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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
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X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2003
OR
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For the transition period from ____________________ to ____________________
Commission file number 000-31861
OPTICAL COMMUNICATION PRODUCTS, INC.
(Exact Name of Registrant as Specified in Its Charter)
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Delaware 95-4344224
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
6101 Variel Avenue
Woodland Hills, California 91367
(Address of principal executive offices, including zip code)
Registrant's Telephone Number, Including Area Code: (818) 251-7100
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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Name of each exchange
Title of each class on which registered
- --------------------------------------- --------------------------------
Class A Common Stock, $0.001 par value The Nasdaq National Market
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by a check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. |_|
Indicate by a check mark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). Yes |_| No |X|
As of March 31, 2003, the last business day of the registrant's most
recently completed second fiscal quarter, the approximate aggregate market value
of voting and non-voting common stock held by non-affiliates of the registrant
was $17,997,800 (based upon the last closing price for shares of the
registrant's common stock as reported by The National Market System of the
National Association of Securities Dealers Automated Quotation System as of that
date). Shares of common stock held by each officer, director, and holder of 10%
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.
The registrant has two classes of common stock authorized, Class A
Common Stock and Class B Common Stock. The rights, preferences and privileges of
each class of common stock are substantially identical except for voting rights.
The holders of Class A Common Stock are entitled to one vote per share while
holders of Class B Common Stock are entitled to ten votes per share on matters
to be voted on by stockholders. As of December 23, 2003, there were
approximately 47,725,460 shares of Class A Common Stock outstanding and
66,000,000 shares of Class B Common Stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Certain information required in Part III hereto is incorporated by
reference to the Proxy Statement for the Registrant's 2004 Annual Meeting of
Stockholders to be filed with the Securities and Exchange Commission pursuant to
Regulation 14A not later than 120 days after the end of the fiscal year covered
by this Form 10-K.
OPTICAL COMMUNICATION PRODUCTS, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 2003
TABLE OF CONTENTS
Page
PART I......................................................................................1
ITEM 1. BUSINESS................................................................1
ITEM 2. PROPERTIES.............................................................28
ITEM 3. LEGAL PROCEEDINGS......................................................29
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS....................29
PART II....................................................................................30
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS............................................30
ITEM 6. SELECTED FINANCIAL DATA................................................31
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS..........................33
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.............45
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA............................45
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.............................................................46
PART III...................................................................................47
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.....................47
ITEM 11. EXECUTIVE COMPENSATION.................................................47
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT AND RELATED
STOCKHOLDER MATTERS....................................................47
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.........................47
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.................................47
PART IV....................................................................................48
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.......48
This Annual Report on Form 10-K, including information incorporated herein by
reference, contains "forward-looking statements" within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934. These statements relate to expectations concerning matters that are not
historical facts. Words such as "projects," "believes," "anticipates," "will,"
"estimate," "plans," "expects," "intends," and similar words and expressions are
intended to identify forward-looking statements. Although we believe that such
forward-looking statements are reasonable, we cannot assure you that such
expectations will prove to be correct. Important language regarding factors
which could cause actual results to differ materially from such expectations are
disclosed in this Report, including without limitation under the caption "Risk
Factors" beginning on page 16 of this Report, and the other documents we file
with the Securities and Exchange Commission ("SEC"), including our most recent
reports on Form 8-K and Form 10-Q, and amendments thereto. All forward-looking
statements attributable to Optical Communication Products are expressly
qualified in their entirety by such language. We do not undertake any obligation
to update any forward-looking statements.
PART I.
ITEM 1. BUSINESS
We design, manufacture and sell a comprehensive line of high
performance, highly reliable fiber optic subsystems and modules for the
metropolitan area, local area and storage area markets. Subsystems and modules
are preassembled components that are used to build network equipment. Our
subsystems and modules are integrated into systems that address the bandwidth
limitations in metropolitan area networks, or MANs, local area networks, or LANs
and storage area networks, or SANs. Our products include optical transmitters,
receivers, transceivers and transponders that convert electronic signals into
optical signals and back to electronic signals, enabling high-speed
communication of voice and data traffic over public and private fiber optic
networks. Our products support a wide range of network applications,
transmission speeds, distances and standards, including international
transmission standards.
The Company was founded in October 1991 with initial funding from The
Furukawa Electric Company, Ltd. of Japan ("Furukawa"). We offer a comprehensive
line of high performance, cost-effective solutions to our customers supported by
volume production capabilities. We believe that our close working relationship
with leading fiber optic communication equipment manufacturers allows us to
quickly design and build advanced fiber optic subsystems and modules, enabling
our customers to focus on their core competencies in designing and building
overall systems. Our customers include communication equipment manufacturers,
such as Acterna Corporation, Alcatel, Allied Telesyn, Canoga Perkins, CIENA,
Cisco Systems, EXFO Protocol, Huawei Technologies, Nortel Networks, and Telrad
Telecommunication and Electronic Industries, Ltd. some of whom purchase through
contract manufacturers such as Benchmark Electronics, Celestica, Jabil Circuits,
Plexus, and Solectron.
Industry Background
Increased network traffic
During the past several years, the amount of voice and data transmitted
over communication networks has increased significantly. This growth is
primarily attributed to the rapid growth and popularity of data intensive
applications, such as Internet access, distance learning, web hosting, real-time
data backup, e-mail, video conferencing, multimedia file transfers and the
movement of large blocks of stored data across networks. To meet this demand,
communication service providers upgraded their communication networks to expand
capacity, which greatly reduced transmission costs per bit. This cost
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reduction has, in turn, further increased the demand for and usage of
communication networks. This cycle, increased demand fueling increased capacity
at reduced costs and increasing demand further, has enabled the growth in voice
and data traffic across networks.
Evolution of network infrastructure
Communication networks were originally designed to handle voice traffic.
The infrastructure of existing prior generation, or legacy, networks consists of
copper cabling along which voice communications are transmitted in the form of
electronic signals. While copper cabling is generally a reliable transmission
medium, its ability to transmit large volumes of data at high speed is limited,
and it is prone to electromagnetic interference, or EMI, from nearby electronic
equipment and other sources. EMI interferes with the transmission of a signal
and degrades signal quality.
To overcome the limitations of the legacy copper cable infrastructure
and meet increasing demand for high capacity and high-speed voice and data
transmission, communication service providers have adopted optical fiber optic
technology in their networks. Fiber optic technology involves the transmission
of data over fiber optic cable via digital pulses of light, which allows for
greater bandwidth over longer distances than copper cable and higher quality
transmissions that are not subject to EMI.
Widespread deployment of fiber optic technology initially occurred in
the long-haul network. Long-haul networks connect the communications networks of
metropolitan areas around the world and facilitate the transport of large
amounts of voice and data traffic over long distances, up to thousands of miles.
Companies designing equipment for this segment have typically focused on
providing as much bandwidth as possible between any two locations. The long-haul
market was the first to face increasing network congestion as data, aggregated
from expanding MAN, LAN, and SAN infrastructures, began to overload long-haul
networks. Long-haul network managers, focused on maintaining network
performance, were the first to adopt advanced subsystems and modules to increase
the capacity of existing fiber. Long-haul network managers have typically been
concerned more about network performance than transmission equipment cost
because the cost of increasing the capacity of long-haul networks through adding
fiber is expensive relative to upgrading the transmission equipment to higher
data transmission rates.
The build-out of optical long-haul networks through the adoption of
advanced subsystems and modules to increase capacity represents an important
step in improving network infrastructure to support increased demand for new
services and greater traffic volumes. While optical fiber continues to be
deployed, and its transmission capacity is expanded in long-haul networks, fiber
optic technologies are increasingly being adopted to support high data rate
connections to link end-users to the long-haul networks.
Metropolitan area networks, local area networks, storage area networks
Metropolitan area networks consist of metro core and access networks.
Metro core networks are the distribution points between long-haul networks and
metro access networks. In a typical system, a long-haul network connects to a
city-wide MAN through which long-haul data is aggregated by network managers,
such as Internet service providers, or ISP, and distributed to local users via
an access network. Metro core networks enable enterprises and service providers
to interconnect network systems over areas from as small as a city block or
corporate campus to a wider geographic area.
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Metro access networks connect business and residential end-users to
metro core networks. These end-users have increasingly demanded higher-speed
connections to take advantage of new data-intensive, multimedia-centric
applications. Access networks traditionally have used relatively slow copper
cable based connections. A number of high-speed transmission technologies have
been developed to improve the speed of access networks, including digital
technologies such as digital subscriber line, or DSL, and cable modem
technologies. DSL technology utilizes the legacy copper-based infrastructure to
provide users with increased bandwidth at low cost. Cable modems, which connect
computers to local cable TV lines, also provide users with access to high
bandwidth at low cost. As these high data rates and new services become more
widely available to end-users, legacy copper cable connections are expected to
become increasingly insufficient to meet demand. Consequently, service providers
are beginning to deploy fiber optic cable directly to end-users or to
neighborhood distribution points, enabling the business or residential end-user
to obtain a wide range of current and future services.
Local area networks connect users within a building or groups of
buildings. Storage area networks connect computers and data storage sites within
buildings or groups of buildings. These networks were originally developed as
copper cable networks using standards such as Ethernet and Fast Ethernet. As
performance requirements surpassed the limitations of copper-based deployments,
these networks were upgraded to support multimode fiber optic solutions to
address the expanding application needs of the end-user. As the data rate and
transmission distance requirements of these networks increase further, they are
being upgraded with single mode fiber optics technology to support the
next-generation of high-speed networking standards, such as Fibre Channel
(single, double and quad speed), Gigabit Ethernet, and 10 Gigabit Ethernet.
