits, bank
borrowings, capital and operating leases and equity financings will be
sufficient to meet its working capital and capital expenditure needs for the
next 12 months at the projected level of operations. However, should there
be a significant increase in sales above projected levels which requires
additional investments in equipment, inventory and accounts receivable, the
Company would be required to obtain additional funding through debt and rely
upon a future equity offering or offerings for such funding. There is no
assurance that the Company would be able to locate debt funding or that it
would be successful in its attempts to raise a sufficient amount of funds in
an equity offering or offerings. The Company's inability to raise needed
funds to meet its projected level of operations or increase above current
projections could have a material adverse effect on the Company.
INTERNATIONAL SALES
International sales accounted for 12.2% and 3.5% of net sales in fiscal
1998 and 1997, respectively. The Company anticipates that international sales
will increase in future periods and will account for an increasing portion of
net sales. In February 1998, the Company's wholly owned subsidiary, Tanisys
(Europe) Ltd., commenced operations in Scotland. As a result, an increasing
portion of the Company's sales will be subject to certain risks, including
changes in regulatory requirements, tariffs and other barriers, timing and
availability of export licenses, political and economic instability,
difficulties in accounts receivable collections, natural disasters,
difficulties in staffing and managing foreign subsidiary and branch
operations, difficulties in managing distributors, difficulties in obtaining
governmental approvals for telecommunications and other products, foreign
currency exchange fluctuations, the burden of complying with a wide variety
of complex foreign laws and treaties and potentially adverse tax
consequences. The Company is also subject to the risks associated with the
imposition of legislation and regulations relating to the import or export of
high technology products. The Company cannot predict whether quotas, duties,
taxes or other charges or restrictions upon the importation or exportation of
the Company's products will be implemented by the U.S. or other countries.
Because sales of the Company's products have been denominated to date
primarily in U.S. dollars, increases in the value of the U.S. dollar could
increase the price of the Company's products so that they become relatively
more expensive to customers in the local currency of a particular country,
leading to a reduction in sales and profitability in that country. Future
international activity may result in increased foreign currency denominated
sales. Gains and losses on the conversion to U.S. dollars of accounts
receivable, accounts payable and other monetary assets and liabilities
arising from international operations may contribute to fluctuations in the
Company's results of operations. Some of the Company's customer purchase
orders and agreements are governed by foreign laws, which may differ
significantly from U.S. laws. Therefore, the Company may be limited in its
22
ability to enforce its rigts under such agreements and to collect damages, if
awarded. There can be no assurance that any of these factors will not have a
material adverse effect on the Company's business, financial condition and
results of operations.
SIGNIFICANT CUSTOMER CONCENTRATION
A significant percentage of the Company's net sales are produced by a
relatively small number of customers. In fiscal 1998 and 1997, the Company's
ten largest customers accounted for approximately 74.4% and 53.2% of net
sales, respectively. During fiscal 1998, the Company had two customers,
Siemens AG and LG Semicon, which accounted for 27.4% and 14.1% of the
Company's net sales, respectively. In fiscal 1997 one customer, Tandy
Corporation, accounted for 11.7% of net sales. While the Company expects to
continue to be dependent on a relatively small number of customers for a
significant percentage of its net sales, there can be no assurance that any
of the top ten customers in fiscal 1998 will continue to utilize the
Company's products or services. Absent replacement or other sales growth, the
loss of any significant customer could materially and adversely affect the
Company's result of operations, business and financial condition. The actual
customers producing the sales are different between the two periods, and the
Company expects this type of variation in volume of purchases from a
particular customer to continue.
The Company, in general, has no firm long-term volume commitments from its
customers and generally enters into individual purchase orders and agreements
with non-binding forecasts. Customer purchase orders and forecasts are
subject to change, cancellation or delay with little or no consequence to the
customer. Therefore, the Company has experienced such changes and
cancellations and expects to continue to do so in the future. The replacement
of canceled, delayed or reduced purchase orders with new business cannot be
assured. The Company's business, financial condition and results of
operations will depend significantly on its ability to obtain purchase orders
from existing and new customers, upon the financial condition and success of
its customers, the success of customers' products and the general economy.
Factors affecting the industries of the Company's major customers could have
a material adverse effect on the Company's business, financial condition and
results of operations.
NO ASSURANCE OF PRODUCT QUALITY, PERFORMANCE AND RELIABILITY
The Company expects that its customers will continue to establish
demanding specifications for quality, performance, reliability and delivery.
In the past, the Company has experienced quality problems resulting in
product returns and cancellations. To date, the Company's quality problems
have not had a significant effect on the Company's results of operations and
the known quality problems have been or are in the process of being remedied.
There can be no assurance that the problems will not occur in the future with
respect to quality, performance, reliability and delivery of the Company's
products. If such problems occur, the Company could experience increased
costs, delays in or cancellations or reschedulings of orders or shipments,
delays in collecting accounts receivable and increases in product returns and
discounts, any of which could have a material adverse effect on the Company's
business, financial condition and results of operations.
DEPENDENCE UPON INDEPENDENT SHIPPING COMPANIES
The Company relies heavily on arrangements with independent shipping
companies for the delivery of its products. In order to meet customer
demand, products are shipped from suppliers through independent shipping
companies. Currently, Federal Express ("FedEx") and Airborne Express
("Airborne") deliver the substantial majority of the Company's products to
its customers. The termination of the Company's relationship with FedEx
and/or Airborne, or the failure of one or more other independent shipping
companies to deliver products from suppliers to the Company or products from
the Company to its customers, could have a material adverse effect on the
Company's business, financial condition or results of operations. For
instance, another
23
employee work stoppage at United Parcel Service or an employee work stoppage
or slow-down at one or more independent shipping company could materially
impair the shipping company's ability to perform the services required by the
Company. There can be no assurance that the services of these independent
shipping companies will continue to be available to the Company on terms as
favorable as those currently available or that these companies will choose or
be able to perform the required shipping services for the Company.
PRODUCT CONCENTRATION; DEPENDENCE ON MEMORY MARKET
A substantial majority of the Company's net sales is derived from memory
products. The market for memory products is characterized by frequent
transitions in which products rapidly incorporate new features and
performance standards. A failure to develop products with required feature
sets or performance standards or a delay as short as a few months in bringing
a new product to market could significantly reduce the Company's net sales
for a substantial period, which would have a material adverse effect on the
Company's business, financial condition and results of operations.
The market for semiconductor memory devices has been cyclical. The
industry has experienced significant economic downturns at various times,
characterized by diminished product demand, accelerated erosion of average
selling prices and production overcapacity. During fiscal 1998, there were
significant declines in DRAM and SRAM semiconductor prices. Because
approximately 42% of the Company's net sales are attributable to the resale
of semiconductor memory devices, future price declines could have a material
adverse effect on the Company's business, financial condition and results of
operations.
INTENSE COMPETITION; LIMITED BARRIERS TO ENTRY
The memory module and memory test equipment industries are intensely
competitive. Each of these markets includes a large number of competitive
companies, several of which have achieved a substantial market share. Certain
of the Company's competitors in each of these markets have substantially
greater financial, marketing, technical, distribution and other resources,
greater name recognition, lower cost structures and larger customer bases
than the Company. In the memory module market, the Company competes against
semiconductor manufacturers that maintain captive memory module production
capabilities, including Samsung and Micron Electronics, Inc. (a subsidiary of
Micron Technology, Inc.). The Company also competes with independent memory
module manufacturers, including Smart Modular Technologies, Inc. and Kingston
Technology, Inc. In the memory tester market, the Company competes primarily
with companies such as HP and Advantest. Competition for the Company's CLASS
business of manufacturing services includes SCI Systems, Inc. and Avex
Electronics, Inc. The Company faces competition from current and prospective
customers that evaluate the Company's capabilities against the merits of
manufacturing products internally. In some cases the Company's tester
customers represent direct competition to the Company's memory module
business. In addition, certain of the Company's competitors, such as Samsung,
are significant suppliers to the Company. These suppliers may have the
ability to manufacture competitive products at lower costs than the Company
as a result of their higher levels of integration. The Company also faces
competition from new and emerging companies that have recently entered or may
in the future enter the markets in which the Company participates.