Market Opportunity
With increasing volumes of digitally-based data being transmitted across
long-haul networking infrastructures, the MAN topology is often viewed as the
limiting factor in overall network performance. In addition, LAN and SAN
segments are also requiring greater bandwidth and performance capabilities to
address data traffic congestion. As a result, network managers have been
upgrading their LAN and SAN infrastructures to higher speeds using optical
transmission technologies and high-speed networking standards such as Gigabit
Ethernet, Fibre Channel (single, double and quad speed) and the recently adopted
10 Gigabit Ethernet protocol.
As demand for bandwidth grows, service providers will require
increasingly sophisticated systems to support metro, local and storage networks
applications. Systems must meet the unique requirements of these networks, such
as cost-effectiveness and reliability in harsh environmental conditions.
Historically, the MAN, LAN and SAN optical infrastructures have been supplied by
large vertically integrated fiber optic communication equipment manufacturers,
which manufactured their own components such as lasers and photodiodes. The
demand for optical networking equipment has led to the expansion of production
by existing optical component manufacturers, as well as the creation of new
companies offering cost-effective fiber optic systems. These new companies are
typically not vertically integrated and do not employ system design teams to
create mixed analog/digital circuits required for laser and photodiode
interfaces.
The market demands on fiber optic communication equipment manufacturers
to produce optical networking solutions for the MAN, LAN and SAN markets have
given rise to a number of significant technical challenges, including the
following:
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o Providing solutions which balance performance and cost. The metropolitan
market requires optical subsystems and modules that are designed
specifically to meet the unique performance and cost requirements of this
market.
o Providing long distance operation in MAN applications where interconnection
distances can range from a few kilometers (km) up to 120km. Systems that are
unable to transmit over long distances require expensive repeaters to boost
and regenerate signals, raising the overall cost of the solution to the
end-customer.
o Providing wide operating temperature range in metro networks where equipment
is located in remote locations with no environmental control. Products that
operate from -40 to 85 degrees Celsius are a necessity in this market. This
is in contrast to the long-haul network and local area networks where
equipment is deployed within temperature controlled buildings.
o Delivering products that address the demand for increasingly smaller
packages to provide higher port density requires greater component
miniaturization, thermal and EMI engineering design expertise.
o Supporting a wide range of data rates, transmission distance requirements,
network standards, optical interfaces and packaging options requires that
fiber optic communication equipment manufacturers offer a broad range of
products.
o Producing increasingly integrated products requires cross-disciplinary
expertise in optics, circuit design, packaging, software, microwave and
radio frequency engineering.
o Responding to demands for shorter lead times requires manufacturers to
design products and scale production rapidly.
o Producing systems to handle increasingly higher data rates in compliance
with Federal Communications Commission standards for EMI emissions requires
advanced fiber optic subsystem and module design.
o Responding to customer requirements for "customized" standard products
requires scalable base-line designs.
Current Industry Environment
Since early 2001, the telecommunications sector, and in particular the
fiber optic networking sector, has suffered a severe downturn. System providers
have scaled back on deployment and have dramatically slowed their purchases of
systems from equipment manufacturers. As a result, equipment manufacturers have
also slowed purchases of components and modules from our competitors and from
us. Moreover, as equipment manufacturers' sales declined, they have relied on
their excess component inventories to meet reduced demand and have moved to
reduce their overall component and module inventory levels. Consequently, the
slowdown continues to have a negative impact on our business as we face
declining sales as the result of our customers' declining business and the
resulting adjustment to their inventory levels. See "Business - Risk Factors -
Unfavorable current economic and market conditions have resulted in decreased
sales and increased difficulty predicting our future operating results." and "-
General economic factors could negatively impact our growth plan."
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However, despite the slowdown in the industry, we believe that the
future market for optical components remains very promising. We believe that
voice, data and Internet traffic will continue to grow in future years with an
increasingly large portion of this traffic expected to include the transfer of
data intensive applications requiring expanded network capacity and transmission
speed, such as fiber to the home initiatives, distance learning, full motion
video, multi-channel high quality audio, video conferencing, and movement of
large blocks of stored data across networks. We believe that once the industry
recovers from its current downturn, service providers and equipment
manufacturers will focus on relieving the network congestion and limitations in
overall network performance at the MAN, LAN, and SAN levels. Accordingly, we
believe that specific sectors in the industry, such as the enterprise segment,
will experience particularly strong growth when the industry recovers. However,
given our current lack of visibility, we cannot provide any assurance as to the
timing or extent of any industry recovery or as to any increase in business or
other benefits that we may receive as a result thereof.
Our Solution
We design, manufacture and sell a comprehensive line of high
performance, reliable fiber optic subsystems and modules that are used in fiber
optic transmission systems. Our subsystems and modules are integrated into
systems, which address the bandwidth limitations in MAN, LAN, and SAN
infrastructures. We provide communication equipment manufacturers with
high-value, cost-effective optical solutions to meet the market requirements of
the MAN, LAN, and SAN industry segments, allowing them to focus on their core
competencies of designing and building overall systems.
We provide our customers with the following key benefits:
o High-performance, high reliability, cost-effective products - Our portfolio of
high performance subsystems and modules enables optical networks to operate at
high data transmission rates, transmit signals over a variety of distances up to
120km and operate in wide temperature ranges of between -40 to 85 degrees
Celsius. Our products are engineered using advanced packaging technologies and
feature low levels of radiated EMI. Our products are qualified under
requirements established by Telcordia (Bellcore), an engineering and
administrative services consortium that establishes industry standards and
specifications for the telecommunications, wireless and fiber optic industries.
The Telcordia requirements relate to the environmental, electrical and optical
testing for fiber optic transmitters and receivers, to ensure that they offer
the high reliability required for critical applications. Our products are
engineered to meet the specific distance, temperature and other performance
requirements of the MAN, LAN, and SAN markets.
o Comprehensive product line - Our comprehensive fiber optic product line
provides communication equipment manufacturers with a broad range of solutions
for MAN, LAN, and SAN applications. Our subsystems and modules are available
with all the common fiber optic interfaces, and are available in a wide variety
of thru-hole and pluggable package styles. They support a wide range of data
rates, standards, wavelengths and transmission distances.
o Innovative design capabilities - We believe that our expertise in high-speed
electronic circuit design and packaging of fiber optic devices, enhanced by our
close working relationships with customers, enables us to provide innovative
subsystems and modules for the MAN, LAN, and SAN markets. Our engineers work
closely with Furukawa and other suppliers to integrate advanced semiconductor
lasers and custom fiber optic packaging techniques. We also have expertise in
designing the complex transmitter circuitry that converts a digital logic signal
into the proper signal for the laser or light emitting diode. We design and
manufacture our own fiber optic receiver subassemblies using our proprietary
automated
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processes. As a result of our fiber optic device design expertise and our close
customer relationships, we are able to quickly adapt our products to respond to
new standards and our customers' requirements for subsystems and modules.
o Reduced time to market - Our subsystems and modules allow communication
equipment manufacturers to design and assemble fiber optic interfaces as easily
as standard electronic components by eliminating the need for complex setup of
individual lasers or receivers. By working closely with our customer design
teams, we are able to provide optimized solutions that are cost-effective and
meet time to market objectives.
o Scalable manufacturing capabilities - Our broad portfolio of products use
modular designs which enable us to rapidly configure and manufacture subsystems
and modules to meet each customers specifications and to rapidly scale our
production to deliver these products in volume. We can easily customize our
products for example by implementing different electrical connections, or pin
configurations, voltages and package sizes as requested by our customers,
without impairing the functionality of our products.
Products
We offer a comprehensive line of high-performance fiber optic subsystems
and modules, including fiber optic transmitters, receivers, transceivers,
parallel optical modules and transponders, primarily for use in MAN, LAN, and
SAN. Fiber optic subsystems and modules are pre-assembled components that are
used to build network equipment. Our products convert electronic signals into
optical signals and back into electronic signals, thereby facilitating the
transmission of information over fiber optic communication networks. We believe
our products' technical specifications meet or exceed industry standards for
fiber optic subsystems and modules.
Our fiber optic products integrate advanced optical devices with mixed
analog/digital integrated circuits. These circuits allow continuously varying
signals and digital data to be designed in the same circuit rather than separate
circuits. Our products provide subsystem/module functionality over a wide
variety of connectivity speeds, distances, standards and operating temperature
ranges.
Our products are engineered with varying levels of integration to suit
our customers. The lowest level of integration involves separate transmitter and
receiver modules, which provides our customers the greatest flexibility in
product design by allowing them to place the transmitters and the receivers
according to their design specifications. Parallel optics and transceivers
provide the next level of integration. Parallel optics combines multiple
receivers or transmitters in a single package for back plane applications where
enhanced density is a requirement. Transceivers place both the transmitter and
receiver in the same package with a dual fiber or connector interface.
Transponders provide the highest level of integration by combining the
functionality of a transceiver with the addition of multiplexer and
demultiplexer circuits in the same package.
Current products
Transmitters and Receivers - Transmitters convert an electronic digital
input signal into an optical output signal for transmission over a fiber optic
network. Receivers detect optical signals from a fiber optic network and convert
them into an electronic signal in standard digital/logic format for further
signal processing. We offer separate transmitter and receiver modules that
provide our customers with
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the greatest flexibility in product design by allowing them to place
transmitters and receivers separately according to design specifications.
Our optical transmitter and receiver products support the SONET/SDH,
Fast Ethernet, Gigabit Ethernet and Fibre Channel transmission standards and are
offered in a wide range of data rates, transmission distances and packaging
options.
DWDM Transmitter - Dense wavelength division multiplexing, or DWDM,
transmitters allow the mixing of optical signals using different standards such
as SONET/SDH, asynchronous transfer mode, or ATM, and Gigabit Ethernet, by
utilizing different wavelengths. Our DWDM transmitters are available in a
compact, low-profile 24-pin package along with two supply voltage options. Also,
the transmitters are provided with additional functions such as disable inputs,
LD degradation alarm, and wavelength deviation alarm signals.