The Company expects its competitors to continue to improve the
performance of their current products, to reduce their current product sales
prices and to introduce new products that may offer greater performance and
improved pricing, any of which could cause a decline in sales or loss of
market acceptance of the Company's products. There can be no assurance that
enhancements to or future generations of competitive products will not be
developed that offer better prices or technical performance features than the
Company's products. To remain competitive, the Company must continue to
provide technologically advanced products and manufacturing services, improve
quality levels, offer flexible delivery schedules, deliver finished products
on a reliable basis,
24
reduce manufacturing and testing costs and compete favorably on the basis of
price. In addition, increased competitive pressure has led in the past and
may continue to lead to intensified price competition, resulting in lower
prices and gross margin, which could materially adversely affect the
Company's business, financial condition and results of operations. There can
be no assurance that the Company will be able to compete successfully in the
future.
In addition, barriers to entry in certain of the markets in which the
Company operates are limited, and there can be no assurance that existing or
new competitors will not develop products or provide services that are
superior to the Company's products or services or achieve greater market
acceptance.
FLUCTUATIONS IN OPERATING RESULTS
The Company's results of operations and gross margin have fluctuated
significantly from period to period in the past and may in the future
continue to fluctuate significantly from period to period. Aside from
fluctuations typically resulting from the different products and customer mix
associated with acquisitions, the primary factors that have affected and may
in the future affect the Company's results of operations include the loss of
a principal customer or customers or the reduction in orders from a customer
due to excess product inventory accumulation by such customers, adverse
changes in the mix of products sold by the Company and the inability to
procure required components. Other factors that may affect the Company's
results of operations in the future include fluctuating market demand for and
declines in the selling prices of the Company's products, market acceptance
of new products and enhanced versions of the Company's products, delays in
the introduction of new products and enhancements to existing products, and
manufacturing inefficiencies associated with the startup of new product
introductions. In addition, the Company's operating results may be affected
by the timing of new product announcements and releases by the Company or its
competitors, the timing of significant orders, the ability to produce
products in volume, delays, cancellations or reschedulings of orders due to
customer financial difficulties or other events, inventory obsolescence,
including the reduction in value of the Company's inventories due to
unexpected price declines, unexpected product returns, the timing of
expenditures in anticipation of increased sales, cyclicality in the Company's
targeted markets, and expenses associated with acquisitions. In particular,
declines in DRAM, SDRAM and SRAM semiconductor prices could affect the
valuation of the Company's inventory which could result in adverse changes in
the Company's business, financial condition and results of operations.
The Company's net sales and gross margin have varied and will continue
to vary significantly based on a variety of factors, including the mix of
products sold and the manufacturing services provided, the channels through
which the Company's products are sold, changes in product selling prices and
component costs, the level of manufacturing efficiencies achieved and pricing
by competitors. The selling prices of the Company's existing products have
declined in the past, and the Company expects that prices will continue to
decline in the future. In particular, during fiscal 1998, 1997 and 1996, the
selling prices of the Company's existing products declined due to significant
declines in DRAM, SDRAM and SRAM semiconductor prices. Moreover, during
fiscal 1999 there could be further declines in the prices of certain of the
Company's existing products due to further declines in certain DRAM and SDRAM
semiconductor prices. Because a substantial portion of the Company's turnkey
and off-the-shelf sales are attributable to the resale of semiconductor
devices, continued decline in the prices of these components could have a
material adverse effect on the Company's net sales. Accordingly, the
Company's ability to maintain or increase net sales will be highly dependent
upon its ability to increase unit sales volumes of existing products and to
introduce and sell new products in quantities sufficient to compensate for
the anticipated declines in selling prices. Declining product selling prices
may also materially and adversely affect the Company's gross margin unless
the Company is able to reduce its cost per unit to offset declines in product
selling prices. There can be no assurance that the Company will be able to
increase unit sales volumes, introduce and sell new products or reduce its
cost per unit. In addition, the Company's business has in the past been
subject
25
to seasonality. The Company expects that its business will experience more
significant seasonality as it expands its sales and marketing efforts in
Europe.
Sales of the Company's individual products and product lines toward the
end of a product's life cycle typically are characterized by steep declines
in sales, pricing and gross margin, the precise timing of which may be
difficult to predict. The Company could experience unexpected reductions in
sales of products as customers anticipate new product purchases. In addition,
to the extent that the Company manufactures products in anticipation of
future demand that does not materialize, or in the event a customer cancels
outstanding orders during a period of either declining product selling prices
or decreasing demand, the Company could experience an unanticipated decrease
in sales of products. These factors could give rise to charges for obsolete
or excess inventory, returns of products by distributors, or substantial
price protection charges or discounts. In the past, the Company has had to
write-down and write-off excess or obsolete inventory. To the extent that the
Company is unsuccessful in managing product transitions, its business,
financial condition and results of operations could be materially and
adversely affected.
The need for continued significant expenditures for capital equipment
purchases, research and development and ongoing customer service and support,
among other factors, will make it difficult for the Company to reduce its
operating expenses in any particular period if the Company's expectations for
net sales for that period are not met. The Company has significantly
increased its expense levels to support its growth, and there can be no
assurance that the Company will maintain its current level of net sales or
rate of growth for any period in the future. The Company believes that
period-to-period comparisons of the Company's financial results are not
necessarily meaningful and should not be relied upon as indications of future
performance. Due to the foregoing factors, it is likely that in some future
period the Company's operating results will be below the expectations of
public market analysts or investors. In such event, the market price of the
Company's securities would be materially and adversely affected.
DEPENDENCE ON SEMICONDUCTOR, COMPUTER, TELECOMMUNICATIONS AND NETWORKING
INDUSTRIES
The Company may experience substantial period-to-period fluctuations in
future operating results due to factors affecting the semiconductor,
computer, telecommunications and networking industries. From time to time,
each of these industries has experienced downturns, often in connection with,
or in anticipation of, declines in general economic conditions. A decline or
significant shortfall in growth in any one of these industries could have a
material adverse impact on the demand for the Company's products and
therefore a material adverse effect on the Company's business, financial
condition and results of operations. Moreover, changes in end-user demand for
the products sold by any individual OEM customer can have a rapid and
exaggerated effect on demand for the Company's products from that customer in
any given period, particularly in the event that the OEM customer has
accumulated excess inventories of products purchased from the Company. There
can be no assurance that the Company's net sales and results of operations
will not be materially and adversely affected in the future due to changes in
demand from individual customers or cyclical changes in the semiconductor,
computer, telecommunications, networking or other industries utilizing the
Company's products.
HISTORY OF LOSSES; UNCERTAIN PROFITABILITY
The Company has experienced operating losses since inception. At
September 30, 1998, the Company had an accumulated deficit of approximately
$29 million.
In the future, the Company expects to have increased cash outflow
requirements as a result of expenditures related to the expansion of sales
and marketing activity, expansion of manufacturing capacity, and possible
investment in or acquisition of additional complementary products,
technologies or businesses. The cash needs of the Company have changed
significantly as a result of the acquisitions completed during 1996 and
26
the support requirements of the added business focus areas. There can be no
assurance that the Company will not continue to incur losses, that the
Company will be able to raise cash as necessary to fund operations or that
the Company will ever achieve profitability.