Transceivers - Optical transceivers are products that contain both a
transmitter and a receiver in a single device and serve as high data rate
interconnects between network devices, such as routers, switches, servers and
storage elements. Our optical transceivers are available in a wide variety of
fiber optic interfaces, or form factors, and support a wide range of data rates,
wavelengths, modes and transmission distances. Our transceivers support the
SONET/SDH, Fast Ethernet, Gigabit Ethernet and Fibre Channel transmission
standards.
CWDM Transceivers - Coarse wavelength division multiplexing, or CWDM,
transceivers, allow the mixing of optical signals by utilizing different
wavelengths. The CWDM transceivers use lasers with wide channel wavelength
spacing, typically 20 nm, which allows the equipment to achieve a lower overall
system cost. This lower cost is the result of a lower transmitter cost since no
temperature and wavelength control is needed, as well as a lower optical
MUX/DMUX cost due to wider tolerance on the wavelength stability and bandwidth.
Our CWDM transceivers are available in all the common industry standard
transceiver footprints of 1x9, 2x9, GBIC, SFF and SFP, and provide eight
wavelength channels at nominally 1470 nm, 1490 nm, 1510 nm, 1530 nm, 1550 nm,
1570 nm, 1590 nm, and 1610 nm. They are available in a multi-rate format that
allows operation at all speeds from 100 Mb/s Ethernet up to 2.5Gb/s. SONET/SDH.
SFP Transceivers - Small form-factor pluggable, or SFP, transceivers are
"hot-pluggable" optical transceivers that can be removed or inserted into the
equipment without turning off the power of the system. This feature allows our
customers to readily reconfigure their systems without interrupting their
network services, thereby, eliminating system downtime during upgrades and
maintenance. Our cam latches are color coded to provide the end-user with an
easy way to identify module types in an installed system.
Our SFP transceiver is available in a variety of distances and speeds
and uses the popular small form factor LC fiber optic connector interface,
allowing fiber optic equipment makers to increase their port density. They are
also offered in speeds from 155 Mb/s up to 2.5Gb/s including multimode LED and
850nm VCSEL as well as single mode 1310 and 1550nm lasers. We provide commercial
and industrial temperature ranges of many SFP transceiver models.
Transponders - Our optical transponders combine the functionality of a
transceiver with integrated circuits for electronic multiplexing and
demultiplexing in the same package. We have provided samples of these products
to customers for initial testing. Multiplexers are paired with
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transmitters and allow the system designer to combine multiple low-speed
electronic data streams onto a single optical wavelength, while demultiplexers
and receivers reverse this process. The transmitter portion of the transponder
accepts sixteen 155 Mb/s (or 622 Mb/s for OC-192) electronic signals,
multiplexes them together and provides at the output a single 2,488 Mb/s (or
9.95 Gb/s for OC-192) optical signal. The receiver portion of the transponder
performs the reverse function, namely accepting a single optical signal and
providing back sixteen 155 Mb/s (or 622 Mb/s for OC-192) electronic signals. The
advantage of this product is the compact overall design that minimizes the
equipment size and the low speed electronic interface that simplifies our
customers' printed circuit design.
Parallel Transmitters and Receivers - Parallel transmitters convert an
array of electronic digital input signals into an array of optical output
signals for transmission over a fiber ribbon cable. Parallel receivers detect
optical signals from a fiber ribbon cable and convert them into an array of
electronic signals in standard digital/logic format for further signal
processing. We offer separate transmitter and receiver modules with 12 channels
configuration that operate at 2.7 Gb/s per channel for an aggregate bandwidth of
32.4Gb/s for short reach applications. We have provided samples of these
products to customers for initial testing.
Products under development
Our product development efforts have, and will continue to be, focused
on developing new products and technologies to support increased transmission
speeds, distances and capacities. We have been developing products to support
future generations of fiber optic MAN, LAN, and SAN by utilizing CWDM, DWDM,
850nm VCSEL-based parallel optical modules, the integration of 1310nm VCSELs
into optical modules and to address 10 Gb/s transmission standards.
Multiplexers are integrated circuits that combine signals from many
inputs into a single output, and demultiplexers are integrated circuits that
accomplish the reverse, or create many outputs from a single input. Wavelength
division multiplexing is a technology that allows multiple signals to be sent
along the same optical fiber by using different colors of light for each signal.
We have expanded efforts in this area to cover SONET/SDH and Gigabit Ethernet
applications for multiple operating temperature ranges.
We plan to introduce optical transmitters, receivers and transceivers
using both DWDM and CWDM technologies. These are being designed to allow the
mixing of optical signals using different standards, such as SONET/SDH,
asynchronous transfer mode, or ATM, and Gigabit Ethernet, by utilizing different
wavelengths. We also plan to develop a series of pluggable transceivers for
applications in the different standards.
In October 2002 we acquired certain assets of Cielo Communications,
Inc., a research and design company located in Broomfield, Colorado focused on
creating VCSEL technology for fiber optic communication networks. The purchase
price was $5 million and includes the acquisition of capital equipment,
inventory and intellectual property.
We believe the Cielo Communications' technology will enhance our ability
to accelerate the integration of 1300 nm VCSEL sources into multi-channel
optical modules. These parallel array optical modules will offer the advantages
of high optical port density and low power consumption which are required by the
next generation optical networking applications.
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In January 2003 we acquired the parallel optical module assets and
intellectual property of Gore Photonics, the fiber optics business unit of W.L.
Gore & Associates, Inc., an industry leader in the research and development of
VCSEL parallel optical modules for fiber optic communication networks.
We believe that the Gore Photonics 850nm VCSEL parallel optical module
technology will allow us to provide our customers with an enabling building
block for the next generation of optical systems. The 850nm optical module
technology will allow us to accelerate the introduction of parallel optical
modules. These parallel array optical modules offer the advantages of high speed
data transfer and low power consumption, which are required for the next
generation of interconnecting multiple equipments. We will continue to
manufacture Gore's new parallel fiber optic modules including the nLIGHTEN(TM)
2300 product, which conforms to the SNAP-12, one of the industry standard for 12
x 2.7 Gb/s modules.
We believe that some of our competitors are developing similar products
to those that we have under development. While we are currently developing
products in all of the areas described above, we may choose to prioritize or
redirect our development efforts in response to market demands. Therefore, it is
not certain that we will introduce products for all of the categories listed
above.
Customers
We sell our products to communication equipment manufacturers, or CEMs,
directly and through contract manufacturers who incorporate them into systems
they assemble for CEMs. Contract manufacturers assemble specific products for
CEMs. We define our customers as CEMs who have purchased our products directly
or ordered our products for incorporation into systems produced by contract
manufacturers, such as Benchmark Electronics, Celestica, Jabil Circuits, Plexus,
and Solectron. We typically do not enter into long-term contracts with our
customers.
A small number of customers have historically accounted for a
significant portion of our total revenue. For the fiscal year ended September
30, 2003, our 10 largest customers accounted for 61.2% of our total revenue,
with Cisco Systems, Alcatel, and Huawei (including sales to each of their
contract manufacturers) accounting for approximately 12.2%, 11.8%, and 10.0% of
our total revenue, respectively. No other customer accounted for more than 10.0%
of our revenue during the fiscal year ended September 30, 2003.
For financial reporting purposes, we consider our customers to be the
contract manufacturers and CEMs who place purchase orders with us or otherwise
purchase our products directly. Comstar Communications accounted for
approximately 11.0% of our total revenue for the fiscal year ended September 30,
2003. No other customer accounted for more than 10.0% of our revenue during the
fiscal year ended September 30, 2003. See "Business - Risk Factors - We derive a
significant portion of our total revenue from a few significant customers, and
our total revenue may decline significantly if any of these customers cancels,
reduces or delays purchases of our products or extracts price concessions from
us."
Technology
The development and manufacture of high-performance fiber optic
subsystems and modules for MAN, LAN, and SAN require diverse technical skills
and expertise. We believe that our understanding of fundamental optical devices,
their packaging and high speed circuit design allows us to extend the
performance of low cost packaging and technology, which we originally designed
for smaller local area
9
networks, to provide the high-performance required for fiber optic MAN, LAN, and
SAN. Key elements of our technological capabilities include:
o Optical device technology - With the purchase of certain assets
of Cielo Communications, Inc., a research and design company
located in Broomfield, Colorado, we have acquired the technology
of designing, fabricating and packaging long wave VCSEL devices.
We believe that this long wave VSCEL device technology is a key
building block for next generation optical modules.
In addition, we understand the performance requirements for many
optical devices for use in fiber optic systems. There is a wide
range of optical source and detector technologies available, and
these must be optimized for each application.
o Optical packaging/subassembly design - We work closely with
Furukawa and other suppliers to combine advanced semiconductor
laser designs and custom optical packaging techniques to produce
advanced optical subassemblies. Less than one micron tolerances,
or variability in the alignment of components, are required in
these laser packages and reliability specifications require us to
hold these mechanical tolerances over a wide range of
temperatures and the specified life of our products. A micron is
one thousandth of a millimeter. We believe these designs and
technologies improve the performance of our products as well as
enhance yields and reduce material costs. We also design our
receiver packages for automated assembly, and we design and
manufacture our own optical subassemblies for our receivers. This
allows us to provide design flexibility, high-performance, and
the ability to manufacture in volume.
o Links with Furukawa - We have worked closely with Furukawa to
develop new optical devices for our products using technology
that they have developed. Furukawa supplies us with the majority
of the optical devices, such as lasers, needed for some of the
optical subassemblies used in our products.
o Electronic circuit design - We have the expertise to design
complex transmitter circuitry that converts a digital logic
signal into the proper signal for the laser or light emitting
diode. This circuit has compensation and feedback control loops
that change the current to maintain constant optical power
output. This electronic signal must also be modulated and the
waveform of the modulation must be carefully controlled to ensure
that the optical output meets the fiber optic communications
equipment manufacturer's defined specifications. We also have
considerable expertise in designing receivers to minimize the
effects of external noise that can significantly affect the
performance of a receiver. Our products operate at speeds up to
2.5 Gb/s and we are working to develop future products to work at
10 Gb/s. At these speeds, microwave and radio frequency design
techniques must be used to ensure that the waveforms do not
degrade and meet the parameters defined in standards. We believe
our technical competencies in these areas enable us to produce
fiber optic subsystems and modules with low electromagnetic
interference emission levels.
o Fast product development cycle time - Our products are designed
using a building block approach that allows us to combine
different subassemblies in different ways to provide a wide range
of products. Our integrated subassemblies allow us to quickly
adapt our
10
products to respond to new standards and our customers'
requirements for special subsystems and modules. This ability, in
combination with our market knowledge, allows us to select the
commercial opportunities we believe to be the best and provide
samples and production volumes in very short time frames.