FUTURE ADDITIONAL CAPITAL REQUIREMENTS; NO ASSURANCE FUTURE CAPITAL WILL BE
AVAILABLE
The Company's capital requirements will depend on numerous factors,
including market acceptance and demand for its products; the resources the
Company devotes to the development, manufacture and marketing of its
products; the progress of the Company's product development programs; the
resources required to protect the Company's intellectual property; the
resources expended, if any, to acquire complementary businesses, products and
technologies; and other factors. The timing and amount of such capital
requirements cannot be accurately predicted. Funds also may be used for the
acquisition of businesses, products and technologies that are complementary
to those marketed by the Company. Consequently, although the Company
believes that its revenues and other sources of liquidity will provide
adequate funding for its capital requirements through at least 1999, the
Company may be required to raise additional funds through public or private
financings, collaborative relationships or other arrangements. There can be
no assurance that the Company will not require additional funding or that
such additional funding, if needed, will be available on terms attractive to
the Company or at all. Holders of the Series A Stock have certain rights of
first refusal until approximately June 30, 1999 with respect to certain
future equity financings of the Company. Any additional equity financings
may be dilutive to stockholders, and debt financing, if available, may
involve restrictive covenants. In addition, the number of shares of Common
Stock issuable upon the conversion of the Series A Stock is subject to
adjustment upon the occurrence of certain events. Such adjustments may be
dilutive to stockholders and may inhibit the Company's ability to consummate
additional equity financings.
MANAGEMENT OF GROWTH; EXPANSION OF OPERATIONS
The Company has significantly expanded its operations over the last
several years. This growth has resulted in a significant increase in
responsibility for existing management which has placed, and may continue to
place, a significant strain on the Company's limited personnel and
management, manufacturing and other resources. The Company's ability to
manage the recent and any possible future growth will require a significant
expansion of its manufacturing capacity, accounting and other internal
management systems and the implementation of a variety of procedures and
controls. There can be no assurance that significant problems in these areas
will not occur. Any failure to expand these systems and implement such
procedures and controls in an efficient manner and at a pace consistent with
the Company's business could have a material adverse effect on the Company's
business, financial condition and results of operations.
In connection with the Company's acquisitions and growth, the Company's
operating expenses have increased significantly, and the Company anticipates
that operating expenses will continue to increase in absolute dollars in the
future. In particular, in order to continue to provide quality products and
customer service and to meet anticipated demands of its customers, the
Company will be required to continue to increase staffing and other expenses,
including expenditures on capital equipment, sales and marketing. Should the
Company increase its expenditures in anticipation of a future level of sales
that does not materialize, the Company's business, financial condition and
results of operations would be materially and adversely affected. Certain
customers have required and may continue to require rapid increases in
production and accelerated delivery schedules which have placed and may
continue to place a significant burden on the Company's resources. In order
to achieve anticipated sales levels and profitability, the Company will
continue to be required to manage its assets and operations efficiently. In
addition, should the Company continue to expand geographically, it may
experience certain inefficiencies from the management of geographically
dispersed facilities.
27
The Company anticipates that future demand for its products will require
expansion of its current operations and the addition of new production lines
in the future. It also anticipates that it will be required to move to a
larger facility. Should the Company's relocation to this facility be delayed
or should the Company experience any unexpected disruptions associated with
this transition, the Company's results of operations could be materially and
adversely affected. There can be no assurance that any such expansion will be
completed successfully.
RAPID TECHNOLOGICAL CHANGE
The semiconductor, computer, telecommunications and networking
industries are subject to rapid technological change, short product life
cycles, frequent new product introductions and enhancements, changes in
end-user requirements and evolving industry standards. The Company's ability
to be competitive in these markets will depend in significant part upon its
ability to invest significant amounts of resources for research and
development efforts, to successfully develop, introduce and sell new products
and enhancements on a timely and cost-effective basis and to respond to
changing customer requirements that meet evolving industry standards. For
example, the semiconductor memory market is currently transitioning from fast
page mode and EDO memory to SDRAM. The success of the Company in developing
new and enhanced products will depend upon a variety of factors, including
integration of the various elements of its complex technology, timely and
efficient completion of product design, timely and efficient implementation
of manufacturing and assembly processes, availability of production capacity,
achievement of acceptable manufacturing yields and product performance,
quality and reliability. The Company has experienced, and may in the future
experience, delays from time to time in the development and introduction of
new products. Moreover, there can be no assurance that the Company will be
successful in selecting, developing, manufacturing and marketing new products
or enhancements. There can be no assurance that defects or errors will not be
found in the Company's products after commencement of commercial shipments,
which could result in delayed market acceptance of such products. The
inability of the Company to introduce new products or enhancements that
contribute to sales could have a material adverse effect on the Company's
business, financial condition and results of operations.
DEPENDENCE ON SOLE OR LIMITED SOURCES OF SUPPLY
The Company is dependent on certain suppliers, including limited and
sole source suppliers, to provide key components used in the Company's
products. In particular, the Company is dependent in significant part upon
certain limited or sole source suppliers for critical components in the
Company's memory module and tester products. The electronics industry has
experienced in the past, and may experience in the future, shortages in
semiconductor devices, including DRAM, SDRAM and SRAM memory. The Company has
experienced and may continue to experience delays in component deliveries and
quality problems with respect to certain component deliveries which have
caused and could in the future cause delays in product shipments and have
required and could in the future require the redesign of certain products.
The Company generally has no written agreements with its suppliers. There can
be no assurance that the Company will receive adequate component supplies on
a timely basis in the future. The inability to continue to obtain sufficient
supplies of components as required, or to develop alternative sources if
required, could cause delays, disruptions or reductions in product shipments
or require product redesigns which could damage relationships with current or
prospective customers, could increase costs and/or prices and could have a
material adverse effect on the Company's business, financial condition and
results of operations.
DEPENDENCE ON KEY PERSONNEL
The Company's future operating results depend in significant part upon
the continued contributions of its key technical and senior management
personnel, many of whom would be difficult to replace. The Company's future
operating results also depend in significant part upon its ability to
attract, train and retain qualified
28
management, manufacturing and quality assurance, engineering, marketing,
sales and support personnel. The Company is actively recruiting such
personnel. However, competition for such personnel is intense, and there can
be no assurance that the Company will be successful in attracting, training
or retaining such personnel now or in the future. There may be only a limited
number of persons with the requisite skills to serve in these positions, and
it may be increasingly difficult for the Company to hire such persons over
time. The loss of any key employee, the failure of any key employee to
perform in his or her current position, the Company's inability to attract,
train and retain skilled employees as needed or the inability of the officers
and key employees of the Company to expand, train and manage the Company's
employee base could materially and adversely affect the Company's business,
financial condition and results of operations.
DEPENDENCE ON AVAILABILITY, RECRUITMENT AND RETENTION OF TECHNICAL PERSONNEL
The Company depends upon its ability to attract, hire and retain
technical personnel who possess the skills and experience necessary to meet
the Company's own personnel needs and the technical requirements of its
clients. Competition for individuals with proven technical skills is
intense. The computer industry in general experiences a high rate of
attrition of such personnel. The Company competes for such individuals with
competitors, providers of outsourcing services, temporary personnel agencies,
computer systems consultants, customers and potential customers. Many large
competitors have announced extensive campaigns to hire additional technical
personnel. Competition for quality technical personnel has continued to
intensify, resulting in increased personnel costs for many computer component
manufacturers. Failure to attract and retain sufficient technical personnel
would have a material adverse effect on the Company's business, operating
results and financial condition.
RISKS CONCERNING YEAR 2000
The Year 2000 problem concerns the inability of certain computer systems
to appropriately recognize the year 2000 when the last two digits of the year
are entered in the date field. The Company has assessed its Year 2000
requirements and believes that the resources required to make its major
computer systems and programs Year 2000 compliant are immaterial. The
Company, however, could be adversely affected by the Year 2000 problem if
computer systems of third parties such as banks, suppliers and others with
which the Company does business fail to address the Year 2000 problem
successfully. There can be no assurance that the Year 2000 problem, if
experienced by such third parties, will not have a material adverse effect
upon the Company's business, operating results and financial condition.
Many companies may need to modify or upgrade their information systems
to address the Year 2000 problem. The effects of this issue and of the
efforts by other companies to address it are unclear. The Company believes
that the purchasing patterns of customers and prospective customers might be
affected by Year 2000 issues. Many companies are expending significant
resources to correct their current software systems for Year 2000 compliance.