Manufacturing
We assemble, burn in and test all of our products in our facility in
Woodland Hills, California. We also conduct all of our manufacturing
engineering, quality assurance and documentation control at this facility.
We use a number of subcontractors and suppliers, including Furukawa, to
supply subassemblies. We rely upon domestic and international contract
manufacturers for most of our printed circuit board assembly. Our manufacturing
supply chain management team manages these relationships supported by our
research and development group. We do not have any long-term contracts with any
of our contract manufacturers and none of them are obligated to perform assembly
services for us for any specific period or at any specific price, except as may
be provided in a particular purchase order.
We provide quality assurance through internal testing procedures
throughout the entire manufacturing process. Our quality control procedures
include vendor inspection, incoming material inspection, in-process testing and
outgoing inspection. We provide specialized training to assure the competency of
our manufacturing personnel.
We purchase several key components for our products from a limited
number of suppliers. The components that we purchase include integrated
circuits, lasers, light emitting diodes, vertical cavity surface-emitting
lasers, photodiode devices and other passive electronic components. We have
periodically experienced shortages and delivery delays for these materials.
Because we operate in an industry where material supplies are constrained, we
maintain an inventory of some limited source components to decrease the risk of
shortage. As a result, we have excess inventory of these components that have
led to write downs of excess inventory.
Research and Development
In fiscal 2001, 2002, and 2003, our research and development expenses
were $3.0 million, $5.3 million and $16.2 million, respectively. Although our
experienced optics engineers and the modular nature of our products allowed us
to enjoy relatively low research and development expenses in the past, we
believe our strategic investment into research and development in the recent and
future periods will allow us to respond to rapid technological changes, changes
in customer requirements and evolving industry standards. During fiscal 2003, we
continued our investment in our research and development capabilities through
the addition of personnel on our R&D team, including our October 2002
acquisition of certain assets of Cielo Communications, a research and design
company focused on creating 1300nm VCSEL technology for fiber optic
communication networks and our January 2003 acquisition of the certain assets of
Gore Photonics, a research and design company focused on creating 850nm VCSEL
parallel optical module technology for fiber optic communication networks.
We plan to continue to provide resources to develop new product lines
and fund development contracts with universities, research institutes and
companies. In addition, Furukawa has developed a number of innovative components
that we have integrated into our products. We plan to continue to collaborate
with Furukawa as we expand our internal research and development capabilities.
We expect
11
our future research and development expenses to increase in absolute dollars as
we continue to focus our research and development activities on enhancing our
existing products, developing new products to meet the evolving needs of our
customers within our existing markets and supporting emerging standards that are
consistent with our product strategies.
Sales, Marketing and Technical Support
We sell our products primarily through our worldwide direct sales force
supported by independent manufacturers' representatives and distributors. Our
direct sales force and field applications engineering team maintains close
contact with our customers and provides technical support to our manufacturers'
representatives and distributors. We maintain regional sales offices in Northern
and Southern California, Texas, New Hampshire, Canada and the United Kingdom. In
addition, we have direct sales representatives located on the East Coast of the
United States, working from home offices. Our corporate customer service
department in Woodland Hills, California provides day-to-day updates on orders
and deliveries to our customers world-wide, excluding Europe. We also have a
satellite customer service operation in our United Kingdom facility to better
address our growing European customer base.
We have established contractual relationships with manufacturers'
representatives and distributors in North America, Europe, Israel, and Asia.
Manufacturers' representatives and distributors are third parties who provide
commercial and technical support in selling our products to customers.
Manufacturers' representatives represent us with customers, but customers place
orders directly with us. We pay the manufacturers' representatives a fee for
this service. Distributors perform the same function, but differ in that the
distributor buys products from us and resells them at a profit to the end
customer. We have short-term contracts with our manufacturers' representatives
and distributors, which can be cancelled by either party upon 30 days notice. We
intend to expand our indirect sales activity by establishing relationships with
additional independent manufacturers' representatives and distributors. Please
refer to Note 14 to our Notes to Financial Statements for further information
about our sales to particular geographic areas.
We focus our marketing on CEMs in the fiber optic MAN, LAN, and SAN
markets. Our intent is to become a market driven supplier that provides
cost-effective, value-add solutions to our customer base. Our efforts in the
development of an effective branding campaign are to better position our
strengths as customer-focused suppliers of a broad product portfolio that
addresses optical applications. Key elements of our marketing initiatives are as
follows:
o Expansion of the overall marketing resources to provide more focus on
industry segments, to identify and drive new product efforts, to
position our company strengths with our customers as well as the
technical community, and to introduce new revenue opportunities into the
company product portfolio.
o The development of key marketing relationships at our identified
strategic accounts with high-level decision makers to better position us
for current and next-generation opportunities during the product
development and specification defining phases.
o The expansion of our applications engineering group to provide our
customers with complete pre- and post-sales technical support on our
products, including design and troubleshooting assistance. We have added
geographically-based field applications engineers to service key
regional design centers to support the sales efforts.
12
o The implementation of a marketing communications plan to focus efforts
on strategic corporate branding and positioning initiatives in
advertising, press relations, tradeshow events, web site, speaking
engagements, and publication opportunities. The new web site launched in
September 2003 includes a part number search engine and provides
customers with a comprehensive listing of our broad product portfolio.
We also interact with our customers in industry associations, standards
committees and participation in multi-source agreements, to promote and further
enhance our position within the technical community.
We provide extensive technical support to our customers during their
design and qualification process through direct contact with our application and
design engineering teams. In addition, our web site provides product
documentation and application notes. Our account managers and customer service
personnel provide ongoing post-sales support.
Backlog
Backlog consists of orders for shipments with release dates from our
customers. As of September 30, 2003 and September 30, 2002, our backlog was
approximately $5.3 million and $3.7 million, respectively. Orders in backlog are
firm, but are subject to cancellation or rescheduling by the customer. We do not
believe that backlog comparisons on a year to year or quarter to quarter basis
are meaningful as our backlog is unpredictable and fluctuates monthly.
Competition
The MAN, LAN, and SAN markets for optical subsystems and modules for CEM
applications are highly competitive and subject to rapidly changing technology.
We believe the primary competitive factors impacting our business are as
follows:
o Breadth of product portfolio
o Competitive with market-level pricing
o Time to market of new product introductions
o Established relationships with key customers
o Capability to scale production requirements
o Quality and reliability of products
o Complete technical documentation for product lines
o Financially stable suppliers
o Ability to provide technical design support
o Scope and responsiveness of service and technical support
o Compliance to industry standard specifications
o Meeting the customer design phase timelines for product qualification
We believe that we have established a favorable position in the MAN,
LAN, and SAN markets by identifying and focusing on fiber optic subsystems and
modules specifically for these segments. We believe that we are focused on these
markets with a combination of comprehensive product portfolios, management and
design expertise, market understanding and manufacturing capabilities. We
compete primarily with Agilent Technologies, ExceLight Communications, Finisar,
Infineon Technologies, JDS
13
Uniphase, MRV Communications, OpNext, Picolight, and Stratos Lightwave. Many of
our current and potential competitors have significantly greater financial,
technical, marketing, purchasing and other resources than we do. In addition,
several low-cost Asian competitors are entering into our market segment. We have
competitors for all of our current products.
Our products may also compete with technologies that provide
alternatives to optical networking, including fixed and mobile radio, free space
point-to-point optical transmission and copper-based technologies such as
digital subscriber line, or DSL, and cable modems. Most of these technologies
provide lower speed and shorter distance capabilities than optical networking
technologies, but may provide certain advantages such as lower costs and mobile
capabilities. See "Business - Risk Factors - Our markets are highly competitive,
some of our customers are also our competitors, and our other customers may
choose to purchase our competitors' products rather than our products or develop
internal capabilities to produce their own fiber optic subsystems and modules."
Intellectual Property
Our success and ability to compete is dependent in part on our
proprietary technology. We rely primarily on patent, copyright, trademark and
trade secret laws, as well as confidentiality agreements and other methods, to
establish and protect our proprietary technologies and processes. However, these
measures afford only limited protection of our proprietary technology. Including
patent properties acquired from Cielo Communications in October 2002, our patent
portfolio now counts more than 30 issued United States patents and more that 40
pending United States patent applications. In addition, there are four pending
Canadian patent applications, and three pending PCT international patent
applications. There can be no assurance that we will continue to seek the
issuance of patents from our pending patent applications filed in the United
States and other foreign governmental authorities. Furthermore, there can be no
assurance that any of our patent applications will result in the issuance of any
patents or that any patents issued will provide competitive advantages for our
products or protect us against claims asserting that our products infringe or
may infringe the proprietary rights of third parties.
On April 12, 2002, the Company entered into a five-year license
agreement with Stratos Lightwave, Inc. covering Stratos' portfolio of
optoelectronic transceiver patents. In addition, we acquired two licenses
related to VCSEL technology resulting from our acquisition of certain assets of
Cielo Communications. With the exception of these three licenses, we currently
do not license to or from any other third parties the technology used in the
manufacture of our fiber optic subsystems and modules. In addition, no
technology is transferred or licensed in connection with our supply relationship
with Furukawa. Accordingly, Furukawa owns the technology relating to the
manufacture of its laser and other products we purchase for incorporation into
our products and may license or sell this technology to other parties. We own
the technology relating to the manufacture of our fiber optic subsystems and
modules. We have not transferred to Furukawa any intellectual property rights
that would allow it to compete with us in the MAN, LAN, and SAN markets.
However, there can be no assurance that Furukawa would not develop in the future
internal capabilities to manufacture fiber optic subsystems and modules similar
to and competitive with our products.
Litigation may be necessary in the future to enforce our intellectual
property rights or to determine the validity and scope of the proprietary rights
of others. This litigation could result in substantial costs and diversion of
resources and could significantly harm our business. See "Business - Risk
Factors - If we are unable to protect our proprietary technology, this
technology could be misappropriated, which would make it difficult for us to
compete in our industry." From time-to-time, third parties may assert patent,
copyright, trademark and other intellectual property rights to technologies
14
and in various jurisdictions that are important to our business. Any claims
asserting that our products infringe or may infringe proprietary rights of third
parties, if determined adversely to us, could significantly harm our business.
Any claims, with or without merit, could be time-consuming, result in costly
litigation, divert the efforts of our technical and management personnel, cause
product shipment delays or require us to enter into royalty or licensing
agreements, any of which could significantly harm our business. Royalty or
licensing agreements, if required, may not be available on terms acceptable to
us, if at all. In addition, our agreements with our customers typically require
us to indemnify our customers from any expense or liability resulting from
claimed infringement of third party intellectual property rights. In the event a
claim against us is successful, we could be liable for significant monetary
damages. If we cannot obtain a license to the relevant technology on acceptable
terms or license a substitute technology or redesign our products to avoid
infringement, our business would be significantly harmed. See "Business - Risk
Factors - We could be subjected to additional litigation regarding intellectual
property rights, which may divert management attention, cause us to incur
significant costs or prevent us from selling our products."
Employees
As of September 30, 2003, we had 296 full-time employees and no
part-time employees. Our employees are not represented by any collective
bargaining agreements and we have never experienced a work stoppage.
Notwithstanding the current economic downturn, we consider our employee
relations to be generally good.
Our Relationship with Furukawa
We were incorporated as a California corporation in October 1991 and we
subsequently reincorporated as a Delaware corporation in October 2000 in
connection with our initial public offering. In November 1991, a wholly owned
subsidiary of The Furukawa Electric Co., Ltd. provided our initial capital
investment. Furukawa, a publicly held company incorporated under the laws of
Japan, is one of the world's leading manufacturers of electric wire and cable,
nonferrous metals and related products. It also provides engineering services,
including the installation of power and telecommunications cables, and is a
major manufacturer of fiber optic cable. Furukawa's stock is publicly traded on
the Tokyo Exchange Nikkei in Japan. Furukawa beneficially owns all of our
outstanding Class B common stock, which as of November 30, 2003 represented
58.8% of our outstanding shares of common stock and 93.4% of the combined voting
power of all of our outstanding common stock.
Our relationship with Furukawa has allowed us to benefit from the
optical device and packaging technologies developed at its laboratories in
Japan, which are incorporated into laser products, that we purchase from
Furukawa for inclusion in our products. We have also established a close working
relationship with Furukawa's research and development team through periodic
meetings and discussions to understand our product and manufacturing
requirements. Under these arrangements, Furukawa customizes to our
specifications the components that it supplies to us. For example, Furukawa has
developed laser products with customized features in the areas of package design
and power output. We have not licensed from Furukawa any of its optical devices
or other technologies.
We currently purchase the majority of lasers from Furukawa under
a Master Purchase Agreement which we entered into with Furukawa on October 1,
2003. We have enjoyed a reliable supply of these critical components from
Furukawa in the past. Under this Master Purchase Agreement, we agreed to
purchase from Furukawa, and Furukawa agreed to manufacture and sell to us,
specific types of lasers which are critical parts in the manufacture of our
subsystems and modules. This Agreement
15
continues until September 30, 2004, and renews automatically each year
thereafter unless it is terminated upon written notice by either Furukawa or us
prior to renewal. Under this Agreement, we must place orders with Furakawa based
on both our past three months' usage trends and our material requirements for
the following four weeks. Each quarter, we must purchase a minimum number of
particular products, which minimums may be reduced only with Furukawa's consent.
The pricing for these products are set out in the Agreement, although we have
agreed to negotiate with Furukawa on a quarterly basis to determine whether the
pricing needs to be revised. Either Furukawa or we may terminate the Agreement
upon written notice to the other for material breach, bankruptcy, or force
majeure.
From time to time our research and development team works closely with
Furukawa's team to assist in the development of our design and manufacturing
process. We may enter into similar development agreements with Furukawa in the
future. However we have no current commitments and currently have no development
agreements under negotiation with Furukawa. We believe that our prior business
dealings with Furukawa and its subsidiaries and affiliates were on terms that
were no less favorable than terms that would be available from unrelated third
parties for similar transactions.
RISK FACTORS
This Report contains forward-looking statements based on the current
expectations, assumptions, estimates and projections about us and our industry.
Our actual results could differ materially from those discussed in these
forward-looking statements as a result of certain factors, as more fully
described in this section and elsewhere in this Report. These forward-looking
statements involve risks and uncertainties. You should carefully consider the
following risks before you decide to buy shares of our Class A common stock. The
risks and uncertainties described below are not the only ones facing us.
Additional risks and uncertainties, including those risks set forth in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and elsewhere in this Report, may also adversely impact and impair
our business. If any of the following risks actually occur, our business,
results of operations or financial condition would likely suffer. In such case,
the trading price of our Class A common stock could decline, and you may lose
all or part of the money you paid to buy our stock. We do not undertake to
update publicly any forward-looking statements for any reason, even if new
information becomes available or other events occur in the future.
Our continued success in generating revenue depends on growth in construction of
fiber optic MAN, LAN, and SAN.
Our fiber optic subsystems and modules are used primarily in MAN, LAN,
and SAN. These markets are rapidly evolving, and it is difficult to predict
their potential size or future growth rate. In addition, we are uncertain as to
the extent to which fiber optic technologies will be used in these markets. Our
success in generating revenue will depend on the growth of these markets and
their adoption of fiber optic technologies. A substantial portion of our revenue
is derived from sales of our product in the MAN market. Sales of our products
for the MAN market represented approximately 84%, 86% and 91% of our revenue for
the years ended September 30, 2003, 2002 and 2001, respectively.
The continuing downturn in our industry have caused communications
service providers to reduce their capital spending on fiber optic equipment and
delayed the deployment of new and build-out of existing fiber optic networks. As
a result, revenue decreased from $144.0 million for the fiscal year ended
September 30, 2001 to $37.2 million and $38.9 million for fiscal years ended
September 30, 2002 and 2003, respectively.
16
As the result of currently uncertain economic and market conditions, (a)
our revenue may decline, (b) we are unable to predict future revenue accurately,
and (c) we are currently unable to provide long-term guidance for future
financial performance. The conditions contributing to this difficulty include:
o uncertainty regarding the capital spending plans of the major
telecommunications carriers, upon whom our customers and,
ultimately we, depend for revenue;
o the telecommunications carriers' current limited access to the
capital required for expansion;
o lower near term revenue visibility; and
o general market and economic uncertainty.
Based on these and other factors, many of our major customers have
reduced orders for our products and have expressed uncertainty as to their
future requirements. As a result, our revenue in future periods may decline. In
addition, our ability to meet financial expectations for future periods may be
harmed.
We derive a significant portion of our total revenue from a few significant
customers, and our total revenue may decline significantly if any of these
customers cancels, reduces or delays purchases of our products or extracts price
concessions from us.
Our success depends on our continued ability to develop and maintain
relationships with a limited number of significant customers. We sell our
products into markets dominated by a relatively small number of systems
manufacturers, a fact that limits the number of our potential customers. Our
dependence on orders from a relatively small number of customers makes our
relationship with each customer critical to our business.
We do not have long-term sales contracts with our customers. Instead,
sales to our customers are made on the basis of individual purchase orders that
our customers may cancel or defer on short notice without significant penalty.
In the past, some of our major customers canceled, delayed or significantly
accelerated orders in response to changes in the manufacturing schedules for
their systems, and they are likely to do so in the future. The reduction,
cancellation or delay of individual customer purchase orders would cause our
revenue to decline. Moreover, these uncertainties complicate our ability to
accurately plan our manufacturing schedule. Additionally, if any of our
customers cancel or defer orders, our operating expenses may increase as a
percentage of revenue.
In the past, our customers have sought price concessions from us, and
they are likely to continue to do so in the future. In addition, some of our
customers may shift their purchases of products from us to our competitors. The
loss of one or more of our significant customers, our inability to successfully
develop relationships with additional customers or future price concessions
could cause our revenue to decline significantly.
We are dependent on a limited number of suppliers for most of our key
components. If these suppliers are unable to meet our manufacturing
requirements, we may experience production delays leading to delays in
shipments, increased costs and cancellation of orders for our products.
We purchase several key components that we incorporate into our products
from a limited number of suppliers. We also purchase the majority of lasers from
Furukawa under a Master Purchase
17
Agreement. We do not have long-term supply contracts with any of our other key
suppliers and our agreement with Furukawa is only for one year. Our dependence
on a small number of suppliers and our lack of longer term supply contracts
exposes us to several risks, including our potential inability to obtain an
adequate supply of quality components, price increases and late deliveries. We
have experienced shortages and delays in obtaining key components in the past
and expect to experience shortages and delays in the future.
In the past, industry capacity has been constrained and some of our
component suppliers placed limits on the number of components sold to us. If
industry capacity becomes constrained in the future, our component suppliers may
place similar limits on us. We do not have any control over these limits, and
our suppliers may choose to allocate more of their production to our
competitors. In addition, our suppliers could discontinue the manufacture or
supply of these components at any time.