These expenditures might result in reduced funds available to purchase
services and products such as those offered by the Company.
The above year 2000 disclosure constitutes a "Year 2000 Rediness
Disclosure" as defined in the The Year 2000 Information and Readiness
Disclosure Act (the "Act"), which was signed into law on October 19, 1998.
The Act provides added protection from liability for certain public and
private statements concerning a company's year 2000 readiness.
LIMITED OPERATING HISTORY
Although the Company has been in existence since 1984, its current
operations have been in place only since its acquisitions of 1st Tech and
DarkHorse in 1996. Accordingly, the Company is still in many respects
29
subject to certain risks and uncertainties inherent in a new enterprise,
including limited capital and other resources, reliance on key personnel,
operating in a highly competitive environment, inability to develop long-term
relationships with its customers, suppliers and lenders, lack of name
recognition, higher overhead costs, and difficulty in addressing
unanticipated problems, delays and expenses.
UNCERTAINTY REGARDING PROTECTION OF PROPRIETARY RIGHTS
In the semiconductor, computer, telecommunications and networking
industries, it is typical for companies to receive notices from time to time
alleging infringement of patents, copyrights or other intellectual property
rights of others. While there is currently no pending intellectual property
litigation involving the Company, the Company may from time to time be
notified of claims that it may be infringing patents, copyrights or other
intellectual property rights owned by third parties. There can be no
assurance that third parties will not in the future pursue claims against the
Company with respect to the alleged infringement of patents, copyrights or
other intellectual property rights. In addition, litigation may be necessary
to protect the Company's intellectual property rights and trade secrets, to
determine the validity and scope of the proprietary rights of others or to
defend against third party claims of invalidity. Any litigation could result
in substantial costs and diversion of resources and could have a material
adverse effect on the Company's business, financial condition and results of
operations.
There can be no assurance that infringement, invalidity, right to use or
ownership claims by third parties or claims for indemnification resulting
from infringement claims will not be asserted in the future. The failure to
obtain a license under a patent or intellectual property right from a third
party for technology used by the Company could cause the Company to incur
substantial liabilities and to suspend the manufacture of the products
utilizing the intellectual property. In addition, should the Company decide
to litigate such claims, such litigation could be extremely expensive and
time consuming and could materially and adversely affect the Company's
business, financial condition and results of operations, regardless of the
outcome of the litigation.
The Company attempts to protect its intellectual property rights through
a variety of measures, including non-disclosure agreements, trademarks, trade
secrets and to a lesser extent, patents and copyrights. There can be no
assurance, however, that such measures will provide adequate protection for
the Company's trade secrets or other proprietary information, that disputes
with respect to the ownership of its intellectual property rights will not
arise, that the Company's trade secrets or proprietary technology will not
otherwise become known or be independently developed by competitors or that
the Company can otherwise meaningfully protect its intellectual property
rights.
EFFECTS OF DELISTING FROM NASDAQ SMALLCAP MARKET; LACK OF LIQUIDITY OF LOW
PRICED STOCKS
If the Company fails to maintain the qualification for its Common Stock
to trade on the Nasdaq SmallCap Market, its securities could be subject to
delisting. The Nasdaq Stock Market recently announced increases in the
quantitative standards for maintenance of listings on the Nasdaq SmallCap
Market. The revised standards for continued listing, which became effective
in February 1998, include maintenance of any of (x) $2,000,000 of net
tangible assets, (y) $35,000,000 of market capitalization or (z) $500,000 of
net income for two of the last three years and a minimum bid price per share
of $1.00. Although the Company is currently in compliance with the new Nasdaq
SmallCap Market continued listing requirements, no assurances can be given
that the Company will be able to maintain such compliance in the future. In
the event the Company is unable to satisfy the continued listing
requirements, trading, if any, in the Common Stock would thereafter be
conducted in the over-the-counter markets in the so-called "pink sheets" or
the National Association of Securities Dealers' "Electronic Bulletin Board."