A disruption in, or termination of, our supply relationship with
Furukawa or any of our other key suppliers, or our inability to develop
relationships with new suppliers would interrupt and delay the manufacturing of
our products, which could result in delays in our revenue, or the cancellation
of orders for our products. We may not be able to identify and integrate
alternative suppliers in a timely fashion, or at all. Any transition to
alternative suppliers would likely result in delays in shipment, quality control
issues and increased expenses, any of which would limit our ability to deliver
products to our customers. Furthermore, if we are unable to identify an
alternative source of supply, we may have to redesign or modify our products,
which would cause delays in shipments, increase design and manufacturing costs
and require us to increase the prices of our products.
Our future operating results are likely to fluctuate from quarter to quarter,
and if we fail to meet the expectations of securities analysts or investors, our
stock price could decline significantly.
Our historical quarterly operating results have varied significantly,
and our future quarterly operating results are likely to continue to vary
significantly from period to period. As a result, we believe that
period-to-period comparisons of our operating results should not be relied upon
as an indicator of our future performance. Some of the factors that could cause
our operating results to vary include:
o fluctuations in demand for, and sales of, our products, which is
dependent on the implementation of fiber optic networks;
o the timing of customer orders, particularly from our significant
customers;
o competitive factors, including introductions of new products,
product enhancements and the introduction of new technologies by
our competitors, the entry of new competitors into the fiber
optic subsystems and modules market and pricing pressures;
o our ability to control expenses;
o the mix of our products sold; and
o economic conditions specific to the communications and related
industries.
We incur expenses from time to time that may not generate revenue until
subsequent quarters. In addition, in connection with new product introductions,
we incur research and development expenses and sales and marketing expenses that
are not matched with revenue until a subsequent quarter when the new product is
introduced. We cannot assure you that our expenditures on manufacturing capacity
will generate increased revenue in subsequent quarters. If growth in our revenue
does not outpace the increase in our expenses, our quarterly operating results
may fall below expectations and cause our stock price to decline significantly.
18
Due to these and other factors, we believe that our quarterly operating
results are not an indicator of our future performance. If our operating results
are below the expectations of public market analysts or investors in future
quarters, the trading price of our Class A common stock would be likely to
decrease significantly.
General economic factors could negatively impact our growth plan.
Since early 2001, unfavorable economic conditions in the United States
detrimentally affected the U.S. manufacturing industry, particularly sales of
fiber optics equipment to service providers and communication equipment
companies. Announcements by fiber optics equipment manufacturers and their
customers during this period indicate that there is a reduction in spending for
fiber optic equipment as a result of the economic slowdown and efforts to reduce
existing inventories. Based on these and other factors, some of our customers
have reduced, modified, cancelled or rescheduled orders for our products and
have expressed uncertainty as to their future requirements. In addition, the
economic slowdown has required us to aggressively manage our costs and expenses,
including our July 2001 and April 2002 announcements of the elimination of
approximately 110 jobs and 45 jobs, respectively, primarily in the manufacturing
area, and may require us to implement further cost management procedures in the
future. Our business, operating results and financial condition will suffer if
economic conditions in the United States worsen, the fiber optics equipment
market continues to slowdown, or if a wider or global economic slowdown occurs.
If we do not develop and introduce new products with higher average selling
prices in a timely manner, the overall average selling prices of our products
will decrease.
The market for fiber optic subsystems and modules is characterized by
declining average selling prices for existing products due to increased
competition, the introduction of new products, product obsolescence and
increased unit volumes as manufacturers deploy new network equipment. We have in
the past experienced, and in the future may experience, period-to-period
fluctuations in operating results due to declines in our overall average selling
prices. We anticipate that the selling prices for our existing products will
decrease in the future in response to product introductions by competitors or
us, or other factors, including pressure from significant customers for price
concessions. Therefore, we must continue to develop and introduce new products
that can be sold at higher prices on a timely basis to maintain our overall
average selling prices. Failure to do so could cause our revenue and gross
margins to decline.
If our customers do not approve our manufacturing process and qualify our
products, we will lose significant customer sales and opportunities.
Customers generally will not purchase any of our products before they
qualify them and approve our manufacturing process and quality control system.
Our customers may require us to register under international quality standards,
such as ISO 9001. Delays in product qualification or loss of ISO 9001
certification may cause a product to be dropped from a long-term supply program
and result in a significant lost revenue opportunity. If particular customers do
not approve of our manufacturing process, we will lose the sales opportunities
with those customers.
We have been registered under ISO 9001:1994 in the past and we are
undergoing a transition to be registered under ISO 9001:2000. If we are
unsuccessful in obtaining timely registration of the ISO 9001:2000 standards, we
may lose the sales opportunities with certain customers based on their specific
requirements. We are currently certified under ISO 9001:1994.
19
If we fail to predict our manufacturing requirements accurately, we could incur
additional carrying costs and have excess and obsolete inventory or we could
experience manufacturing delays, which could cause us to lose orders or
customers.
We currently use historical data, a backlog of orders and estimates of
future requirements to determine our demand for components and materials. We
must accurately predict both the demand for our products and the lead-time
required to obtain the necessary components and materials. Lead times for
components and materials vary significantly depending on factors such as the
specific supplier, the size of the order, contract terms and demand for each
component at a given time. We generally maintain excess inventory of parts that
increases our inventory carrying costs and periodically causes us to have excess
and obsolete inventory. However, if we were to underestimate our purchasing
requirements, manufacturing could be interrupted, resulting in delays in
shipments.
Our markets are highly competitive, some of our customers are also our
competitors, and our other customers may choose to purchase our competitors'
products rather than our products or develop internal capabilities to produce
their own fiber optic subsystems and modules.
The market for fiber optic subsystems and modules is highly competitive
and we expect competition to intensify in the future. Our primary competitors
include Agilent Technologies, ExceLight Communications, Finisar, Infineon
Technologies, JDS Uniphase, MRV Communications, OpNext, Picolight, and Stratos
Lightwave. We also face indirect competition from public and private companies
providing products that address the same fiber optic network problems that our
products address. The development of alternative solutions to fiber optic
transmission problems by our competitors, particularly systems companies that
also manufacture modules, such as Fujitsu, could significantly limit our growth
and harm our competitive position.
Many of our current competitors and potential competitors have longer
operating histories and significantly greater financial, technical, sales and
marketing resources than we do. As a result, these competitors are able to
devote greater resources to the development, promotion, sale and support of
their products. In addition, our competitors that have large market
capitalization or cash reserves are in a much better position to acquire other
companies in order to gain new technologies or products that may displace our
products. Any of these potential acquisitions could give our competitors a
strategic advantage. In addition, many of our competitors have much greater
brand name recognition, more extensive customer bases, more developed
distribution channels and broader product offerings than we do. These companies
can use their broader customer bases and product offerings and adopt aggressive
pricing policies to gain market share.
In addition, existing and potential customers, especially in Japan and
other international markets, may also become competitors. These customers have
the internal capabilities to integrate their operations by producing their own
optical subsystems and modules or by acquiring our competitors or the rights to
produce competitive products or technologies, which may allow them to reduce
their purchases or cease purchasing from us.
We expect our competitors to introduce new and improved products with
lower prices, and we will need to do the same to remain competitive. We may not
be able to compete successfully against either current or future competitors
with respect to new products. We believe that competitive pressures may result
in price reductions, reduced margins and our loss of market share.
20
Our sales cycle runs from our customers' initial design to production for
commercial sale. This cycle is long and unpredictable and may cause our revenue
and operating results to vary from our forecasts.
The period of time between our initial contact with a customer and the
receipt of a purchase order from that customer may span to more than a year and
varies by product and customer. During this time, customers may perform or
require us to perform extensive evaluation and qualification testing of our
products. Generally, they consider a wide range of issues before purchasing our
products, including interoperation with other subsystems and components, product
performance and reliability. We may incur substantial sales and marketing
expenses and expend significant management effort while potential customers are
qualifying our products. Even after incurring these costs, we ultimately may not
sell any or sell only small amounts of our products to a potential customer. If
sales forecasts to specific customers are not realized, our revenue and results
of operations may be negatively impacted.
If we do not achieve acceptable manufacturing yields in a cost-effective manner,
or we are required to develop new manufacturing processes to improve our yields,
our operating results would be impaired.
The manufacture of our products involves complex and precise processes.
As a result, it may be difficult to cost-effectively meet our production goals.
In addition, changes in our manufacturing processes or those of our suppliers,
or our suppliers' inadvertent use of defective materials, could significantly
reduce our manufacturing yields, increase our costs and reduce our product
shipments. To increase our gross margin, while offering products at prices
acceptable to customers, we will need to develop new manufacturing processes and
techniques that will involve higher levels of automation.
We could be subjected to litigation regarding intellectual property rights,
which may divert management attention, cause us to incur significant costs or
prevent us from selling our products.
In recent years, there has been significant litigation in the United
States involving patents and other intellectual property rights in the
networking technologies industry. Many companies aggressively use their patent
portfolios to bring infringement claims against competitors. As a result, we may
be a party to litigation or be involved in disputes over our alleged
infringement of others' intellectual property in the future. These claims and
any resulting lawsuit, if successful, could subject us to significant liability
for damages and prevent us from making or selling some of our products. These
lawsuits, regardless of their merit, would likely be time-consuming and
expensive to resolve and would divert management's time and attention. Any
potential intellectual property litigation also could force us to do one or more
of the following:
o stop selling, incorporating or using our products that use the
infringed intellectual property;
o obtain a license to make, sell or use the relevant technology
from the owner of the infringed intellectual property, which
license may not be available on commercially reasonable terms, if
at all; or
o redesign the products to not use the infringed intellectual
property, which may not be technically or commercially feasible.
If we are forced to take any of these actions, we may be limited in our
ability to execute our business plan.
21
We may in the future initiate claims or litigation against third parties
for infringement of our proprietary rights. These claims could result in costly
litigation and the diversion of our technical and management personnel. In the
process of asserting our intellectual property rights, these rights could be
found to be invalid, unenforceable or not infringed. Failure to successfully
assert our intellectual property rights could result in our inability to prevent
our competitors from utilizing our proprietary rights.
If we are unable to protect our proprietary technology, this technology could be
misappropriated, which would make it difficult for us to compete in our
industry.
Our success and ability to compete is dependent in part on our
proprietary technology. We rely primarily on patent, copyright, trademark and
trade secret laws, as well as confidentiality agreements and other methods, to
establish and protect our proprietary rights. Existing patent, copyright,
trademark and trade secret laws afford only limited protection. While we are
pursuing foreign patent protections, the laws of some foreign countries do not
protect the unauthorized use of our proprietary technology and processes to the
same extent as do the laws of the United States, and policing the unauthorized
use of our products is difficult. Many U.S. companies have encountered
substantial infringement problems in some foreign countries. Because we sell
some of our products overseas, we have exposure to foreign intellectual property
risks. Any infringement of our proprietary rights could result in costly
litigation, and any failure to adequately protect our proprietary rights could
result in our competitors offering similar products, potentially resulting in
the loss of some of our competitive advantage and a decrease in our revenue.
If we are unable to generate adequate additional revenue as a result of the
planned expansion of our sales operations, our competitive position may be
harmed and our revenue or margins may decline.
Historically, we have relied primarily on a limited direct sales force,
supported by third party manufacturers' representatives and distributors, to
sell our products. Our sales strategy focuses primarily on developing and
expanding our direct sales force, manufacturers' representatives and
distributors. We have incurred and will continue to incur significant costs
related to the expansion of our sales operations. If the expansion of our sales
operations does not generate adequate additional revenue, our operating margins
may decline. To the extent we are unsuccessful in expanding our direct sales
force, we will likely be unable to compete successfully against the
significantly larger and well-funded sales and marketing operations of many of
our current or potential competitors. In addition, if we fail to develop
relationships with significant manufacturers' representatives or distributors,
or if these representatives or distributors are not successful in their sales or
marketing efforts, sales of our products may decrease and our competitive
position would be harmed. Our representatives or distributors may not market our
products effectively or may not continue to devote the resources necessary to
provide us with effective sales, marketing and technical support. Our inability
to effectively manage the expansion of our domestic and foreign sales and
support staff or maintain existing or establish new relationships with
manufacturer representatives and distributors would harm our revenue and result
in declining margins.
The market for our products is new and is characterized by rapid technological
changes and evolving industry standards. If we do not respond to the changes in
a timely manner, our products likely will not achieve market acceptance.
The market for our products is characterized by rapid technological
change, new and improved product introductions, changes in customer requirements
and evolving industry standards. Our future success will depend to a substantial
extent on our ability to develop, introduce and support cost-effective
22
new products and technology on a successful and timely basis. We plan to
increase our budget for research and development of new products and technology.
Since these costs are expensed as incurred, we expect a negative impact on our
reported net income. If we fail to develop and deploy new cost-effective
products and technologies or enhancements of existing products on a timely
basis, or if we experience delays in the development, introduction or
enhancement of our products and technologies, our products will no longer be
competitive and our revenue will decline.
The development of new, technologically advanced products is a complex
and uncertain process requiring high levels of innovation and highly skilled
engineering and development personnel, as well as the accurate anticipation of
technological and market trends. We cannot assure you that we will be able to
identify, develop, manufacture, market or support new or enhanced products on a
timely basis, if at all. Furthermore, we cannot assure you that our new products
will gain market acceptance or that we will be able to respond effectively to
product announcements by competitors, technological changes or emerging industry
standards. Our failure to respond to product announcements, technological
changes or industry changes in standards would likely prevent our products from
gaining market acceptance and harm our competitive position.
Terrorist activities and resulting military and other actions could adversely
affect our business.
The September 11, 2001 terrorist attacks in the United States and recent
terrorist attacks in other parts of the world, as well as continued threats of
global terrorism, current and future military response to them and the possible
United States military action against Iraq have created many economic and
political uncertainties that make it extremely difficult for us, our customers
and our suppliers to accurately forecast and plan future business activities.
This reduced predictability challenges our ability to operate profitably or to
grow our business. In particular, it is difficult to develop and implement
strategies, sustainable business models and efficient operations, and
effectively manage contract manufacturing and supply chain relationships. In
addition, the continued threats of terrorism and the heightened security
measures in response to such threats have and may continue to cause significant
disruption to commerce throughout the world. Disruption in air transportation in
response to these threats or future attacks may result in transportation and
supply-chain disruptions, increase our costs for both receipt of inventory and
shipment of products to our customers, and cause customers to defer their
purchasing decisions. Disruptions in commerce could also cause consumer
confidence and spending to decrease or result in increased volatility in the
U.S. and worldwide financial markets and economy. They also could result in
economic recession in the U.S. or abroad. Any of these occurrences could have a
significant impact on our operating results, revenue and costs and may result in
the volatility of the market price for our Class A common stock and on the
future price of our Class A common stock.
Our success depends on our key personnel, including our executive officers, the
loss of any of whom could harm our business.
Our success depends on the continued contributions of our senior
management and other key research and development, sales and marketing and
operations personnel, including Muoi Van Tran, our Chief Executive Officer and
President, Susie Nemeti, our Chief Financial Officer and Vice President of
Finance and Administration, Mohammad Ghorbanali, our Chief Operating Officer and
Vice President of Technical Operations, and Masato Sakamoto, our Executive Vice
President of Corporate Development. Competition for employees in our industry is
intense. We do not have life insurance policies covering any of our executives.
There can be no assurance that we will be successful in retaining such key
personnel, or that we will be successful in hiring replacements or additional
key personnel. Our loss of any key employee, the failure of any key employee to
perform in his or her current position, or the
23
inability of our officers and key employees to expand, train and manage our
employee base would prevent us from executing our growth strategy.
We will need to attract and retain highly qualified managers, sales and
marketing and technical support personnel. We have had difficulty hiring the
necessary engineering, sales and marketing and management personnel in the past.
If we fail to hire and retain qualified personnel when needed, our product
development efforts and customer relations will suffer. Our key management
personnel have limited experience in managing the growth of technologically
complex businesses in a rapidly evolving environment. If we are unable to manage
our growth effectively, we will incur additional expenses that will negatively
impact our operating results.
Our products may have defects that are not detected until full deployment of a
customer's system. Any of these defects could result in a loss of customers,
damage to our reputation and substantial costs.
We design our products for large and complex fiber optic networks, and
our products must be compatible with other components of the network system,
both current and future. We have experienced in the past, and may continue to
experience in the future, defects in our products. Defects in our products or
incompatibilities in our products may appear only when deployed in networks for
an extended period of time. In addition, our products may fail to meet our
customers' design specifications, or our customers may change their design
specifications after the production of our product. A failure to meet our
customers' design specification often results in a loss of the sale due to the
length of time required to redesign the product. We may also experience defects
in third party components that we incorporate into our products. We have
experienced the following due to our inability to detect or fix errors in the
past:
o increased costs associated with the replacement of defective
products, redesign of products to meet customer design
specification and/or refund of the purchase price;
o diversion of development resources; and
o increased service and warranty costs.
Our products and the systems into which our products are incorporated must
comply with domestic and international governmental regulations, and if our
products do not meet these regulations, our ability to sell our products will be
restricted.
Our products are subject to various regulations of U.S. and foreign
governmental authorities principally in the areas of radio frequency emission
standards and eye safety. Radio frequency emission standards govern allowable
radio interference with other services. Eye safety standards govern the labeling
and certification of laser products to ensure that they are used in a way that
does not create a hazard to the human eye. Our products and the systems into
which they are incorporated must also comply with international standards and
governmental standards of the foreign countries where our products are used. Our
inability, or the inability of our customers, to comply with existing or
evolving standards established by regulatory authorities, or to obtain timely
domestic or foreign regulatory approvals or certificates will restrict our
ability to sell our products.
We are subject to environmental laws and other legal requirements that have the
potential to subject us to substantial liability and increase our cost of doing
business.
Our properties and business operations are subject to a wide variety of
federal, state and local environmental, health and safety laws and other legal
requirements, including those relating to the
24
storage, use, discharge and disposal of toxic, volatile or otherwise hazardous
substances. We may be required to incur substantial costs to comply with current
or future legal requirements. In addition, if we fail to obtain required permits
or otherwise fail to operate within these or future legal requirements, we may
be required to pay substantial penalties, suspend our operations or make costly
changes to our manufacturing processes or facilities. We believe our properties
and business operations are in compliance with applicable environmental laws. We
do not anticipate any material capital expenditures for environmental control
facilities for the 2004 fiscal year.
We face risks associated with our international operations that could prevent us
from marketing and distributing our products internationally.
Although a significant portion of our sales has historically been in
North America, a growing percentage of our revenue is generated from sales
outside North America. Sales of our products outside North America accounted for
approximately 39.5%, 24.3% and 17.0% of our revenue for the periods ended
September 30, 2003, 2002 and 2001, respectively. We expect that our sales
outside of North America will continue to contribute materially to our revenue.
We have limited experience in marketing and distributing our products
internationally. We intend to expand our international operations in the future.
Significant management attention and financial resources are needed to develop
our international sales, support and distribution channels and manufacturing. We
may not be able to establish or maintain international market demand for our
products.
In addition, international operations are subject to other risks,
including:
o greater difficulty in accounts receivable collection and longer
collection periods;
o difficulties and costs of staffing and managing foreign
operations with personnel who have expertise in fiber optic
technology;
o unexpected changes in regulatory or certification requirements
for optical networks; and
o political or economic instability.