Consequently, the liquidity of the Company's Common Stock likely would be
impaired, not only in the number of shares which could be bought and sold,
but also through delays in the timing
30
of the transactions, reduction in security analysts' and the news media's
coverage, if any, of the Company and lower prices for the Company's
securities than might otherwise prevail.
In addition, if the Common Stock were to become delisted from trading on
the Nasdaq SmallCap Market and the trading price of the Common Stock were
below $5.00 per share, trading in the Common Stock also would be subject to
the requirements of certain rules promulgated under the Exchange Act, which
require additional disclosures by broker-dealers in connection with any
trades involving a stock defined as a penny stock (generally, any non-Nasdaq
or other national equity security that has a market price of less than $5.00
per share, subject to certain exceptions). Such rules require the delivery,
prior to any penny stock transaction, of a disclosure schedule explaining the
penny stock market and the risks associated therewith, and impose various
sales practice requirements on broker-dealers who sell penny stock to persons
other than established customers and accredited investors (which are
generally institutions). For these types of transactions, the broker-dealer
must make a special suitability determination for the purchase and have
received the purchaser's written consent to the transaction prior to the
sale. The additional burdens imposed upon broker-dealers by such
requirements may discourage broker-dealers from effecting transactions in
Common Stock, which could severely limit the market liquidity of Common Stock
and the ability of purchasers in this offering to sell their shares of Common
Stock in the secondary market.
RISKS ASSOCIATED WITH ACQUISITIONS
As part of its business strategy, the Company expects to make
acquisitions of, or significant investments in, businesses that offer
complementary products and technologies. Any such future acquisitions or
investments would expose the Company to the risks commonly encountered in
acquisitions of businesses. Such risks include, among others, difficulty of
assimilating the operations, information systems and personnel of the
acquired businesses, the potential disruption of the Company's ongoing
business, the inability of management to maximize the financial and strategic
position of the Company through the successful incorporation of acquired
employees and customers, the maintenance of uniform standards, controls,
procedures and policies and the impairment of relationships with employees
and customers as a result of any integration of new management personnel.
There can be no assurance that any potential acquisition will be consummated
or, if consummated, that it will not have a material adverse effect on the
Company's business, financial condition and results of operations.
ENVIRONMENTAL REGULATION
The Company's operations and manufacturing processes are subject to
certain federal, state, local and foreign environmental protection laws and
regulations. Public attention has increasingly been focused on the
environmental impact of manufacturing operations that use hazardous materials
or generate hazardous wastes, and environmental laws and regulations may
become more stringent over time. There can be no assurance that failure to
comply with either present or future regulations, or to obtain all necessary
permits required under such regulations, would not subject the Company to
significant compliance expenses, production suspensions or delay,
restrictions on expansion at its present or future locations, the acquisition
of costly equipment or other liabilities.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The Company does not believe that there is any material market risk
exposure with respect to derivative or other financial instruments, which would
require disclosure under this item.
31
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The consolidated financial statements of the Company and the related
report of the Company's independent public accountants thereon are included
in this report at the pages indicated.
CONSOLIDATED FINANCIAL STATEMENTS AT SEPTEMBER 30, 1998 AND 1997
AND FOR THE FISCAL YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996:
Report of Independent Public Accountants . . . . . . . . . . . . . . 33
Consolidated Balance Sheets at September 30, 1998 and 1997 . . . . . 34
Consolidated Statements of Operations for the Years
Ended September 30, 1998, 1997 and 1996. . . . . . . . . . . . . 35
Consolidated Statements of Stockholders' Equity for the
Years Ended September 30, 1998, 1997 and 1996. . . . . . . . . . 36
Consolidated Statements of Cash Flows for the Years
Ended September 30, 1998, 1997 and 1996. . . . . . . . . . . . . 37
Notes to the Consolidated Financial Statements. . . . . . . . . . . 38
32
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Tanisys Technology, Inc.:
We have audited the accompanying consolidated balance sheets of Tanisys
Technology, Inc. (a Wyoming corporation), and subsidiaries as of September
30, 1998 and 1997, and the related consolidated statements of operations,
stockholders' equity and cash flows for each of the three years in the period
ended September 30, 1998. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a