A portion of our international revenue and expenses may be denominated
in foreign currencies in the future. Accordingly, we could experience the risks
of fluctuating currencies and may choose to engage in currency hedging
activities. These factors could adversely impact our international sales or
increase our costs of doing business abroad or impair our ability to expand into
international markets, and therefore could significantly harm our business.
Disruption of our operations at our Woodland Hills, California manufacturing
facility could require us to lease alternative manufacturing facilities or limit
our manufacturing operations.
In August 2003, we relocated our headquarters from Chatsworth,
California to Woodland Hills, California. All of our manufacturing operations
are conducted in our Woodland Hills, California headquarters. Due to this
geographic concentration, a disruption of our manufacturing operations,
resulting from sustained process abnormalities, human error, government
intervention or natural disasters, such as earthquakes, fires or floods, or
other causes, could require us to cease or limit our manufacturing operations.
See "Business - Manufacturing" and "Properties."
Our limited experience in acquiring other businesses, product lines and
technologies may make it difficult for us to overcome problems encountered in
connection with any acquisition we may undertake.
25
We expect to review opportunities to buy other businesses, products or
technologies that would enhance our technical capabilities, complement our
current products or expand the breadth of our markets or which may otherwise
offer growth opportunities. Our acquisition of businesses or technologies will
require significant commitment of resources. We may be required to pay for any
acquisition with cash, but we cannot be certain that additional capital will be
available to us on favorable terms, if at all. In lieu of paying cash, we could
issue stock as consideration for an acquisition that would dilute existing
stockholders' percentage ownership, incur substantial debt or assume contingent
liabilities. We have little experience in acquiring other businesses and
technologies. Potential acquisitions also involve numerous risks, including:
o problems assimilating the purchased operations, technologies or
products;
o unanticipated costs associated with the acquisition;
o diversion of management's attention from our core business;
o adverse effects on existing business relationships with suppliers
and customers;
o risks associated with entering markets in which we have no or
limited prior experience; and
o potential loss of key employees of purchased organizations.
On October 9, 2002, we acquired certain assets of privately-held Cielo
Communications, Inc and on January 31, 2003 we acquired certain assets of Gore
Photonics, the fiber optics business unit of W.L. Gore & Associates. We may
encounter problems integrating the acquired operations, technologies or products
into our own and could lose the services of certain key employees associated
with these acquired entities.
Our stock price is likely to be volatile and could drop unexpectedly.
Our Class A common stock has been publicly traded since November 3,
2000. The market price of our Class A common stock has been subject to
significant fluctuations since the date of our initial public offering. The
stock market has from time to time experienced significant price and volume
fluctuations that have affected the market prices of securities, particularly
securities of telecommunications and fiber optic companies. As a result, the
market price of our Class A common stock may materially decline, regardless of
our operating performance. In the past, following periods of volatility in the
market price of a particular company's securities, securities class action
litigation has often been brought against that company. We may become involved
in this type of litigation in the future. Litigation of this type is often
expensive and diverts management's attention and resources.
We may not be able to maintain our listing on the Nasdaq National Market and if
we fail to do so, the price and liquidity of our Class A common stock may
decline.
The Nasdaq Stock Market has quantitative maintenance criteria for the continued
listing of securities on the Nasdaq National Market. The current requirements
affecting us include maintaining a minimum bid price per share of $1. Our bid
price has been below $1 in the past. If the bid price of our Class A common
stock drops below $1 per share and remains at that level for more than 30
consecutive trading days, we will be in violation of Nasdaq's listing standards.
If within 90 days thereafter, our Class A common stock does not have a minimum
bid price of $1 per share for 10 consecutive trading days, Nasdaq will commence
proceedings to delist our Class A common stock from the Nasdaq National Market.
If we fail to maintain continued listing on the Nasdaq National Market and must
move to a
26
market with less liquidity, our stock price would likely decline. If we are
delisted, it could have a material adverse effect on the market price of, and
the liquidity of the trading market for, our Class A common stock.
We have business conflicts of interest with Furukawa, the resolution of which
may not be as favorable to us as if we were dealing with an unaffiliated third
party.
We have historically relied on Furukawa's research and development
capabilities to provide us with technologically advanced lasers and fiber optic
components that we purchase from Furukawa for inclusion in our products, and we
expect to continue to rely on Furukawa in the future. We currently purchase the
majority of lasers from Furukawa under a Master Purchase Agreement. We cannot
assure you that Furukawa will renew the Agreement upon its expiration on
September 30, 2004 or whether it will continue to provide services and
components to us, and if not, whether or on what terms we could find adequate
alternative sources for these services and components. We believe that our past
business dealings with Furukawa and its subsidiaries and affiliates were on
terms that were no less favorable than terms that would be available from third
parties for similar transactions. We intend to continue to maintain our
relationship with Furukawa and Furukawa can control the outcome of any
stockholder votes, as discussed below. The terms of future transactions with
Furukawa may or may not be comparable to those that would be available from
unaffiliated third parties.
Conflicts of interest may arise between Furukawa and us in a number of
areas, including the nature and quality of services rendered by Furukawa to us,
potential competitive business activities, sales or distributions by Furukawa of
all or any portion of its ownership interest in us, or Furukawa's ability to
control our management and affairs. It is possible that business decisions made
by management that are in the best interest of our stockholders may conflict
with Furukawa's interests. For example, we may decide to enter into or acquire a
line of business competitive with Furukawa, or Furukawa may decide to enter into
or acquire a line of business competitive with us. Any of these events may alter
or eliminate our ability to rely on Furukawa to supply key components to us in
the future, increase our costs of producing our products and result in increased
competition in our markets. We cannot assure you that we will be able to resolve
any conflicts we may have with Furukawa or, if we are able to do so, that the
resolution will be favorable to us.
Furukawa will control the outcome of stockholder voting and there may be an
adverse effect on the price of our Class A common stock due to disparate voting
rights of our Class A common stock and our Class B common stock.
Furukawa beneficially owns all of our outstanding shares of Class B
common stock, which as of November 30, 2003 represented 93.4% voting control
over all stockholder issues. The holders of our Class A common stock and Class B
common stock have identical rights except that holders of our Class A common
stock are entitled to one vote per share while holders of our Class B common
stock are entitled to ten votes per share on matters to be voted on by
stockholders. The differential in the voting rights of our Class A common stock
and Class B common stock could adversely affect the price of our Class A common
stock to the extent that investors or any potential future purchaser of our
shares of Class A common stock give greater value to the superior voting rights
of our Class B common stock. Each share of our Class B common stock will
automatically convert into one share of Class A common stock if it is
transferred to any entity, other than an entity controlling, controlled by or
under common control with Furukawa. In addition, our Class B common stock will
automatically convert into shares of our Class A common stock if the total
number of outstanding shares of Class B common stock falls below 20% of total
number of outstanding shares of our common stock. As long as Furukawa has a
controlling interest,
27
it will continue to be able to elect our entire board of directors and generally
be able to determine the outcome of all corporate actions requiring stockholder
approval. As a result, Furukawa will be in a position to continue to control all
matters affecting us, including:
o a change of control, including a merger;
o our acquisition or disposition of assets;
o our future issuances of common stock or other securities;
o our incurrence of debt; and
o our payment of dividends on our common stock.
Two members of our board of directors are also executives of Furukawa.
These individuals have obligations to both our company and Furukawa and may have
conflicts of interest with respect to matters potentially or actually involving
or affecting us, such as acquisitions and other corporate opportunities that may
be suitable for both Furukawa and us.
Our exploration of strategic alternatives may not be successful.
On September 29, 2003, we announced that a special committee of our board of
directors is evaluating strategic alternatives. The special committee, which is
comprised of our three independent directors, has retained Bear, Stearns & Co.
Inc. to advise it in evaluating strategic alternatives, including a special
dividend, share repurchase, strategic merger or sale of the Company.
We are uncertain as to what strategic alternatives may be available to us or
what impact any particular strategic alternative will have on our stock price if
accomplished. Uncertainties and risks relating to our exploration of strategic
alternatives include:
o the exploration of strategic alternatives may disrupt operations and
distract management, which could have a material adverse effect on our
operating results;
o the process of exploring strategic alternatives may be more time
consuming and expensive than we currently anticipate;
o we may not be able to successfully achieve the benefits of the strategic
alternative recommended to us by our financial advisor and our board;
and
o perceived uncertainties as to the future direction of the Company may
result in the loss of employees or business partners.
ITEM 2. PROPERTIES
In August 2003, we relocated our corporate headquarters, manufacturing,
research and development and sales operations to a building in Woodland Hills,
California with approximately 149,000 square feet. We acquired the building in
June 2001 for $18,750,000. The purchase price was paid from our existing cash
on-hand. We are occupying an aggregate of approximately 89,000 square feet and
are currently leasing an aggregate of 59,550 square feet of this building to two
unrelated parties. In addition, we own an approximately 65,000 square foot
building in Chatsworth, California which, prior to September 2003, housed our
corporate headquarters, manufacturing, research and development and sales
28
operations. This building is currently not occupied. We purchased the property
in July 1999 with the proceeds of a $3.3 million term loan that matures in July
2006. The term loan bears interest on amounts outstanding at a per annum rate
equal to LIBOR plus 1.80% and is secured by all of our assets. In November 2002,
we leased a 21,660 square foot building in Broomfield, Colorado, which serves as
a research and design facility. This lease expires in October 2005 and the base
rent is approximately $21,700 per month. In December 2003, we leased a 6,800
square foot building in Elkton, Maryland, which will also serve as a research
and design facility. This lease expires in November 2006 and the base rent is
approximately $5,700 per month In addition, we lease small sales facilities in
Nashua, New Hampshire, Richardson, Texas, Santa Clara, California, Ottawa
Canada, and Bury St. Edmunds, England. Our leases for the facilities in Ottawa,
Canada and Santa Clara, California are on a month-to-month basis. Our leases for
the fac